Legal Department Operations

and Procedures Manual of

Reserve Bank of India

INTRODUCTION
Introduction
“When you are faced with a choice between integrity and profit, choose

integrity without hesitation.”

If we do not follow this direction and choose an easy option that results in

our corporate brand being damaged, it will take a long time and a lot of

energy to restore our brand. We shall not take short-cuts in the pursuit of a

quick profit, rather we shall choose the right pathway even if it involves a

detour, taking one step at a time.

Each and every one of you should re-assess your position to confirm that your
pathway:

• does not violate any law;

• is one that you can tell your family about with confidence;

• is one that you would be happy for your children to adopt;

• is one that you can be proud of if it be reported in the newspapers or

on TV;

• does not enable others to take advantage of our weakness;

If you are ever in any doubt as to any of the above, please revisit this
Compliance

Manual.

Compliance Committee
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Detailed Contents:

1. Overview of Banking System

2. Regulatory Framework and Compliances

A. Provisions of RBI Act 1935, Banking Regulation Act 1949, Prevention of Money Laundering Act, 2002.

B. Government and RBI’s Powers Opening of New Banks and Branch Licensing Constitution of Board of
Directors and their Rights Banks Share Holders and their Rights CRR and SLR Concepts Cash-

Currency Management Winding up - Amalgamation and Mergers Powers to Control Advances - Selective

Credit Control – Monetary and Credit Policy Audit and Inspection Supervision and Control - Board for

Financial Supervision – its Scope and Role Disclosure of Accounts and Balance Sheets Submission of Returns
to RBI, Corporate Governance.

3. Legal Aspects of Banking Operations

Case Laws on Responsibility of Paying and Collecting Banker Indemnities or Guarantees - Scope and

Application – Obligations of a Banker - Precautions and Rights - Laws relating to Bill Finance, LC and

Deferred Payments - Laws Relating to Securities - Valuation of Securities - Modes of Charging Securities -

Lien, Pledge, Mortgage, Hypothecation etc. - Registration of Firms/Companies - Creation of Charge and

Satisfaction of Charge.

4. Banking Related Laws

Law of Limitation - Provisions of Bankers Book Evidence Act -Special Features of Recovery of Debts Due

to Banks and Financial Institutions Act, 1993 TDS Banking Cash Transaction Tax Service Tax, Asset

Reconstruction Companies, The Securitization and Reconstruction of Financial Assets and Enforcement of

Security Interest Act, 2002, The Consumer Protection Act, 1986, Banking Ombudsman Lok Adalats, Lender’s

Liability Act.

5. Banker - Customer Relations

The legal relationship between the Banker and Customer, the Multifarious Transactions between them and

the Rights and Duties of the Parties springing out of such relationship Nature of Banking Business Legal

Nature of Banker-Customer Relationship and their Mutual Rights and Duties Special Categories of

Customers, such as Corporations, Partnership Firms, Hindu Joint Families, Unincorporated Bodies, Trusts,

Joint Account Holders, Minors, Nominee Accounts, Liquidator, Mercantile Agents, Non-Resident Indians,
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Foreigners and the Legal Incidence of Each Different Types of Accounts such as Current Accounts, Savings

Bank Account and Fixed Deposits Other Transactions between Banker and Customer such as Safe Deposit

Vaults, Financial Advice, Letters of Introduction and Other Services Rendered by Banks Special features of

the relationship between banker and customer - Their mutual rights and duties - lien - Power to combine

different accounts - Secrecy of account.

6. Loans and Advances

Law, Practice and Policies governing the employment of the funds in the hands of the banker with special

reference to the lending banker State Policy on Loans and Advances - Priority sector advances and socio-

economic policies - Financial inclusion - Self- Employment Schemes - Women Entrepreneurs - Small Scale

Industries - Agricultural Finance, Export Finance, etc. – Micro Finance - How the banker profitably uses the

fund - Call loans and loans repayable at short notice - Loans and advances - Overdrafts - Legal control over

bank’s deployment of funds.

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OVERVIEW OF BANKING SYSTEM

Reserve Bank of India Act, 1934

The Reserve Bank of India Act,1934 was enacted to constitute the Reserve Bank of India with an objective to
(a)

regulate the issue of bank notes (b) for keeping reserves to ensure stability in the monetary system (c) to operate

effectively the nation’s currency and credit system

The RBI Act covers: (i) the constitution (ii) powers (iii) functions of the Reserve Bank of India. The act does
not

directly deal with the regulation of the banking system except for few sections like Sec 42 which relates to the

maintenance of CRR by banks and Sec 18 which deals with direct discount of bills of exchange and promissory

notes as part of rediscounting facilities to regulate the credit to the banking system.

