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Non-Banking Finance Company

1.1 OBJECTIVE
A NBFC cannot accept demand deposits (demand deposits are funds deposited at a depository institution that are payable on demand -- immediately or within a very short period -- like your current or savings accounts.) It is not apart of the payment and settlement system and as such cannot issues cheques to its customers; and Deposit insurance facility of DICGC is not available for NBFC depositors unlike in case of banks.

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Non-Banking Finance Company

1.2 METHODOLOGY
For the present study data are collected from various issues of RBI Bulletin11 regarding Financial and Investment companies. As mentioned above, the period covered in the study is ten year from 1985-86 to 199495. The categories of NBFCs as per published data are: a) Trading in shares and investment holdings (TS+IH), b) Hire purchase finance (HP), c) loan finance (LF) and d) leasing (L). For the purpose of analysis, for various ratios mentioned below. The selected ratios are divided in to three broad group: viz. profitability ratios, leverage ratios and liquidity ratios. The ratios under study are: Profitability Ratios: i) Total income/Total assets; ii) GP+Dep/Total income; iii) GP/Total income; iv) PBT/Total income; v) PAT/Net worth; vi) PAT/Total Assets; vii) Divided/PAT; viii) Tax/PBT; ix) Retained Profit/PAT; x) Interest coverage Leverage Ratios: xi) Borrowing/Total assets; xii) Bank Borrowing/Total assets; xiii) Net worth/Total assets; xiv) Bank borrowing/borrowings; xv) Debt/Total assets; xvi) Debt/Net worth; xvi) Debt equity; xvii) Loan to current assets Liquidity Ratios: xviii) Current ratio

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Non-Banking Finance Company

1.3 FEATURES
The special funding scheme, under which the stressed assets stabilisation fund (SASF) of IDBI Bank has been appointed by the Centre to function as a special purpose vehicle (SPV) to provide liquidity support to non-banking finance companies (NBFCs), has evoked a lukewarm response. The SPV, which has total funding support of Rs 20,000 crore so far, has been able to settle only one NBFC case. The key reason for the lukewarm response has been that the loans being offered by the SPV are only in the form of commercial papers (CPs) and certificate of deposits (CDs) at an interest rate of 12.5% and are in the form of short-term loans. The Union finance secretary, Arun Ramanathan, who was supposed to hold a meeting of the heads of a few leading public sector banks on March 17 on the issue of restructuring of loans to NBFCs, had postponed the meeting the fresh date for the same is yet to be declared.

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Non-Banking Finance Company

2.1 INTRODUCTION
Indian financial system has strong groups of financial institution which are different in nature from banks. These institutions are called as Non Bank Finance Companies. They provide a wide range of fund based and non-fund based assistance to the business units. These institutions provide foreign currency loans, direct subscription to and underwriting of industrial securities, guaranteeing loans and deferred payments, refinancing and rediscounting, lease finance, advisory, consultancy, merchant banking and venture capital service. Investment and finance companies comprising trust, loan and finance companies, Nidhis and other finance companies specialize in giving loans for consumption, business and other commercial purpose. Nidhis and mutual Benefit Companies are the oldest form of NBFCs and they are operating particularly in South India. They advance secured consumption loans to their members. There has been tremendous growth of NBFCs in India, in the number of companies, their total assets, deposits and loans. The Non Bank statutory financial organizations have also been increased during last 30 years. The Reserve Bank of India has been controlling all these NBFCs. The RBI Act, has been amended in 1997 in order to give more powers to Reserve Bank in controlling and supervising these Non-Bank Finance Companies.

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Non-Banking Finance Company

2.2 OVERVIEW OF NBFC SECTOR


Non-banking financial companies (NBFCs) have seen considerable business model shift over last decade because of regulatory environment and market dynamics. In the early 2000s, the NBFC sector in India was facing following problems: 1. High cost of funds 2. Slow industrial growth 3. Stiff competition with NBFCs as well as with banking sector 4. Small balance sheet size resulting in high cost of fund and low asset profile 5. Non performing assets Majority of NBFCs were not able to face the pressure created on and were wiped out. However, since FY2001-2002, there has been significant improvement in the business model of existing NBFCs with improvement in overall business environment. NBFCs have been able to expand their resource profile by diversifying the funding avenues. Further a strict control on asset quality and overheads, coupled with use of innovative borrowing tools such as securitization has resulted in improved profitability of NBFCs.

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Non-Banking Finance Company

2.3 NON BANK FINANCE COMPANIES


A non bank finance company can be defined as an institution, which mobilizes the savings of the community and diverts them for financing different actives. Investment companies, Investment Trust, Nidhis, hire purchase and Leasing Companies, and Housing Finance Companies specialize in given loans for consumption, commerce and trading purposes. They have close local links and they constitute small-scale decentralized sector of the financial system in India. In order to identify a non-banking finance company, reserve Bank considers both the assets and the income pattern of the company as evidenced from the last audited balance sheet. A company is treated as NBFC, if its financial assets are more than 50% of its total assets and income from financial assets should be more than 50% of the gross income.

