A non-banking financial corporation (NBFC) is defined by the RBI as a company primarily engaged in specific financial activities like loans, leasing, and insurance but excludes those involved mainly in agricultural or industrial sectors. Recent issues in the NBFC sector, exemplified by the IL&FS crisis, highlighted significant liquidity challenges and a need for regulatory improvements, with the RBI proposing a liquidity risk management framework to ensure stability. NBFCs has been instrumental in meeting diverse financial needs, particularly in sectors like micro-finance and infrastructure, although they face scrutiny due to risks associated with their funding practices.

1. Non-Banking Financial
Corporation

3. A Non-Banking Financial Company (NBFC) is a company
registered under the Companies Act, 2013 or 1956 carrying on
the business listed under Section 45 I (c ) of the RBI Act, 1934,
i.e.:
• loans and advances,
• acquisition of shares/stocks/bonds/debentures/securities
issued by Government or local authority or other marketable
securities of a like nature,
• leasing, hire-purchase,
• insurance business,
• chit business.

4. It does not include any institution whose principal business is
that of
• agriculture activity,
• industrial activity,
• purchase or sale of any goods (other than securities) or
providing any services and
• sale/purchase/construction of immovable property.
A non-banking company that has principal business of
receiving deposits under any scheme or arrangement in one
lump sum or in instalments by way of contributions or in any
other manner, is also a non-banking financial company
(Residuary non-banking company).

5. • The company must be registered as a public limited
company or private limited company in India.
• The company must have a minimum net owned fund of Rs.2
Crore.
1. An activity becomes a principle business when a company’s
assets from that activity constitute more than 50 per cent of
its total assets and
2. income from those assets constitute more than 50 per cent
of the gross income.

6. The motive behind defining the term ‘Principle business’ by
RBI was, to ensure that only companies predominantly
engaged in financial activity get registered with it and are
regulated and supervised by it.
It also means that if a company is engaged in any Financial
business in very small way and has a principle business in
agricultural operations, industrial activity or sale or
construction of immovable property, it will not be regulated by
RBI.

7. NBFCs as per the RBI has been classified into various
categories based on the types of liabilities and type of activities,
they perform.
NBFCs (By type of
liabilities)
Non-Deposit
accepting NBFCs
Systemically
Important non-
deposit taking
NBFCs
Other non-deposit
holding NBFCs
Deposit accepting
NBFCs

8. NBFCs whose asset size is of ₹ 500 cr or more as per last
audited balance sheet are considered as systemically important
NBFCs.
The tag of systemically important NBFCs depicts their
importance for the financial stability of the overall economy.

9. By the kind of activities, they conduct
Note: Following classification is regulated by RBI only. For list
of all types of NBFCs, please refer the list given in the next
segment
NBFCs (By
activities)
Asset Finance
Company
(AFC)
Investment
Company (IC)
Loan
Company
(LC)
Infrastructu
re Finance
Company
(IFC)
Systemically
Important
Core
Investment
Company
(CIC-ND-SI)
Micro
Finance
Institution
(NBFC-
MFI)
NBFC- Non-
Operative
Financial
Holding
Company
(NOFHC)

10. Principle business for this category has been increased at not
less than 60% of its total assets and total income respectively.
The companies that are involved in a principle business
financing of physical assets that supports productive/economic
activity, such as automobiles, tractors, lathe machines.
Companies carrying on as its principal business the acquisition
of securities.

11. It includes companies carrying on as its principal business the
providing of finance whether by making loans or advances or
otherwise for any activity other than its own.
It does not include an Asset Finance Company.
A Non-Banking Finance Company- IFC is a one:
a) which deploys at least 75 per cent of its total assets in
infrastructure loans,
b) has a minimum Net Owned Funds of ₹ 300 crore,
c) has a minimum credit rating of ‘A ‘or equivalent
d) and a CRAR of 15%.

12. CIC-ND-SI is an NBFC carrying on the business of acquisition
of shares and securities which satisfies the following
conditions: -
• It assets size should be ₹ 100 crore or above
• it holds not less than 90% of its Total Assets in the form of
investment in equity shares, preference shares, debt or loans
in group companies;
• its investments in the equity shares in group companies
constitutes not less than 60% of its Total Assets
• it does not trade in its investments in shares, debt or loans in
group companies except through block sale for the purpose
of dilution or disinvestment;

13. NBFC-MFI is a non-deposit taking NBFC having not less than
85% of its assets in the nature of qualifying assets which
satisfy the following criteria:
• Loan to rural household annual income not exceeding ₹
1,00,000 or urban and semi-urban household income not
exceeding ₹ 1,60,000;
• Total indebtedness of the borrower does not exceed ₹
1,00,000
• aggregate amount of loans, given for income generation, is
not less than 50 per cent of the total loans given by the MFIs
• Loan is repayable on weekly, fortnightly or monthly
instalments at the choice of the borrower

14. )
It is financial institution through which promoter / promoter
groups will be permitted to set up a new bank .It’s a wholly-
owned Non-Operative Financial Holding Company (NOFHC)
which will hold the bank as well as all other financial services
companies regulated by RBI or other financial sector
regulators, to the extent permissible under the applicable
regulatory prescriptions.
Any company which is carrying on as its principal business the
financing of acquisition or development of plots of land in
connection therewith is called Housing Finance Company.

