NBFC & Notified Entities

Regulations 2007

Tahmeen Ahmad (ACA)

 Transitions History
In November, 2002 The NBFIs were divided into:

CATEGORY REGULATOR FRAMEWORK

NBFCs SECP NBFC Rules 2003

Modarbas SECP Modarba Companies

Ordinance 1980 & rules

DFIs SBP PRs

April 2003 NBFC 2003 rules notified

 2004 PRs for NBFCs notified
 Nov 2007 NBFC and NE Regulations, 2007 notified
The Scope of the Framework

NBFC & Operations of NBFC & N.E

NE Regulations,
2007

NBFC
Rules,
2003 Establishment of NBFC
Transition from 2003 Framework

NBFC & NE Prudential Regulations

NBFC Rules 2003 Regulations, for NBFCs
2007 issued by SECP

Regulates Regulates Now

Establishment of NBFCs operations superseded
 What are NBFCs?

Under
section
282 A (a)

Same
license

Investment
Investment Housing Asset Discounting
Leasing Finance Management Services
Advisory VCI
Finance Services
New!

And Notified Entities?

“A Company or class of companies or

corporate body or trust or person as notified
by the Federal Government”
These entities are engaged in business not
covered by 282 A (a)
The Finance Act 2007
 Introduced the Notified Entities

 SEC Powers enhanced:

 to make regulations under 282 B (2)
 to impose penalty upto Rs 50 million for violation
of Section VIIIA of the Ordinance
 For Rehabilitation of NBFCs and NE
 A BRIEF LOOK
AT THE AMMENDMENTS
IN
THE 2003 NBFC RULES
Summary of changes
 The operating requirements (rules 12 to 86) moved to
regulations
 Terminology
 Scope of work of investment advisor changed
 Fit and proper criteria introduced
 External and internal audit and compliance requirements
strengthened
 Restrictions on certain investments and transactions
imposed
 Bar on acquiring controlling interest withdrawn
Terms excluded
 The following terms have been excluded
from the rules and the regulations:

 Administrator
 Liquid Net worth
 Net capital
 Risk Assets
 Small Entrepreneurs
Terms Defined
 Thefollowing terms are now defined in the
2003 regulations:

 Brokerage business
 Discounting services
 Major shareholder
 Promoter / sponsor
 Regulations
 Expanded Terms
 Asset management services extended to collective investment
schemes
 Connected persons include:
 The managing NBFC to the Collective investment scheme
 The trustee/custodian to the collective inv scheme
 Custodian now includes
 Trust Co that is subsidiary of Banking Co
 NBFC engaged in IFS & approved by SEC
 Other Co. approved by SEC
Expanded Terms contd.
 Equity now includes
 subordinated loans
 Redeemable preference shares
 Less: accumulated losses

 Leasing definition expanded from IAS

definition to include any mode admissible by
SEC
Revised Terms
 Housing finance Services restricted to
 Loans (as compared to financial services previously)
 Residential (as compared to residential and
commercial previously)

 Investment Advisor services changed from

management of closed-end funds to
discretionary and non discretionary client
accounts for indiv &institutional investors
 Investment company is a notified entity
Important amendments
RULE TITLE AMMENDMENT
3 Eligibility It now refers to the Fit and Proper Criteria
criteria
5 Condition to Licensing of AMS / IA/ both – no other business
form NBFC IFC/HFC/LC/DH cant obtain any other license
IA cannot manage closed-end funds

Conditions of:
Minimum tiers of capital, 25% capital allotted to
promoters, Promoters / directors to hold shares
in blocked CDC a/c,
 Important amendments contd.
RULE TITLE AMMENDMENT

6 Commencement of License cancelled if no

Operations operations within 1 year of
issue
7 Conditions applicable to Of Management:
NBFCs CFO experience requirement
now 3yrs
1/3 directors to be independent
2 directors (ex-CEO) with Sr.
Management experience
CEO / directors/executives to
meet fit and proper criteria
 Important amendments contd.
RULE TITLE AMMENDMENT