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Non-Banking Finance Company

2.4 REGISTRATION WITH RBI

With the Amendment of the RBI Act, 1934 in January, 1997, (Section 45 IA) all Non-Bank Finance companies have to be mandatorily registered with the Reserve Bank of India. A NBFC requires compulsory registration with Reserve Bank to commence or carry on any financial business. Auditors of all NBFCs are required to report directly to Reserve Bank for non-compliance by any company of these statutory provisions. The Reserve Bank has also powers to reject the Registration or cancellation of the Registration of NBFCs. During the period 1991 and 1997 many finance companies were registered and raised capital from the market. stock exchanges However, most of these companies have been disappeared today. Some of these companies were also listed on the

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Non-Banking Finance Company

2.5 CATEGORIES OF NBFCs

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Non-Banking Finance Company

(a) (b) (c) (d)

Hire-Purchase Finance Companies. Investment Companies. Chit Fund Companies. Nidhis or Mutual Benefit finance Companies. HIRE-PURCHASE FINANCE COMPANIES:

In case of hire-purchase transaction, the goods are delivered by the owner to another person on the agreement that such person pays the agreed amount in periodical instalments. The property or the goods passes to such person only on payment of the last instalment. Thus, in a hire-purchase transaction, theoretically, the seller continues to retain the title of the asste. The seller has a right to take back the possession of goods in case the buyer fails to make payment of all instalments. Hire-purchase finance is needed by transport operators, farmers, and professionals. The hire-purchase companies who are, NBFCs, charge a flat rate which is calculated on the entire amount of advance and not on the diminishing balance basis. The real rate of interest is far in excess of the flat rate indicated. A Hire-purchase Act was passed in 1972, to control and regulated the hire-purchase finance. Hire-purchase finance is provided by NBFCs commercial banks and State Finance corporations, an organized sector and firms and individuals in an unorganized sector.

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Non-Banking Finance Company

INVESTMENT COMPANIES: Investment companies are the institutions, who pool the savings of

the people by the issue of share and debentures and resort to other forms of borrowing in order to make investments of these resources in the wide range of industrial securities. The purpose is to provide the investors the combined efforts of low risk steady return and capital appreciation through diversification and expert management. determining the worth of investment. investment portfolios. These companies provide the best opportunities also employ expert investment analysts for Professional knowledge and expertise are also used in the selection and supervision of their These companies usually finance long-term business requirements, by way of direct subscription of the share capital of the share capital of industrial enterprises. There are two types of investment companies: (a) (b) (a) Management Investment companies, and Unit Trust. Management Investment Companies: Management

investment companies are Discretionary Trust who enjoy wide discretionary powers on the choice of the composition of their investment portfolio. The management companies are also divided into two groups such as Closed-ended companies and Open-ended companies. Close ended investment companies are those who have fixed capital and they are not committed to a continuous offering of new issues. Shareholders of these companies do not have the right to redeem their securities. However, the securities of such companies can be issued by operating companies. Open-ended investment companies are those who
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Non-Banking Finance Company

continuously and regularly offer share and securities to the public. There is no limit to their capital. (b) Unit Trusts: Unit Trust is an investment company which is

designed to pool the savings of small investors by selling their units and employ the saving in corporate securities as well as other securities in order to earn safe and fair returns on such investments. The purpose of these companies is to enable the small investors to have an interest in a large spread of investments coupled with experienced selection and supervision with safety and security. There are two categories of Unit Trusts Fixed and Flexible. The Trusts whose investment portfolio remains fixed are called fixed Unit Trusts. The management of the trust does not have any power to substitute securities from time to time. The securities selected remains in the portfolio for a long time. Therefore, these trusts permit their management to change the portfolio as well as securities in the portfolio to suit the changing conditions. The constitution of the Trust Fund is flexible and changes due to addition or sale of units from time to time CHIT-FUND COMPANIES: Chit fun companies are the oldest form of Non-banking Finance companies having their origin in South India. The word chit means a written note on a small piece of paper. These companies collect small amount to the members for their business or personal requirements. They were voluntary organizations and unregistered with the government. But nowadays chit funds are also requires to be registered as per law, so that

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Non-Banking Finance Company

the members get the legal protection. Chit funds are broadly classified into three categories: (A) Simple Chit: Under this category all the members pay equal The priority list may be

amount of funds regularly, or monthly, and this fund is given to one member without deduction. chit. (B) Prize Chit: this is like a lottery. The amount is collected from all the members regularly or monthly and a random number is selected by lottery to whom the funds are advanced. Thus, the lucky person will get the amount early and the last person will get the amount later. Thus, the last person/members are not benefited much. (C) Business Chit : Under this method al the members collect a fixed amount per month to the common fund. The number of members in a group and the number of draws are equal. The draws are held regularly. At the time of draw the total collection of the month are distributed by drawn lost or conduction of an auction. If auction is made the bidder will get amount after deducting the bid amount. forward to the next draw. This was a good method of finance. These companies were run by wellknown personalities. People were having faith and confidence in them. Though it was not legal, the business was carried out smoothly. However, there are many complaints about such chit funds, many people have made money and they have disappeared from the markets. The
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determined in advance or the numbers can be drawn by lost or

The amount thus left, may be

distributed equally among the remaining members or carried

Non-Banking Finance Company

central Bureau of Investigation has reported that, the funds colleted by chit of investigation has reported that, the funds colleted by chit funds were misused or diverted to illegal activities. The CBI also suggested that there should be uniform legislation throughout the country. NIDHIS OR MUTUAL BENEFIT FINANCE COMPANIES:

Nidhis or Mutual Benefit finance companies are the oldest form of non-bank finance companies. The objective of Nidhi companies is to enable the members to save money, invest their savings and secure loans at reasonable rate of interest. This was encouraging people to save more and more. It was more popular among middle and lower class of people. There was principle of mutual benefit. That means the members collect nidhi and this amount can be borrowed by the members at a reasonable rate of interest as and when required. Therefore, Section 620A, of the Companies Act grants certain concessions to these companies.