The RBI Act deals with:

(a) incorporation, capital, management and business of the RBI

(b) the functions of the RBI such as issue of bank notes, monetary control, banker to the Central and State

Governments and banks, lender of last resort and other functions

(c) general provisions in respect of reserve fund, credit funds, audit and accounts

(d) issuing directives and imposing penalties for violation of the provisions of the Act

Banking Regulation Act, 1949

The Banking Regulation Act, 1949 is one of the important legal frame works. Initially the Act was passed as

Banking Companies Act,1949 and it was changed to Banking Regulation Act 1949. Along with the Reserve
Bank

of India Act 1935, Banking Regulation Act 1949 provides a lot of guidelines to banks covering wide range of

areas. Some of the important provisions of the Banking Regulation Act 1949 are listed below. – The term
banking is defined as per Sec 5(i) (b), as acceptance of deposits of money from the public for

the purpose of lending and/or investment. Such deposits can be repayable on demand or otherwise and

withdraw able by means of cheque, drafts, order or otherwise

– Sec 5(i)(c) defines a banking company as any company which handles the business of banking
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– Sec 5(i)(f) distinguishes between the demand and time liabilities, as the liabilities which are repayable on

demand and time liabilities means which are not demand liabilities – Sec 5(i)(h) deals with the meaning of
secured loans or advances. Secured loan or advance granted on

the security of an asset, the market value of such an asset in not at any time less than the amount of such

loan or advances. Whereas unsecured loans are recognized as a loan or advance which is not secured

– Sec 6(1) deals with the definition of banking business – Sec 7 specifies banking companies doing banking
business in India should use at least on work bank,

banking, banking company in its name

– Banking Regulation Act through a number of sections restricts or prohibits certain activities for a bank.

For example:

(i) Trading activities of goods are restricted as per Section 8

(ii) Prohibitions: Banks are prohibited to hold any immovable property subject to certain terms and

conditions as per Section 9 . Further, a banking company cannot create a charge upon any unpaid

capital of the company as per Section 14. Sec 14(A) stipulates that a banking company also cannot

create a floating charge on the undertaking or any property of the company without the prior permission

of Reserve Bank of India

Banking Regulation Act, 1949

The Banking Regulation Act, 1949 is one of the important legal frame works. Initially the Act was passed as

Banking Companies Act,1949 and it was changed to Banking Regulation Act 1949. Along with the Reserve
Bank

of India Act 1935, Banking Regulation Act 1949 provides a lot of guidelines to banks covering wide range of

areas. Some of the important provisions of the Banking Regulation Act 1949 are listed below. – The term
banking is defined as per Sec 5(i) (b), as acceptance of deposits of money from the public for

the purpose of lending and/or investment. Such deposits can be repayable on demand or otherwise and

withdraw able by means of cheque, drafts, order or otherwise

– Sec 5(i)(c) defines a banking company as any company which handles the business of banking

– Sec 5(i)(f) distinguishes between the demand and time liabilities, as the liabilities which are repayable on

demand and time liabilities means which are not demand liabilities – Sec 5(i)(h) deals with the meaning of
secured loans or advances. Secured loan or advance granted on
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the security of an asset, the market value of such an asset in not at any time less than the amount of such

loan or advances. Whereas unsecured loans are recognized as a loan or advance which is not secured

– Sec 6(1) deals with the definition of banking business – Sec 7 specifies banking companies doing banking
business in India should use at least on work bank,

banking, banking company in its name

– Banking Regulation Act through a number of sections restricts or prohibits certain activities for a bank.

For example:

(i) Trading activities of goods are restricted as per Section 8

(ii) Prohibitions: Banks are prohibited to hold any immovable property subject to certain terms and

conditions as per Section 9 . Further, a banking company cannot create a charge upon any unpaid

capital of the company as per Section 14. Sec 14(A) stipulates that a banking company also cannot

create a floating charge on the undertaking or any property of the company without the prior permission

of Reserve Bank of India

Other compliance requirements

Sec 5(a), "Comply with All Applicable Laws, Regulations, Codes, And Policies—Including City, State
And Federal Laws."
Breach of Code:
a)Commit an unlawful act on facility premises or during work hours.
b)Report to work under the influence of alcohol or drugs or use drugs or alcohol during
work time.
c)Fail to renew or maintain good standing with professional licensure or certification.
d)Fail to report instances of fraud, waste or abuse of government funds.