7 Conditions Of Compliance officers:

applicable to Auditor to be appointed from approved list
NBFCs Internal auditor
Compliance officer
Of investments:
Investment in unquoted securities limited to 20% of
NBFC equity
Invest. in subsidiary allowed from excess equity
Of Records & accounts:
Minutes of credit, investment & audit committee
Annual a/c filing period for all NBFCs 3 months
 Important amendments contd.
RULE TITLE AMMENDMENT
7 Conditions Of Transactions
applicable to One broker < 10% of total annual brokerage exp
NBFCs
Restriction on transactions, except as notified
by SEC:
Real estate on its own account
Unsecured facilities
Raise funds from individuals
Restricted the encumbrance of client securities
for own benefit
Transactions with directors, employees can be
allowed by BoD policy (director transactions
would need prior approval of SEC)
Important amendments contd.
RULE TITLE AMMENDMENT
7A Monitoring Fee An NBFC engaged in deposit taking shall,
Payable annually to SEC within 3 months of yr
end

8 Opening/ closing Previously only dealt with opening of branches

of bank a/c, Approval of BoD required with notice to SEC
broker a/c or
branch

9 Insurance cover SEC power of specifying nature/limit withdrawn

11 Bar on acquiring Withdrawn

controlling interest

12-86 Operating rules Moved with amendments to 2007 regulations

Non-Banking Finance Companies
and Notified Entities Regulations,
2007
 The Scheme of Regulations

MAIN SECTIONS ABOUT

Part I All forms of business

Part II NBFCs engaged in Leasing, Investment Finance

Services, Housing Finance Services
Part III (i) NBFC in Venture Capital Investment &
(ii) Venture Capital Funds
Part IV (i) NBFC engaged in Asset Management
Services /Investment Advisory Services,
(ii) Collective Investment Schemes managed
by such NBFC and
(iii) Investment Companies
Minimum Equity Requirement (All
NBFCs)

-All amounts in Millions of Rupees-

Form Of Min Time line

Business Equity From June 30, June 30, June 30, ‘10
’08 ‘09

IFS 1,000 300 500 700 1,000

Leasing 700 200 350 500 700

AMS 200 30 100 150 200

IAS 50 30 35 40 50

HFS 700 100 300 500 700

VCI - 50 - - -
Aggregate & Contingent
Liabilities (All NBFCs)
10
9
8
7
6
5 AL
4 CL
3
2
1
0
YR 1 YR 2 YR 3 YR 4 YR ~

•Where the X column represents No. of years of operation, &

•Y column represents the number of times of equity of the NBFC
•Aggregate liabilities exclude contingent liabilities and security deposits
New

Other Provisions (All NBFCs)

 Internal audit department mandatory.
 Reporting to BoD
 Compliance with NBFC rules/regulations/company policy
 Periodic returns as specified by SEC
 Compliance with code of conduct of Association
 Steps to be taken to comply with Money laundering regulations
including:
 Account Opening forms in name of each new a/c holder
 KYC, verify identities
 Avoid illegal money transactions
 Monitor customer status, account movement
 Cash payment / receipt for one transaction <Rs 50,000
 Appointment/ change in directors / CEO to be approved by SEC –
Complete application to be received 14 days before change
– Any deficiency to be completed within 14 days of intimation
 NBFCs engaged in Leasing,
Investment Finance Services &
Housing Finance Services
New

Minimum investment by NBFC

having multiple licenses

Leasing
IFS
HFS
Other

•Investment of assets in Leasing /IFS/ HFS business should be at least 20%

•Exclude Cash& bank, unquoted shares, *(govt. securities, listed investment
that a PF can make)
Raising funds
1. Certificate of Deposits (CoIs excluded)
 NBFC Criteria
 2 years of profitable operations
 NBFC/directors lawful conduct
 Annual credit rating exceeds minimum Inv. Grade
 Disclosure statement to accompany application for permission
 Credit rating to be published in all ads
 No CoD if credit rating falls below criterion
 Issuance conditions:
 CoD in specific name
 Maturity >30 days
 Rate fixed /floating
 Deposits from individuals < 3Xequity of NBFC
 >15% of funds raised from CoD to be invested in *
 Return for different CoDs can be different eg. based on maturities
2. Commercial paper, foreign debentures, redeemable capital, Lines of Credit,
rediscounting
New

Exposure Limits
100%
90%
80%
70%
60%
Clean
50%
Funded
40%
Total
30%
20%
10%
0%
Single Group Aggregate