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Non-Banking Finance Company

2.6 NON BANK STATUTORY FINANCIAL ORGANISATIONS


Indian financial system has a strong group of financial institutions which are different in nature from banks. They are classified as banks but the names of some of them include the term bank. They are not financial intermediaries because they do not mobilize saving from the ultimate surplus units. They obtain their resources, primarily from the government, and RBI. Some of these institutions also mobilize public savings directly or indirectly. They have been set up by the government, under a statute. Some of them have also private participation in the ownership. They are usually specialized institutions. They are also known as Development financial Institutions. They are also known as Development financial Institutions. They provide a wide range of fund of fund based and non-fund based assistance to the business units. Some of them are specialized in foreign currency loans, direct subscription to and other underwriting of industrial securities, guaranteeing loans and deferred payments, refinancing and rediscounting, lease finance, advisory, venture capital, merchant banking and consultancy, etc. The following are some of the Non-Bank statutory financial Organisations: (1) (2) (3) (4) (5) (6) (7) Industrial finance Corporation of India. National Industrial Development Corporation. Industrial Credit and Investment Corporation of India. Industrial Development Bank of India. Export-Import Bank of India. Industrial Reconstruction Bank of India. Shipping Credit and Investment Corporation of India.
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(8) (9)

Infra-structure Leasing and financial Service Ltd. National Bank for Agricultural and rural Development.

(10) Agricultural Finance Consultants Ltd. (11) State Financial corporations. (12) Small Industries Development Bank of India. (13) Credit Rating Information Service of India Ltd. (14) Indian Railway Finance Corporation. (15) Tourism Finance Corporation of India.

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2.7 BANK LEADING TO NBFCs


Reserve bank of India has withdrawn the ceiling on bank credit linked to net owned fund of NBFCs that are statutorily registered with RBI and are engaged in principal business of equipment leasing, hirepurchase, loan and investment activities. Non-banking finance Companies not requiring registration with RBI i.e. Insurance Companies, Nidhi Companies, Chit Fund, Stock-broking, Merchant Banking and Housing Finance Companies may take their credit decisions on the basis of usual factors like the purpose of credit, nature of borrowers and risk perception. Net owned fund means the aggregate of the paid up equity capital and free reserve as disclosed in the latest balance sheet of the company after deducting there from the accumulated balance of loss and other intangible assets and investment of such company in share of its subsidiaries. Banks may provide need-based finance to NBFCs within the prudential norms and exposure norms prescribed by the Reserve Bank Of India subject to the condition that the actives prohibited by RBI are not financed by them. The instructions or guidelines issued by the RBI in the past regarding assessment of working capital credit needs of equipment leasing and hire purchase finance companies based on the concept of maximum permissible bank finance have ceased to be mandatory. Banks should not grant bridge loans of any nature or interim finance against capital/debenture issues and/or in the form of loans of bridging nature pending raising of long-term funds from the markets by way of capital, deposits etc. to all categories of NBFCs including equipment leasing, hire-purchase, loan and investment companies and also Residuary NonBanking Companies.
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All the banks should follow the instructions and ensure that these are not violated in any manner whatsoever by any intention of credit under a different forms like unsecured negotiable notes, floating rate interest bonds and short-term loans, the repayment of which is proposed to be made out of funds to be mobilized from other sources and not out of the surplus generated by the use of the assets. Banks are also not allowed to enter into lease agreements departmentally with equipment leasing companies and other NBFCs engaged in equipment leasing. As banks can only support leas rental receivables arising out of lease of equipment or machinery owned by the borrowers, lease rentals receivables arising out of sub-lease of an asset by a Non-Banking NonFinancial Company should be excluded for the purpose of computation of bank finance for such company.

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Non-Banking Finance Company

2.8 PRINCIPLE OF RBI


The Reserve Bank of India (RBI) has decided in principle to bring under its regulatory ambit holding companies floated by business groups and companies that also own non-banking finance companies (NBFC). Sources close to the development said the move was prompted by the fact that NBFCs had frequently complained of an acute shortage of funds and some had received liquidity support from the gove But the central banks own inspection and tax reports from the income tax department and registrar of companies have shown that many of these NBFCs have transferred surplus funds earned in good times to their holding companies, which are currently regulated under the Companies Act, in the form of loans or dividends. This mechanism, thus, acts as a tax haven for the income of the entire business group. Dividend is taxed as dividend distribution tax at 15 per cent in the hands of the company offering the dividend. If the same company retains the amount as profit, it will have to pay tax at 30 per cent. The tax department has also raised this issue in several court cases. Once the excess income is transferred as dividend to the holding business entities, the NBFC balance sheet becomes eligible for liquidity support from the government or financial institutions. The RBI thinks such practices not only pose a systemic risk, they are also a clear example of funds being siphoned off. Thus, even if the holding companies are not linked directly to the financial system, they pose a risk to it.

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The RBI has also laid down criteria for these companies to qualify for central bank regulation. Such a company on its own should be of systemic importance if it fails or should belong to a group posing a systemic risk. Systemic risk is caused when a failure of a financial entity not only affects its own existence, but also that of the entire financial system. These companies are also classified as purely investment companies, with 90 per cent of their investments in shares of its own NBFC and other NBFCs and should derive more than 50 per cent of income as dividend from investments.