15. RBI in a recent announcement merged the three categories of
NBFCs viz. Asset Finance Companies (AFC), Loan Companies
(LCs) and Investment Companies (ICs) have been merged into
a new category called NBFC – Investment and Credit
Company (NBFC-ICC).
As per the definition of RBI, NBFC-ICC means any company
which is a financial institution carrying on as its principal
business- asset finance, the providing of finance whether by
making loans or advances or otherwise for any activity other
than its own and the acquisition of securities; and is not any
other category of NBFC as defined by the Bank in any of its
Master Directions.

16. The objective of this harmonisation is to allow greater
operational flexibility to NBFCs. Post the aforesaid
harmonisation, there shall be the same set of regulations for all
the three categories of NBFCs even as they vary widely in their
business focus and sources of funding.

18. Banks NBFCs
Can accept demand deposits Cannot accept demand deposits
Banks are part of payment and
settlement system
NBFCs are not part of payment and
settlement system
Banks can issue cheques drawn on
themselves
An NBFC cannot issue Cheques
drawn on itself
Depositors of banks are provided
deposit insurance facility of Deposit
Insurance and Credit Guarantee
Corporation
deposit insurance facility of Deposit
Insurance and Credit Guarantee
Corporation is not available to
depositors of NBFCs
Banks are required to maintain
Reserve ratios (CRR, SLR)
Unlike banks, NBFCs are not
required to maintain Reserve
Ratios

19. NBFCs provide a variety of products, going through the
domains of different regulators. Thus, to avoid conflicts and
confusion it becomes necessary to specify that what type of
NBFC will be regulated by which regulator. Following is the
chart that provide this classification:

21. The Reserve Bank of India has introduced an Ombudsman
Scheme for customers of Non-Banking Financial Companies
(NBFCs).
The Scheme is being introduced under Section 45 L of the
Reserve Bank of India Act, 1934, with effect from February 23,
2018.
The Ombudsman Scheme for Non-Banking Financial
Companies, 2018 (the Scheme), is an expeditious and cost-free
apex level mechanism for resolution of complaints of
customers of NBFCs, relating to certain services rendered by
NBFCs.

22. Initially this scheme was launched for the Deposit taking
NBFCs with customer interface, but recently RBI extended the
coverage of this scheme to Non-Deposit Taking Non-Banking
Financial Companies having asset size of Rs 100 crore or above
with customer interface.

23. An officer at the RBI not below the rank of general
manager will be appointed by the regulator as the
ombudsman with territorial jurisdiction being specified
by the central bank.
The tenure of each ombudsman cannot exceed three years
and can be reduced by the regulator if needed.
a customer can register complaints against an NBFC
under 13 grounds such as non-observance of fair practices
code, non-payment of deposits or interest by the NBFC,
failure to provide adequate security documents or
requisite notice, failure to ensure transparency, among
others.

24. For redressal of grievance, the complainant must first
approach the concerned NBFC. If the NBFC does not reply
within a period of one month after receipt of the complaint, or
the NBFC rejects the complaint, or if the complainant is not
satisfied with the reply given by the NBFC, the complainant
can file the complaint with the NBFC Ombudsman

25. NBFC s have shown an increasing growth in the last ten years.
NBFCs is playing its part by meeting the diverse financial
needs of the economy. It has channelized the savings and
investments of the customers and had helped in the capital
formation.
Share of NBFCs in outstanding credit has increased to 17% in
March 2018 from 9% in March 2009. In the last few years, the
sector has been instrumental in meeting the credit
requirements of the economy at a time when bank credit
growth has been weak with a number of public sector banks
under PCA (Prompt Corrective Action).

26. NBFC has assisted to a large extent in providing financial inclusion
by serving the segment that has not been served by banking sector.
NBFCs have a large share of around 53% for micro-finance and as
high as 50% in auto-finance’s total credit requirements. The sector
meets 40% of infrastructure and housing finance credit
requirements.
NBFCs play a key role in providing the corporations with funds
through equity participation. Unlike other traditional banks, NBFCs
offer long-term credit to trade and commerce industry. These
companies help to fund large projects and mega infrastructure
projects which boost economic development to a great extent.

27. MSME sector has large growth potential for generating
economic growth and employment in India, but It is also a
fact that a large segment in the micro and small industries
sector does not have access to formal credit.
NBFCs provides for the financing requirements of this
sector by designing suitable innovative products.
Another area where NBFCs are participating in the
inclusive growth agenda is affordable housing. Large
NBFCs are setting up units to extend small-ticket loans to
home buyers targeting low-income customers across the
country.

28. IL&FS is a 3 decades old NBFC founded in 1987 that provides
services similar to traditional commercial banks in the field of
infrastructural lending as a core investment company. It
operates through more than 250 subsidiaries all over India.
Its major shareholders include state-backed Life Insurance
Corp of India holding, 25.3 per cent stake, Housing
Development Finance Corporation with 9.02 per cent, Central
Bank of India with 7.67 per cent and State Bank of India with
6.42 percent.