Section 29 – Every bank needs to publish its balance sheet as on March 31st Section 30(i) – Audit of Balance
sheet by qualified auditors

Section 35 gives powers to RBI to undertake inspection of banks

Other various sections deal with important returns which are to be submitted by banks to Reserve Bank of India

– Return of bank’s liquid assets and liabilities (Monthly) – Return of bank’s assets and liabilities in India
(Quarterly) – Return of unclaimed deposits of 10 years and above (Yearly)

With changing time and requirements from time to time, various other compliance issues which need to be

handled by banks, have been amended/incorporated relating to: – Nomination facilities – Time period for
preservation of bank books/records
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Branch Licensing

The opening of branches by banks is governed by the provisions of Section 23 of the Banking Regulation Act,

1949. In terms of these provisions, without the prior approval of the Reserve Bank of India (RBI), banks cannot
– Open a new place of business in India or abroad

– Cannot shift or change, except within the same city, town or village the location of the existing place of

business

As regards branch licensing, banks have to refer to the guidelines of the Reserve Bank from time to time,

including change of premises, shifting of branches to other locations, etc. As regards Regional Rural Banks, the

application for permission have to be routed through the National Bank for Agriculture and Rural Development

and based on the comments of NABARD, RBI would act accordingly. The Branch Authorisation Policy for

commercial banks as on 1st July, 2013 is as under:

Branch Authorisation Policy for Commercial Banks

(i) For the purpose of branch authorisation policy, a “branch” means a full-fledged branch, including a

specialized branch, a satellite or mobile office, an Extension Counter, an off-site ATM (Automated Teller

Machine), administrative office, controlling office, service branch (back office or processing centre) and

credit card centre. A call centre will not be treated as a branch.

(ii) Domestic scheduled commercial banks (other than RRBs) are permitted to open branches, Administrative

offices, Central Processing Centres (CPCs) and Service branches in Tier 2 to Tier 6 centres (with population

up to 99,999 as per Census 2001 and in rural, semi-urban and urban centres in North Eastern States and

Sikkim, and to open mobile branches in Tier 3 to Tier 6 centres (with population up to 49,999 as per Census

2001)and in rural, semi-urban and urban centres in North Eastern States and Sikkim without permission

from Reserve Bank of India in each case, subject to reporting. Since the concept of mobile branches was

mooted for rural areas, the general permission granted for operationalising mobile branches in Tier 3 to Tier

6 centres has not been extended to the operationalisation of mobile branches in Tier 2 centres.

(iii) With a view to further increasing operational flexibility of banks, domestic scheduled commercial banks

(other than RRBs) are permitted to open offices exclusively performing administrative and controlling
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functions (Regional Offices/Zonal Offices) in Tier 1 Centres without the need to obtain prior permission in

each case, subject to reporting.

(iv) Opening of branches/Central Processing Centres (CPCs)/Service branches by domestic scheduled

commercial banks (other than RRBs) in Tier 1 centres (centres with population of 1,00,000 and above as

per 2001 Census) will continue to require prior permission of the Reserve Bank of India, except in the

case of North Eastern States and Sikkim, where the general permission would cover Tier-1 centres also.

(v) Domestic Scheduled Commercial Banks, while preparing their Annual Branch Expansion Plan (ABEP),

should allocate at least 25 percent of the total number of branches proposed to be opened during a year

in unbanked rural (Tier 5 and Tier 6) centres. An unbanked rural centre would mean a rural (Tier 5 and

Tier 6) centre that does not have a brick and mortar structure of any scheduled commercial bank for

customer based banking transactions.

(vi) In view of the requirement for opening at least 25 per cent of the branches under ABEP in unbanked rural

centres, it would now not be mandatory to open at least one third of the total number of branches proposed

to be opened in Tier 2 to Tier 6 centres in under-banked districts of under-banked States. However, as

there is a continuing need for opening more branches in under-banked districts of under-banked States

for ensuring more uniform spatial distribution, banks would be provided incentive for opening such

branches. Accordingly, for each branch proposed to be opened in Tier 2 to Tier 6 centres of under

banked districts of under-banked States, excluding such of the rural branches proposed to be opened in

unbanked rural centres that may be located in the under-banked districts of under-banked States in

compliance with the requirement as indicated in sub para viii) above, authorisation will be given for

opening of a branch in a Tier 1 centre. This will be in addition to the authorisation given for branches in

Tier 1 centres based on the considerations stated above.

(vii) Banks may consider front-loading (prioritizing) the opening of branches in unbanked rural centres over a

3 year cycle co-terminus with their Financial Inclusion Plan (2013-16). Credit will be given for the branches

opened in unbanked rural centres in excess of the required 25 percent of the ABEP for the year which will

be carried forward for achieving the criteria in the subsequent ABEP/year of the Financial Inclusion Plan

(FIP).
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NEW BANK LICENSING POLICY, 2013

Over the last two decades, the Reserve Bank of India (RBI) gave license to twelve banks in the private sector.