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Non-Banking Finance Company

2.9 RBI ISSUES RULES FOR NBFCS


The Reserve Bank of India has issued 'know your customer' guidelines for non-banking financial companies, which are similar to those for commercial banks. The board of directors of NBFCs have been advised to formulate policies and procedures to operationalise and ensure the observance of these guidelines, which come into immediate effect, in respect of all new customers, the bank said. NBFCs have also been asked to complete the identification process in respect of the existing customers by June 30, 2004. These guidelines, the RBI said, would be applicable to all NBFCs, including Miscellaneous Non-Banking Companies (chit fund companies) and Residuary Non-Banking Companies. The RBI said that the guidelines have been reviewed in the context of the provisions of the Prevention of Money Laundering Act, 2002 and the need to put in place systems and procedures to help control financial frauds, identify money laundering and suspicious activities. These guidelines aim at safeguarding NBFCs from being unwittingly used for transfer or deposit of funds derived from criminal activity or for financing of terrorism. The guidelines are also applicable to deposits accepted from NRIs.

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Non-Banking Finance Company

GUIDELINES FOR NEW DEPOSITS

Customer identification: 'Know Your Customer' (KYC) should be the key guiding principle for identification of an individual / corporate customer (depositor or borrower). Accordingly, the KYC framework should have two-fold objective, (i) to ensure customer identification and verifying his identity and residential address; and (ii) to monitor transactions of a suspicious nature. NBFCs should ensure that the identity of the customer, including beneficial owner is done based on disclosures by customers themselves. Typically easy means of establishing identity would be documents such as Permanent Account Number (PAN), ration card, driving licence, Election Commission's identity card, passport, et cetera in case of individuals and registration certificate, partnership deed/agreement, et cetera and other reliable documents in respect of companies, firms and other bodies. Verification through such documents should be in addition to the introduction by a person known to the NBFC.

PROCEDURES FOR EXISTING CUSTOMERS

In respect of existing customers, NBFCs should ensure that gaps and missing information in compliance of KYC guidelines on customer identification procedure is filled up and completed before June 30, 2004.

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CEILING AND MONITORING OF CASH TRANSACTIONS

NBFCs would normally not have large cash withdrawals and deposits. However, wherever transactions of Rs 10 lakh (Rs 1 million) and above are undertaken, they should keep record of these transactions in a separate register maintained at branch, as well as at Registered Office. Such information should be made available to regulatory and investigating authorities, when demanded.

GUIDELINES AND MONITORING PROCEDURES

The board of directors of NBFCs should formulate policies and procedures to operationalise the guidelines and put in place an effective monitoring system to ensure compliance by their branches. Early computerisation of branch/office reporting will facilitate prompt generation of such reports and monitoring.

INTERNAL CONTROL SYSTEMS

Duties and responsibilities should be explicitly allocated among the staff for ensuring that policies and procedures are managed effectively and that there is full commitment and compliance to an effective KYC programme in respect of both existing and prospective customers/clients.

INTERNAL AUDIT/INSPECTION

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Internal auditors must specifically scrutinise and comment on the effectiveness of the measures taken by branches / offices of NBFC in adoption of KYC norms and steps towards prevention of money laundering. Specific cases of violation should be immediately brought to the notice of head / controlling / registered office.

RECORD KEEPING

NBFCs should prepare and maintain proper documentation on their customer relationships and cash transactions of Rs 10 lakh and above. The records of all such transactions should be retained for at least ten years after the transaction has taken place and should be available for perusal and scrutiny by audit functionaries as well as regulators and law enforcement authorities; as and when required, at the branch as well as at registered office.

TRAINING OF STAFF AND MANAGEMENT

It is important that all the operating and management staff is made fully aware of the implications and understand the need for strict adherence to KYC norms. NBFCs may take suitable steps to impart training to their operational staff on anti-money laundering measures.

These guidelines have been issued under Sections 45K and 45L of the RBI Act, 1934 and any contravention of the same will attract penalties under the relevant provisions of the Act, the RBI said. Difference between NBFCs & Banks
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NBFCs are doing functions akin to that of banks; however there are a few differences: (i) an NBFC cannot accept demand deposits; (ii) an NBFC is not a part of the payment and settlement system and as such an NBFC cannot issue cheques drawn on itself; and (iii) deposit insurance facility of Deposit Insurance and Credit Guarantee Corporation is not available for NBFC depositors unlike in case of banks. RBI relaxes norms for NBFCs NBFCs (Non Banking Finance Companies)registered with the Reserve Bank of India may take up insurance agency business on fee basis and without risk participation and the need to seek the bank's approval. In a notification issued, the RBI said such NBFCs should obtain permission from the Insurance Regulatory and Development Authority and comply with the IRDA regulations for acting as "composite corporate agent with insurance companies.[7][8] Frauds Future approIncidence of frauds in NBFCs is a matter of concern. While the primary responsibility for preventing frauds lies with NBFCs themselves, a reporting system for frauds is prescribed in the following paragraphs, which may be adopted by NBFCs. It is possible that frauds are, at times, detected in NBFCs long after their perpetration. NBFCs should, therefore, ensure that a reporting system is in place so that frauds are reported without any delay. NBFCs should fix staff accountability in respect of delays in reporting of fraud cases to the Reserve Bank.
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Delay in reporting of frauds and the consequent delay in alerting other NBFCs about the modus operandi and issue of caution advices against unscrupulous borrowers could result in similar frauds being perpetrated elsewhere. NBFCs may, therefore, strictly adhere to the timeframe fixed in this circular for reporting fraud cases to the Reserve Bank failing which NBFCs would be liable for penal action as prescribed under the provisions of Chapter V of the RBI Act, 1934. NBFCs should specifically nominate an official of the rank of General Manager or equivalent who will be responsible for submitting all the returns referred to in this circular. It may be noted that NBFCs are not required to submit Nil reports to Frauds Monitoring Cell/Regional Offices of Department of Non-Banking Supervision. At the same time enough precautions may be taken by deposit-taking NBFCs to ensure that the cases reported by them are duly received by Frauds Monitoring Cell/Regional Offices of Department of Non-Banking Supervision as the case may be. CLASSIFICATION OF FRAUDS In order to have uniformity in reporting, frauds have been classified as under based mainly on the provisions of the Indian Penal Code: (a) Misappropriation and criminal breach of trust. (b) Fraudulent encashment through forged instruments, manipulation of books of account or through fictitious accounts and conversion of property. (c) Unauthorised credit facilities extended for reward or for illegal