•Column Y represents the maximum limit of exposure as % of NBFC equity

•Exposure excludes liquid collateral subject to margins

•No exposure against NBFCs’/borrowers’ own shares, unsecured credit for
financing share floatation, director personal guarantee
•No exposure to directors without approval of majority of NBFC directors
New

Conditions for Grant of Facilities

 CIB report Exposure> Rs 1,000,000
 F/s Exposure >Rs 1,000,000
 Loan application form & basic fact sheet

 Margins applicable to all securities

 Borrower’s:
 total exposure< 10 X equity of borrower
 Current ratio 1:1 (may be relaxed to 0.75:1)
New Provisioning
 Time based Classification into:
 Substandard(90 days),
 doubtful(180 days); and
 Loss (1 yr, TBs 180 days, Credit Card 180 days)
 Provisioning @ 25%, 50% & 100%
 No provisioning for Govt. guaranteed exposure
 Additional subjective evaluation
 Declassification of rescheduled loans
 FSV ( other than realizable assets)
 In case of leasing & IFS:
 Discounted for yr 1, 2 & thereafter as 80%, 70% & 50%
 Revaluation every 3 years by independent valuer
 In case of HFS
 Discounting @ 70%
 Revaluation every 10 years by independent valuer
 Types of charges
 Quarterly credit review by NBFCs, annual by Auditors
 Reversal of provision Cash receipt> 20%, 50%, 100% of NPL)
 Quarterly list of delinquent / rescheduled accounts to SEC
(I) Leasing
 An NBFC engaged in Leasing shall meet the following conditions:

Assets invested > 70% of total assets

Investment in Shares < 50% equity of NBFC

Investment in shares
Of one company < 10% equity of NBFC/Co

Lease period > 3 years

 May not engage in land / residential building leases

(II) Investment Finance Services
Scope of work and Inv. Limits
 Scope of work includes:
 Money market activities,
 Capital market activities (including managing client portfolios)
 Project financing activities; &
 Corporate finance services
 General activities
 Investment limits %age of NBFC equity
Shares < 100
Shares of1 company < 10
Equity futures < 100
Single future < 10
Reverse Repo & CFS < 250
Single CFS security < 25 (i.e. 10% of above)
 Margin Loans
Total < 50
To 1 client < 10
(Margin shall be at least 30% of loan)
Margin loans approved according to pre-defined BoD policy
 Underwriting commitments fully backed
Managing Client Portfolios
 Bothdiscretionary and non-discretionary
 Conditions include:
 Must inform SEC
 Eligible investors only
 Separate management and disclosure
 Compliance with SEC regulations
 (III) Housing Finance Services
 Additional functions w.r.t property:
 Mortgage finance to purchase/construct/alter property
 Surveys and valuation
 Arrange insurance
 Manage mortgage investments
Investment in: Limit
HFS > 70% total assets
Shares < 50% NBFC equity
Shares of 1 co < 10% -do-
Financing:
One party < Rs 20 million
Total Monthly Installments
–Consumer loan < 60% NDI
DE ratio < 85:15
Period of Mortgage loan < 20 years
 Appoint Lawyer, valuer
 Review market every quarter
(IV) Venture Capital Investment
& VCF
Venture Capital Company
 Exposure by NBFC to one person/group of Cos. <
40% of equity
 Raise funds by: shares issue and private placement
for VP
Venture Capital Fund
 VCF conditions:
 A Company, engaged solely in VPs with equity of Rs 50 m &
managed by VCC
 Exposure to one person/grp of Cos. < 40% of equity
 Exposure to director < 10% of total exposure
 Each investor to invest at least Rs 1,000,000
 Registration can be suspended by SEC for 60 days. Can
lead to cancellation
(v) Asset Management
Services
Asset Management services-
Structure