This happened in two phases. Ten banks were licensed on the basis of guidelines issued in January 1993. The

guidelines were revised in January 2001 based on the experience gained from the functioning of these banks,

and fresh applications were invited. The applications received in response to this invitation were vetted by a
High

Level Advisory Committee constituted by the RBI, and two more licences were issued, to two entities, viz.,
Kotak

Mahindra Bank and Yes Bank. While preparing these guidelines, the Reserve Bank recognized the need for an

explicit policy on banking structure in India keeping in view the recommendations of the Narasimham
Committee,

Raghuram Rajan Committee and other viewpoints.

Guidelines and important aspects

(A) Eligible Promoters

(i) Entities/groups in the private sector that are ‘owned and controlled by residents’ [as defined in Department

of Industrial Policy and Promotion (DIPP)] and entities in public sector, are eligible to promote a bank

through a wholly-owned Non-Operative Financial Holding Company (NOFHC).

(ii) Promoters/Promoter Groups with an existing non-banking financial company (NBFC) are eligible to apply

for a bank licence.

(B) ‘Fit and Proper’ criteria

Promoters/Promoter Groups should be ‘fit and proper’ in order to be eligible to promote banks through a wholly

owned NOFHC. RBI would assess the ‘fit and proper’ status of the applicants on the basis of following criteria

(a) Promoters/Promoter Groups should have a past record of sound credentials and integrity

(b) Promoters/Promoter Groups should be financially sound and have a successful track record of running

their business for at least 10 years.

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RBI may, inter alia, seek feedback on applicant Groups on these or any other relevant aspects from

other regulators, and enforcement and investigative agencies like Income Tax, CBI, Enforcement

Directorate, etc. as deemed appropriate.

(C) Corporate structure of the NOFHC

(i) Promoter/Promoter Group will be permitted to set up a bank only through a wholly-owned Non-Operative

Financial Holding Company (NOFHC).

(ii) The NOFHC should hold the bank as well as all the other financial services entities of the Group regulated

by RBI or other financial sector regulators. Only non-financial services companies/entities and non-

operative financial holding company in the Group and individuals belonging to Promoter Group will be

allowed to hold shares in the NOFHC. Financial services entities whose shares are held by the NOFHC

cannot be shareholders of the NOFHC.

(D) Minimum voting equity capital requirements for banks and shareholding by NOFHC

(i) The initial minimum paid-up voting equity capital for a bank should be `5 billion (`.500 crores). Any

additional voting equity capital to be brought in will depend on the business plan of the Promoters.

(ii) The NOFHC should hold a minimum of 40 per cent of the paid-up voting equity capital of the bank which

should be locked in for a period of five years from the date of commencement of business of the bank.

(iii) Shareholding by NOFHC in the bank in excess of 40 per cent of the total paid-up voting equity capital

should be brought down to 40 per cent within three years from the date of commencement of business of

the bank.

(iv) The shareholding by NOFHC should be brought down to 20 per cent of the paid-up voting equity capital

of the bank within a period of 10 years, and to 15 per cent within 12 years from the date of commencement

of business of the bank.

(v) The capital requirements for the regulated financial services entities held by the NOFHC should be as

prescribed by the respective sectoral regulators. The bank should be required to maintain a minimum

capital adequacy ratio of 13 per cent of its risk weighted assets (RWA) for a minimum period of 3 years

after the commencement of its operations subject to any higher percentage as may be prescribed by RBI

from time to time. On a consolidated basis, the NOFHC and the entities held by it should maintain a
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minimum capital adequacy of 13 per cent of its consolidated RWA for a minimum period of 3 years.

(vi) The bank should get its shares listed on the stock exchanges within three years of the commencement

(E) Regulatory framework

(i) The NOFHC will be registered as a non-banking financial company (NBFC) with the RBI and will be

governed by a separate set of directions issued by RBI.

(iii) The financial entities held by the NOFHC will be governed by the applicable Statutes and regulations

prescribed by the respective financial sector regulators.

(F) Foreign shareholding in the bank

Where foreign shareholding in private sector banks is allowed up to a ceiling of 74 per cent of the paid-up
voting

equity capital, the aggregate non-resident shareholding from FDI, NRIs and FIIs in the new private sector banks

should not exceed 49 per cent of the paid-up voting equity capital for the first 5 years from the date of licensing
of

the bank. No non-resident shareholder, directly or indirectly, individually or in groups, or through subsidiary,
associate

22 PP-BL&P

or joint venture will be permitted to hold 5 per cent or more of the paid-up voting equity capital of the bank for
a

period of 5 years from the date of commencement of business of the bank. After the expiry of 5 years from the

date of commencement of business of the bank, the aggregate foreign shareholding would be as per the extant

FDI policy.