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gratification. (d) Negligence and cash shortages. (e) Cheating and forgery. (f) Irregularities in foreign exchange transactions. (g) Any other type of fraud not coming under the specific heads as above. Cases of 'negligence and cash shortages' and irregularities in foreign exchange transactions referred to in item (d) and (f) above are to be reported as fraud if the intention to cheat/defraud is suspected/ proved. Cases of cash shortage up to Rs. 1,000/- reported on the same day by persons handling the cash and where there is no suspicion of fraud, need not be reported as fraud. However, cases of cash shortage involving more than Rs. 1,000/- and those detected by the management/ inspecting officer, irrespective of the amount, may be reported as fraud. NBFCs having overseas branches/offices should report all frauds perpetrated at such branches/offices also to the Reserve Bank as per the format and procedure detailed under Paragraph 3 below. REPORTING OF FRAUDS TO RESERVE BANK OF INDIA Frauds involving Rs. 1 lakh and above Fraud reports should be submitted in all cases of fraud of Rs. 1 lakh and above perpetrated through misrepresentation, breach of trust, manipulation of books of account, fraudulent encashment of FDRs unauthorised handling of securities charged to the NBFC, misfeasance, embezzlement, misappropriation of funds, conversion of property, cheating, shortages, irregularities, etc.
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Fraud reports should also be submitted in cases where central investigating agencies have initiated criminal proceedings suo moto and/or where the Reserve Bank has directed that they be reported as frauds. Wherever information is available, NBFCs may also report frauds perpetrated in their subsidiaries and affiliates/joint ventures. Such frauds should, however, not be included in the report on outstanding frauds and the quarterly progress reports referred to in paragraph 4 below. The fraud reports in the prescribed format should be sent to the Central Office (CO) of the Reserve Bank of India, Department of Banking Supervision, Frauds Monitoring Cell where the amount involved in fraud is Rs 25 lakhs and above and to Regional Office of the Reserve Bank of India, Department of Non-Banking Supervision under whose jurisdiction the Registered Office of the NBFC falls where the fraud amount involved in fraud is less than Rs 25 lakh , in the format given in FMR 1, within three weeks from the date of detection. A copy of FMR-1 where the amount involved in the Fraud is Rs 25 lakhs and above should also be submitted to the Regional Office of the Department of Non-Banking Supervision of Reserve Bank of India under whose jurisdiction the Registered Office of the NBFC falls. Frauds committed by unscrupulous borrowers It is observed that a large number of frauds are committed by unscrupulous borrowers including companies, partnership firms/proprietary concerns and/or their directors/partners by various methods including the following:

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(i) Fraudulent discount of instruments. (ii) Fraudulent removal of pledged stocks/disposing of hypothecated stocks without the NBFCs knowledge/inflating the value of stocks in the stock statement and drawing excess finance. (iii) Diversion of funds outside the borrowing units, lack of interest or criminal neglect on the part of borrowers, their partners, etc. and also due to managerial failure leading to the unit becoming sick and due to laxity in effective supervision over the operations in borrowal accounts on the part of the NBFC functionaries rendering the advance difficult of recovery. In respect of frauds in borrowal accounts involving an amount of Rs. 5 lakh and above, additional information as prescribed under Part B of FMR 1 may also be furnished. Frauds involving Rs. 25 lakh and above In respect of frauds involving Rs. 25 lakh and above, in addition to the requirements given at paragraphs 3.1 and 3.2 and above, NBFCs may report the fraud by means of a D.O. letter addressed to the Chief General Manager-in-charge of the Department of Banking Supervision, Reserve Bank of India, Frauds Monitoring Cell, Central Office and a copy endorsed to the Chief General Manager-in-charge of the Department of Non-Banking Supervision, Reserve Bank of India, Central Office within a week of such frauds coming to the notice of the NBFC. The letter may contain brief particulars of the fraud such as amount involved, nature of fraud, modus operandi in brief, name of the branch/office, names of parties involved (if they are proprietorship/ partnership concerns or private limited companies, the names of proprietors, partners and
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directors), names of officials involved, and whether the complaint has been lodged with the Police. A copy of the D.O. letter should also be endorsed to the Regional Office of Reserve Bank, Department of NonBanking Supervision under whose jurisdiction the Registered Office of the NBFC is functioning. Cases of attempted fraud Cases of attempted fraud, where the likely loss would have been Rs. 25 lakh or more, had the fraud taken place, should be reported to the Central Office of the Reserve Bank, Department of Banking Supervision, Frauds Monitoring Cell and a copy endorsed to Central Office of the Reserve Bank, Department of Non-Banking Supervision indicating the modus operandi and how the fraud was detected. Such cases should not be included in the other returns to be submitted to the Reserve Bank. QUARTERLY RETURNS Report on Frauds Outstanding NBFCs should submit a copy of the Quarterly Report on Frauds Outstanding in the format given in FMR 2 to the Regional Office of the Reserve Bank of India, Department of Non-Banking Supervision under whose jurisdiction the Registered Office of the NBFC falls irrespective of amount within 15 days of the end of the quarter to which it relates. Part A of the report covers details of frauds outstanding as at the end of the quarter. Parts B and C of the report give category-wise and perpetrator-wise details of frauds reported during the quarter respectively. The total number and amount of fraud cases reported during the quarter

