Page 281 - DECO502_INDIAN_ECONOMIC_POLICY_ENGLISH

Unit 21: Capital Market in India and Working of SEBI

In a sense, NBFC resembles a banking company since it receives deposits from the public and lends Notes
the same to ready parties. It is not, however, a bank because it is not incorporated as a bank and is not
governed by the provisions of the Banking Regulation Act, 1949—hence it is called a non-banking
financial company.
The RBI has mentioned 5 kinds of NBFCs (see chart - 2 ). Of these, there are four clearly defined
categories of NBFCs, viz. (a) Leasing Finance Companies, (b) Hire-Purchase Finance Companies, (c)
Loan Finance Companies and (d) Investment Finance Companies. The RBI mentions one more NBFC
- the fifth category which cannot be classified under any of the first four categories. Hence the RBI has
called them Residuary Non-Banking Companies (RNBCs). According to the RBI, there are only four
such companies registered under section 451 A of the RBI Act, 1934 (amended in 1997).

Legislative Control of NBFCs
NBFCs do not have any specific legislation governing them. Instead, they come under three different
authorities :
(a) Being limited liability companies, NBFCs are governed by the Companies Act, 1956 which does
not even contain the definition of a finance company. Application of general provisions of this
Act, perforce, has invited avoidable violations by NBFCs.
(b) In the matter of deposits, NBFCs are governed by Non-banking Financial Companies (Reserve
Bank) Directions, 1997.
(c) NBFCs which engaged in merchant banking and portfolio management services are governed
by SEBI.
NBFCs have thus been working under a complex web of directives and guidelines formulated from
time to time. Inevitably, some of the directives are viewed by NBFCs as being formulated in arbitrary
manner, and at odds with practical realities. They have demanded separate legislation to guide and
control them.
In May 1992, RBI constituted a working group under the chairmanship of Dr. A.C. Shah to conduct a
comprehensive study of finance companies and recommend measures to facilitate their healthy growth.
In its report submitted in September 1992, the Shah Working Group recommended specific regulations
for companies with net owned funds of ` 50 lakhs and above and prescribe entry norms for new
financial companies. It also prescribed capital adequacy standards, prudential norms for income
recognition and provisions forbad and doubtful debts. RBI accepted the group’s recommendations
and started implementing them in phases.
In the mean time, instead of accepting their industry’s demand for a separate and comprehensive law
for NBFCs, the Government of India enacted the Reserve Bank of India (Amendment) Act, 1997 which
confers wide ranging powers on RBI for controlling the functioning of non-banking financial companies.
Salient Features of RBI Amendment Act, 1997

The Act defines a non-banking financial company (NBFC) as a financial institution or as non-banking
institution which has, as its principal business, the receiving of deposits under any scheme or
arrangement and lending in any manner. Institutions carrying on agricultural or industrial activity
as their principal business are excluded from the definition of NBFC.
RBI has taken a series of measures to enhance the regulatory and supervisory standards of the NBFCs
and to bring them at par with commercial banks over a period of time. These include :
1. Secure a certificate of registration from RBI, the net owned funds (NoF) should be ` 2 crores
(initially only ` 25 lakhs).
2. There is a quantum of public deposits which can be received by an NBFC, depending upon
whether it is a loan and investment company or whether it is a leasing and hire-purchase
company, and so on—fixed between 1.5 times to 4 times NoF.
3. NBFCs have to invest at least 5 per cent of their assets in unencumbered approved securities.
4. Every NBFC has to create a reserve fund and transfer at least 20 per cent of its net profit every
year to the reserve fund.

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