(G) Corporate governance of NOFHC

The NOFHC should comply with the corporate governance guidelines as issued by RBI from time to time.

(H) Prudential Norms for the NOFHC

The prudential norms will be applied to NOFHC both on stand-alone as well as on a consolidated basis. Some
of

the major prudential norms are as under:

(I) NOFHC on a stand-alone basis

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(a) Prudential norms for classification, valuation and operation of investment portfolio.

(b) Prudential norms on Income Recognition, Asset Classification and Provisioning pertaining to Advances.

(c) The NOFHC for the purpose of its liquidity management can make investments in bank deposits, money

market instruments, government securities and actively traded bonds and debentures.

(d) The NOFHC should closely monitor its liquidity position and interest rate risk. For this purpose, the

NOFHC should prepare a structural liquidity statement (STL) and interest rate sensitivity statement (IRS).

(f) The NOFHC may have a leverage up to 1.25 times of its paid-up equity capital and free reserves. The

actual leverage assumed within this limit should be based on the ability of the NOFHC to service its

borrowings from its dividend income.

(ii) NOFHC on a consolidated basis

(a) NOFHC should maintain capital adequacy and other requirements on a consolidated basis based on the

prudential guidelines on Capital Adequacy and Market Discipline – New Capital Adequacy Framework

(NCAF) issued under Basel II framework and Guidelines on Implementation of Basel III Capital Regulations

in India, when implemented.

(b) The NOFHC should prepare consolidated financial statements and other consolidated prudential reports

in terms of the Guidelines for consolidated accounting and other quantitative methods and in terms of

Scope of Prudential Consolidation indicated under Basel III Capital Regulations.

(c) The consolidated NOFHC should adhere to the instructions on disclosure in Financial Statements -

Notes to Accounts

(d) The consolidated NOFHC should prepare a structural liquidity statement (STL), interest rate sensitivity

statement (IRS).

(I) Exposure norms

Exposure norms are to be observed as per the guidelines of the Reserve Bank of India from time to time.

(J) Business Plan for the bank

(a) Applicants for new bank licenses will be required to furnish their business plans for the banks along with

their applications. The business plan will have to address how the bank proposes to achieve financial

inclusion.
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(b) The business plan submitted by the applicant should be realistic and viable. In case of deviation from the

stated business plan after issue of licence, RBI may consider restricting the bank’s expansion, effecting

change in management and imposing other penal measures as may be necessary.

(K) Other conditions for the bank

(i) The Board of the bank should have a majority of independent Directors.

(ii) Any acquisition of shares which will take the aggregate holding of an individual/entity/group to the

equivalent of 5 per cent or more of the paid-up voting equity capital of the bank, will require prior approval

of RBI.

(iii) No single entity or group of related entities, other than the NOFHC, should have shareholding or control,

directly or indirectly, in excess of 10 per cent of the paid-up voting equity capital of the bank.

(iv) The bank should comply with the priority sector lending targets and sub-targets as applicable to the

existing domestic banks. For this purpose, the bank should build its priority sector lending portfolio from

the commencement of its operations.

(v) The bank should open at least 25 per cent of its branches in unbanked rural centres (population up to

9,999 as per the latest census) to avoid over concentration of their branches in metropolitan areas and

cities which are already having adequate banking presence.

(vii) The bank should operate on Core Banking Solutions (CBS) from the beginning with all modern

infrastructural facilities.

(viii) The bank should have a high powered Customer Grievances Cell to handle customer complaints.

(J) Procedure for RBI decisions

Reserve Bank of India would consider many factors before issuing the licenses for the new private sector banks.

At the first stage, the applications will be screened by RBI to ensure prima facie eligibility of the applicants.
RBI

may apply additional criteria to determine the suitability of applications, in addition to the ’fit and proper’
criteria
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prescribed by it. Thereafter, the applications will be referred to a High Level Advisory Committee to be set up
by

RBI.

The High Level Advisory Committee will comprise eminent persons with experience in banking, financial
sector

and other relevant areas. The constitution of the committee will be announced shortly. The High Level Advisory

Committee will set up its own procedures for screening the application.

The Committee will submit its recommendations to RBI for consideration. The decision to issue an in-principle

approval for setting up of a bank will be taken by RBI. RBI’s decision in this regard will be final. The validity
period

of in-principal approval for setting up of a bank is 18 months.