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as shown in Parts B and C should tally with the totals of columns 4 and 5 in Part A of the report. Progress Report on Frauds NBFCs should furnish case-wise quarterly progress reports on frauds involving Rs. 1 lakh and above in the format given in FMR 3 to the Central Office (CO) of the Reserve Bank of India, Department of Banking Supervision, Frauds Monitoring Cell where the amount involved in fraud is Rs 25 lakhs and above and to Regional Office of the Reserve Bank of India, Department of Non-Banking Supervision under whose jurisdiction the Registered Office of the NBFC falls where the fraud amount involved in fraud is less than Rs 25 lakh within 15 days of the end of the quarter to which it relates. In the case of frauds where there are no developments during a quarter, a list of such cases with a brief description including name of branch REPORTS TO THE BOARD NBFCs should ensure that all frauds of Rs. 1 lakh and above are reported to their Boards promptly on their detection. Such reports should, among other things, take note of the failure on the part of the concerned officials, and consider initiation of appropriate action against the officials responsible for the fraud. Quarterly Review of Frauds Information relating to frauds for the quarters ending March, June and September may be placed before the Board of Directors during the month following the quarter to which it pertains.

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These should be accompanied by supplementary material analysing statistical information and details of each fraud so that the Board would have adequate material to contribute effectively in regard to the punitive or preventive aspects of frauds. All the frauds involving an amount of Rs 25 lakh and above should be monitored and reviewed by the Audit Committee of the Board (ACB) or if ACB is not there, other Committee of the Board of NBFCs. The periodicity of the meetings of the Committee may be decided according to the number of cases involved. However, the Committee should meet and review as and when a fraud involving an amount of Rs 25 lakh and above comes to light. Annual Review of Frauds NBFCs should conduct an annual review of the frauds and place a note before the Board of Directors for information. The reviews for the yearended December may be put up to the Board before the end of March the following year. Such reviews need not be sent to RBI. These may be preserved for verification by the Reserve Banks inspecting officers. The main aspects which may be taken into account while making such a review may include the following: (a) Whether the systems in the NBFC are adequate to detect frauds, once they have taken place, within the shortest possible time. (b) Whether frauds are examined from staff angle. (c) Whether deterrent punishment is meted out, wherever warranted, to the persons found responsible.

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(d) Whether frauds have taken place because of laxity in following the systems and procedures and, if so, whether effective action has been taken to ensure that the systems and procedures are scrupulously followed by the staff concerned. (e) Whether frauds are reported to local Police, as the case may be, for investigation Non-bank financial companies (NBFCs) are financial institutions that provide banking services without meeting the legal definition of a bank, i.e. one that does not hold a banking license. Operations are, regardless of this, still exercised under bank regulation. However this depends on the jurisdiction, as in some jurisdictions, such as New Zealand, any company can do the business of banking, and there are no banking licenses issued.

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3.1 PUBLIC DEPOSITS WITH NBFCs


There is a practice of accepting of public deposits directly from the public by non-bank finance companies. The government companies have also started practice of accepting public deposits since 1980. There has been sizable and expanding market for inter-company deposits in India. There has been a longer maturity period of these deposits. About 90%of these deposits were of 3 year maturity. The interest rates on these deposits were certainly higher than those on bank deposits, and deposits with post offices, even after making an adjustment for tax concessions on the bank and post office upon the financial position, reputation and size of companies, on the size of deposits and also the type deposits. Interest rates on these deposits vary from 5% to 9% per annum and these rate are also subject to a ceiling imposed by the Reserve Bank of India, and Central Government. These public deposits are unsecured, more risky, less liquid and without any tax incentives. The following table gives the trends in the growth of public deposits with NBFCs.

Growth of public deposits with NBFCs (Rs. Crores) Year 1975 1985 1989 1999 2001 Total Deposits 1,197 16,140 28,649 20,429 18,085 No. of Companies Growth Rate (%) 4,612 4,998 10,088 1,547 981 16 45 15 - 40 - 20

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The table reflects the trend in growth of public deposits with NBFCs during the last 25years.The total volume of public deposits is quits substantial ,and it has increased substantially. These deposits as well as number of companies have increased till 1989 but there was negative growth thereafter. This was due to the process of liberalisation, stock market scams and reduction in the interest rates. The RBI has strict control and supervision on these companies from the year 1997.

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3.2 KEY INSIGHTS ABOUT NBFC SECTOR AS OF TODAY


As per CRISIL's NBFC sector report, Net profitability margin of NBFCs has more than doubled from FY2000-01 to FY2001-02 as growing interest spread is key to profitability. 1. Higher Interest yield than banks Further on the whole, NBFCs have higher interest yields than banks. The difference in their interest yield can be attributed to the following reasons: o

Some NBFCs have a wide reach and traditional niche strengths. Also they have forged good customer relationships in their respective operating geographies. This has led to higher interest yield incomes as they have been able to command a premium. Vehicle finance NBFCs have shown an increasing trend in the component of used vehicles financing in their portfolio. Which offer a higher internal rate of return than new vehicles.

2. Marginal increase in fee based income aided profitability The core fee income of all NBFCs improved marginally in FY2002-03. 3. Strict control on overheads help maintain core profitability As per CRISIL study, the NBFCs have managed to control any significant increase in their overheads in spite of the expansion in their business and reach.
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4. Enhanced investor base and funding avenues bolster resources profile The NBFCs business model has strengthened considerably over the past few years in terms of access to varied funding sources. The growth of mutual fund industry and the emergence of securitization as a borrowing tool have helped to strengthen the NBFC sector. In the near term, NBFCs will continue to maintain their core profitability at close to their FY2002-03 level. Interest costs have declined in FY200304 as well, which will enable them to maintain their interest spreads, since interest yields are not expected to decline significantly in the near term. This coupled with the control on overheads, will enable NBFCs to maintain their core profitability in the near term.