AMC

Investment
Fund manager
Committee
trustee
trustee trustee Sharia

CIS CIS CIS If Islamic

Asset Management services-
Terms and conditions
 Designation of qualified fund manager to manage upto 3
CIS
 At least 1 investment Committee, formed by BoD
 Comprise fund manager, Chief Investment Officer other Key
Personnel of AMC
 Reportable to CEO
 Quorum for investment decisions is 2/3
 Ensure compliance with constitutive documents/policies
 AMC to fulfill SEC conditions for managing multiple CIS
 Shari’a appointed for Islamic CIS
Trustee of a Scheme
 Appointed with SEC approval for each open and closed end
scheme
 Trustee to be a
 Scheduled bank
 Trust company
 Foreign bank
 CDC
 NBFC engaged in IFS
 Other SEC approved trustee
 Obliged to take custody of, manage, a/c for loss of property of
scheme
 Issue trustee report to form part of annual report
 Ensure AMC/ IA has arranged for a diverse panel of brokers
 Ensure units of open end scheme \issued after sub money received
 Review adequacy of AMC/IA unit value calculation
 May retire or be removed by the NBFC
 Will be independent of the AMC
Asset Management Companies-
Restrictions & obligations
 Restrictions:
 Acquiring control of an investee through CIS
 Transaction with 1 broker>10% annual brokerage exp
 Accepting deposits from CIS
 Loans from CIS assets
 Undertake brokerage services
 Enter underwriting contracts, invest in CIS except as
allowed
Compliance required within 12 months of notification of Regulations
 Obliged to manage assets in good faith and a/c to trustee for
losses, maintain records, prepare a/cs, appoint auditor
 Annual report within 3 months of yr end, including No. of unit
holders and details of personnel of AMC
 Quarterly reports in 1, 2 and 1 month of qtr end
 Rating of scheme done annually.
Open & Closed End Schemes
 Registration as a notified entity
 Application to be accompanied also by undertaking of AMC
guaranteeing investment
 3 months notice for winding up by AMC / Cancellation by SEC
 Ads to be approved by SEC & circulated within 60 days of
approval
 Offering document / prospectus to include investment policy,
type of securities it will invest in and the risk associated.
 Closed end schemes: securities offered at par if investment is
arranged by IA and the offer is underwritten
 Open end schemes:
 Investment made after conclusion of issue of units
 4 regular dealings per week
 Offer price and redemption price
 Redemption to be completed in 6 working days
Exposure Limits for CIS
Limit
By CIS to1 person < 10% Net Assets of scheme/ 10% of issued capital
of person

By all CIS to 1 person < 49% of issued capital of the person

By CIS in 1 sector < 25% of net asset value of scheme

By CIS in one group < 35% of net assets of CIS

By CIS in listed group

Cos. Of AMC < 10% of net assets of CIS

Invested by equity based

CIS in non listed securities < 0% (Pre-IPO 15%)
 Open & Closed End Schemes
(contd)
 Limitations on AMC of scheme include short selling, forward purchase contracts, real
estate dealing, delisting without SEC approval, lend/ borrow.
 No transactions by AMC of scheme with connected persons
 Direct transactions b/w CIS of 1AMC notified to SEC in 2 days
 IA(AMC) to bear all inc. exp. Of closed (open) end scheme
 NAV notified to SE,SEC& self regulatory association 14 days of month end
 Discretionary and non discretionary a/cs:

DESCRIPTION BY TO AMOUNT
AMC CIS AMC 5yrs: 3% of Avg. annual
remuneration net assets of CIS
Afterwards, 2%

Annual fee AMC SEC 0.1% of AANA

Dividend AMC Shareholders of 90% income

CIS
(VI) Investment Companies &
IAs
External auditor- Investment company
SEC panel (closed end fund)

Investment Advisor Custodian

Discretionary Client Non discretionary

Portfolio portfolio
Investment Companies
 Registered as a Notified Entity
 A public co with Rs 250m equity & directors of integrity
 Application for registration can be cancelled if operations don’t start
in 6 months
 Investment Advisor
 Appointed with SEC approval, for a period of upto 10 years
 Change of IA requires prior approval of SEC
 Custodian:
 Appointed with SEC approval
 scheme of custody of assets settled with IC
 Custodian not to be AMC or IA
 Custodian to be independent of IC and IA
 IC to report annually and qtrly to shareholders and SEC.
 The P&L of the IC will include that of the IA
 Auditor
 Appointed from the SEC approved list
 Auditor rotation after 5 years
 Auditor of IC different from auditor or custodian or IA
Open & Closed End Schemes-
(contd.)
 Discretionary and non discretionary a/cs:
 Notice to SEC
 Due diligence
 Separate management & disclosure
 Conversion of closed end fund to open end scheme:
 By Special resolution of certificate holders
 5 years after fund launch
 Cert. holders not in favor can sell @ discount<3% of NAV
 Approval of SEC