29. It has been registered with RBI as a ‘Systemically Important
Non-Deposit Accepting Core Investment Company’.

30. This crisis came into light when on September 6 IL&FS
disclosed that the commercial papers (CP), which were due on
August 28, could not be paid on due date and were settled in
full on August 31.
IL&FS Financial Services had about $500 million in
repayments which were due in the second half of last financial
year while it had only about $27 million available.
Before that IL&FS shocked markets when it postponed a $350
million bonds issuance in March due to demand for a higher
yield from investors.

31. As per the report by Reuters, by the middle of September,
IL&FS and IL&FS Financial Services had a combined Rs 270
billion of debt rated as junk by CARE Ratings.
The series of defaults led to a ratings downgrade. A downgrade
in the credit rating led to lowering of price of bond’s which
affected debt funds.

32. This mismatch occurs when liability increases
disproportionate to the assets of a company. In case of IL&FS,
it happened because company was financing long term loans
by raising short term debt instruments like Commercial
Papers.
While company need to repay its short term loan within a year,
it is not going to get back its loaned amount before 10-12 years,
thus it creates assets-liability mismatch.

33. A major reason behind troubles of IL&FS is complications in
land acquisition. The 2013 land acquisition law made many of
its projects unviable. Cost escalation also led to many
incomplete projects. Lack of timely action exacerbated the
problems.

34. • Public private partnership (PPP) model was introduced by
government of India to improve the infrastructure of the
country, but it did not prove to be profit maker for private
companies.
• Under this model, IL&FS started financing and developing
infrastructure projects, but on the part of government there
have been delays in approvals and passing necessary
regulations.
• The value stuck in between IL&FS and government is
estimated to be around $ 90 billion. Huge amount is stuck in
arbitration between IL&FS and government.

35. IL&FS was basically started as a finance company, but over a
couple of years they not only financed infrastructure projects,
but they also started ownership of the same, thus needing more
and more finance to complete these long-term projects, which
came from borrowing from banking sectors as well as money
markets.
Increase in the interest rates repetitively by RBI has led to
increase in the cost of borrowings by the company.

36. Unlike Banks, NBFCs (like IL&FS) do not have access to RBI
repo window.

37. 1. The market indices, Sensex and Nifty, fell drastically due to
IL&FS crisis.
2. Defaults in payments by subsidiaries of IL&FS triggered
fear of liquidity crisis in the financial markets.
3. Fears of a liquidity crunch following the IL&FS crisis has
hit the mutual fund industry hard. Liquid debt funds have
been the worst hit. Estimates suggest that Rs 70,000 crore
has been redeemed from liquid funds.
4. Series of defaults by IL&FS and its group companies and
downgraded credit ratings led to massive sell-off in shares
of NBFCs and Indian shadow banking was at the
crossroads creating ripple effects through the economy.

38. 5. As the panic and fear factor glooming around the market,
the Indian financial market faced the worst liquidity
crunch in a decade. Non-availability of cash in the market
made the borrowings even costlier and hard of the NBFCs
and other companies to raise funds.
6. liquidity crunch will also impact the funding cost of Non-
Banking Financial Companies (NBFCs) and housing
finance companies which rely on short-term CPs and NCDs
as their source of funds and impact their margins.

39. In the backdrop of the liquidity issues being faced by non-
banking finance companies, the Reserve Bank of India (RBI) on
Friday issued a draft circular on ‘Liquidity Risk Management
Framework’. The draft proposes:
• to introduce Liquidity Coverage Ratio (LCR) for all deposit
taking NBFCs; and non-deposit taking NBFCs with an asset
size of ₹5,000 crore and above.
• The LCR requirement shall be binding on NBFCs from April
1, 2020, with the minimum High-Quality Liquid Assets
(HQLA) to be held being 60 percent of the LCR,
progressively increasing in equal steps reaching up to the
required level of 100 percent by April 1, 2024.

40. • High-Quality Liquid Assets (HQLA) means liquid assets
that can be readily sold or immediately converted into cash
at little or no loss of value or used as collateral to obtain
funds in a range of stress scenarios.
• They should have sufficient collateral to meet expected and
unexpected borrowing needs and potential increases in
margin requirements over different time frames.
• The NBFCs have to formulate a contingency funding plan
for responding to severe disruptions, which might affect
their ability to fund some or all of their activities in a timely
manner and at a reasonable cost.

41. • Net cumulative negative mismatches (fund outflows
exceeding inflows) in the maturity buckets of 1-7 days, 8-14
days, and 15-30 days should not exceed 10 per cent, 10 per
cent and 20 per cent of the cumulative cash outflows
respectively.
• The NBFCs are required to adopt liquidity risk monitoring
tools/metrics in order to capture strains in liquidity position.
• An Asset-Liability Management Committee (ALCO) that
would consist of NBFC’s top management and should be
responsible for ensuring adherence to risk tolerance and
limits set by Board and for implementing NBFC’s liquidity
risk management strategy.
https://savart.in/blog/ilfs-saga-crisis/