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3.3 LIST OF MAJOR COMPANIES BASED IN INDIA


34 Indian companies have been listed in the Forbes Global 2000 ranking for 2008.[1] The leading companies are: MARKET VALUE (BILLION $) 89.29

WORLD RANK

REVENUE PROFITS ASSETS COMPANY INDUSTRY (BILLION (BILLION (BILLIO $) Reliance Industries Oil and Corporation State Bank of India Indian Oil Oil & Gas, Petrochemicals Oil & Gas Operations Banking Oil & Gas 26.07 $) 2.79
N

$) 30.67

193

198 Natural Gas

18.90

4.11

33.79

54.11

219 303

15.77 42.68 9.84 7.84

1.47 188.56 1.82 0.64 1.60 25.39 91.07 20.34

33.29 16.36 29.85 41.57

Corporation Operations 374 ICICI Bank Banking Electricity 411 NTPC generation Steel 647 Authority of India Steel

7.88

1.45

8.05

26.37

Limited 738 Tata Steel 826 Bharti Airtel 846 Reliance

Steel Telecommunica tions Services Telecommunica


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5.83 4.26 3.13

0.97 0.94 0.65

11.48 6.61 13.08


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14.63 39.16 29.63

Non-Banking Finance Company

Communicat ions Tata 927 Consultancy Svcs 949 HDFC Larsen & 961 Toubro Bharat 967 Petroleum Bharat 1012 Heavy Electricals Infosys 1040 Technologie

tions Services Software & Services Banking Capital Goods Oil & Gas Operations Capital Goods

4.32 1.49 4.68 22.77

0.97 0.40 0.52 0.50

3.03 16.97 5.72 8.67

21.38 19.07 24.94 4.16

3.99

0.56

5.17

27.92

Software & Services

3.21 1.96 3.47 7.27 20.48 0.97 2.98

0.89 0.27 0.68 0.50 0.39 0.54 0.64

3.08 21.09 3.26 5.77 7.59 1.73 3.57

22.09 12.87 15.87 6.75 2.54 34.83 19.01

s 1093 HDFC Bank Banking Software & 1102 Wipro Services 1111 Tata Motors Capital Goods Hindustan Oil & Gas 1112 Petroleum Operations 1134 NMDC Materials Food Drink & 1159 ITC Limited Tobacco Punjab 1166 National Bank DLF 1185 Universal Limited 1205 Hindalco Banking

3.03

0.38

38.42

4.76

Diversified Financials Materials


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0.61 4.41

0.45 0.62

4.19 6.43
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33.26 6.22

Non-Banking Finance Company

Industries 1249 GAIL Utilities 1305 Canara Bank Banking 1361 Axis Bank Banking Bank of 1375 Banking India Power Grid 1413 Corporation Utilities of India Bank of Baroda National Company Unitech Group Grasim Industries Reliance Power Indian

3.83 3.03 1.29 2.48

0.59 0.35 0.15 0.26

5.03 38.54 16.91 32.80

8.93 2.85 9.10 4.72

0.83

0.25

8.50

11.54

1477

Banking

2.55

0.26

33.97

3.33

1478 Aluminium Materials

1.37

0.55

2.20

7.46

1484 1527 1597

Construction Construction Utilities

0.76 3.24 0.00

0.30 0.46 0.00

3.03 3.70 0.05

14.57 6.62 24.32

1737 Overseas Bank 1744 IDBI Bank Power 1753 Finance

Banking Banking Business Services &

1.43 1.70 0.89

0.23 0.14 0.23

19.03 24.51 10.80

2.25 2.14 5.36

Corporation Supplies Union Bank 1759 Banking of India Satyam Software & 1763 Computer Services Services
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1.90

0.20

23.76

2.34

1.50

0.33

1.59

7.26

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Non-Banking Finance Company

1803 1833 1919

Central Bank of India Syndicate

Banking

1.58 1.54 4.07

0.12 0.17 0.35

21.44 20.66 4.59

1.05 1.28 4.12

Banking Bank Mahindra & Consumer Mahindra Reliance Capital Durables Business Services &

1919

0.37 1.35 1.32

0.16 0.07 0.13

1.72 17.32 17.05

11.16 1.01 1.57

Supplies 1935 UCO Bank Banking Oriental 1952 Bank of Commerce Suzlon Energy Allahabad Bank Banking

1954 1996

Utilities Banking

1.85 1.22

0.20 0.18

2.90 15.68

10.52 1.23

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3.4

SERVICES PROVIDED

Non-bank institutions frequently acts as


suppliers of loans and credit facilities, supporting investments in property, Trading money market instruments funding private education, wealth management such as Managing portfolios of stocks and shares and Underwrite stock and shares, TFCs and other obligations retirement planning Advise companies in merger and acquisition Prepare feasibility, market or industry studies for companies Discounting services e.g., discounting of instruments

However they are typically not allowed to take deposits from the general public and have to find other means of funding their operations such as issuing debt instruments. BANKING V/S NON-BANKING COMPANIES

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4. FAQ
QUES -1 What is a Non-Banking Financial Company (NBFC)? ANS -1 A Non-Banking Financial Company (NBFC) is a company registered under the Companies Act, 1956 and is engaged in the business of loans and advances, acquisition of shares/ stock/ bonds/ debentures/ securities issued by Government or local authority or other securities of like marketable nature, leasing, hire-purchase, insurance business, chit business but does not include any institution whose principal business is that of agriculture activity, industrial activity, sale/purchase/construction of immovable property. A non-banking institution which is a company and which has its principal business of receiving deposits under any scheme or arrangement or any other manner, or lending in any manner is also a non-banking financial company (Residuary non-banking company). QUES 2. . What is difference between banks & NBFCs ? ANS 2. NBFCs are doing functions akin to that of banks; however there are a few differences: (i) (ii) an NBFC cannot accept demand deposits; an NBFC is not a part of the payment and settlement system and as such an NBFC cannot issue cheques drawn on itself; QUES-3. Is it necessary that every NBFC should be registered with RBI?

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ANS 3. In terms of Section 45-IA of the RBI Act, 1934, it is mandatory that every NBFC should be registered with RBI to commence or carry on any business of non-banking financial institution as defined in clause (a) of Section 45 I of the RBI Act, 1934. QUES 4. What are the different types of NBFCs registered with RBI? ANS 4. Originally, NBFCs registered with RBI were classified as: (i) (ii) (iii) (iv) equipment leasing company; hire-purchase company; loan company; investment company.

However, with effect from December 6, 2006 the above NBFCs registered with RBI have been reclassified as (i) (ii) (iii) Asset Finance Company (AFC) Investment Company (IC) (iii) Loan Company (LC)

QUES 5. Where can one find list of Registered NBFCs and instructions issued to NBFCs? ANS 5 The list of registered NBFCs is available on the web site of Reserve Bank of India and can be viewed at www.rbi.org.in. The instructions issued to NBFCs from time to time are also hosted at the above site. Besides, instructions are also issued through Official Gazette notifications. Press Release is also issued to draw attention of the public/NBFCs.
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QUES 6. Can all NBFCs accept deposits and what are the requirements for accepting Public Deposits? ANS 6 All NBFCs are not entitled to accept public deposits. Only those NBFCs holding a valid Certificate of Registration with authorisation to accept Public Deposits can accept/hold public deposits. NBFCs authorised to accept/hold public deposits besides having minimum stipulated Net Owned Fund (NOF) should also comply with the Directions such as investing part of the funds in liquid assets, maintain reserves, rating etc. issued by the Bank. QUES 7. What are the salient features of NBFCs regulations which the depositor may note at the times of investment? ANS 7 Some of the important regulations relating to acceptance of deposits by NBFCs are as under: i. The NBFCs are allowed to accept/renew public deposits for a minimum period of 12 months and maximum period of 60 months. They cannot accept deposits repayable on demand. ii. NBFCs cannot offer interest rates higher than the ceiling rate prescribed by RBI from time to time. The present ceiling is 12.5 per cent per annum. The interest may be paid or compounded at rests not shorter than monthly rests. iii. iv. v. vi. NBFCs cannot offer gifts/incentives or any other additional benefit to the depositors. NBFCs (except certain AFCs) should have minimum investment grade credit rating. The deposits with NBFCs are not insured. The repayment of deposits by NBFCs is not guaranteed by RBI.
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vii.

Certain mandatory disclosures are to be made about the company in the Application Form issued by the company soliciting deposits.

QUES 8. What is deposit and public deposit? Is it defined anywhere? ANS 8 The term deposit is defined under Section 45 I(bb) of the RBI Act, 1934. Deposit includes and shall be deemed always to have included any receipt of money by way of deposit or loan or in any other form but does not include:

amount raised by way of share capital, or contributed as capital by partners of a firm; amount received from scheduled bank, co-operative bank, a banking company, State Financial Corporation, IDBI or any other institution specified by RBI; amount received in ordinary course of business by way of security deposit, dealership deposit, earnest money, advance against orders for goods, properties or services; amount received by a registered money lender other than a body corporate; amount received by way of subscriptions in respect of a Chit.

QUES 9. Can an NBFC which is yet to be rated accept public deposit? ANS 9 No, an NBFC cannot accept deposit without rating (except an Asset Finance Company complying with prudential norms and having CRAR of 15%, as explained above at Ans. to Q 8).

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QUES 10. In case an NBFC defaults in repayment of deposit what course of action can be taken by depositors? ANS 10 If an NBFC defaults in repayment of deposit, the depositor can approach Company Law Board or Consumer Forum or file a civil suit in a court of law to recover the deposits. QUES 11. Please explain the terms owned fund and net owned fund in relation to NBFCs? ANS 11 Owned Fund means aggregate of the paid-up equity capital and free reserves as disclosed in the latest balance sheet of the company after deducting therefrom accumulated balance of loss, deferred revenue expenditure and other intangible assets. 'Net Owned Fund' is the amount as arrived at above minus the amount of investments of such company in shares of its subsidiaries, companies in the same group and all other NBFCs and the book value of debentures, bonds, outstanding loans and advances made to and deposits with subsidiaries and companies in the same group, to the extent it exceeds 10% of the owned fund.

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5. CONCLUSION
Non-banking finance companies (NBFC) operate mostly in unorganised and under-serviced segments of the economy, thereby creating a niche for themselves. In contrast to the banks, the NBFC business model is characterized by very close customer interaction and relationship, a deep understanding of customer needs, wider and specialized branch network, and low-cost infrastructure.

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6. BIBLIOGRAPY
WEBSITE:
www.google.com (Non-Banking Finance Company) www.wikipedia.com

BOOKS:
Principles and Practices of BANKING AND INSURANCE :- P. K. BANDGAR

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