By Noorul Hassan & Anup Koushik Karavadi
Introduction
Schemes to eradicate poverty are not new in India. Right from nationalization of banks in the year 1969, SHG (Self Help Group) – Bank Linkage Programme in 1992 till the recent categorization of Micro Finance Institutions in 2011 by the Reserve Bank of India, different schemes have been implemented by the government and are still being implemented. The schemes may have different names but the intention has been to provide rural credit and eradicate poverty by enabling inclusive growth.
In the process, different models have evolved and one of the successful models is Micro Finance Institutions (MFIs) leading to the growing recognition of MFIs. Since 2000, commercial banks including Regional Rural Banks have been providing funds to MFIs for onward lending to poor clients. This model of partnering with banks is an innovative way of financing MFIs. The bank is the lender and the MFI acts as an agent for handling items of work relating to credit monitoring, supervision and recovery. In other words, the MFI acts as an agent and takes care of all relationships with the client, from first contact to final repayment. The model has the potential to significantly increase the amount of funding that MFIs can leverage on a relatively small equity base.
Legal Framework
MFIs constitute an extremely heterogeneous group consisting of NBFCs (Non-Banking Finance Companies), societies, trusts and co-operatives catering to the needs of unorganized sector. NBFCs have played an important role in the Indian financial sector for a long time, fulfilling the gap in the demand and supply of financial services, particularly for small clients.
Prior to the categorization ‘Non Banking Financial Company - Micro Finance Institution (NBFC-MFI)’ by the RBI, the MFIs as NBFCs were regulated by Reserve Bank under Chapters III-B, III-C and V of the Reserve Bank of India Act. In order to encourage growth in this sector while adequately protecting the interests of the borrowers and for various other reasons, the RBI, based on the recommendations of a sub-committee headed by Mr. Y.H. Malegam, decided to create a special category of NBFCs viz., Non Banking Financial Company - Micro Finance Institution (NBFC-MFI) and issued directions by way of a notification on 2nd December, 2011 to this effect. These directions are known as Non-Banking Financial Company - Micro Finance Institutions (Reserve Bank) Directions, 2011 (hereinafter ‘Directions’).
Definition of NBFC-MFI
As per the said Directions, an NBFC-MFI is defined as:
“A non-deposit taking NBFC (other than a company licensed under Section 25 of the Indian Companies Act, 1956) that fulfils the following conditions:
i. Minimum Net Owned Funds of Rs.5 crore. (For NBFC-MFIs
registered in the North Eastern Region of the country, the minimum
NOF requirement shall stand at Rs. 2 crore).
ii. Not less than 85% of its net assets are in the nature of
“qualifying assets.”
Other Regulations
An NBFC-MFI shall comply with the following:
(1) Capital requirement: All new NBFC-MFIs shall maintain a capital adequacy ratio consisting of Tier I and Tier II Capital which shall not be less than 15 percent of its aggregate risk weighted assets. Existing NBFCs, to be classified as NBFC-MFIs, having asset size of less than Rs. 100 crore will be required to comply with this norm from 1st April, 2012.
(2) Pricing of credit: All NBFC-MFIs shall maintain an aggregate margin cap of not more than 12%. Interest on individual loans will not exceed 26% per annum and calculated on a reducing balance basis.
(3) Fair practices: There shall be only three components in pricing of loan viz., the interest charge, the processing charge and the insurance premium. Penalty shall not be charged on delayed payment and security deposit/margin from borrowers shall not be collected. There should be a standard form of loan agreement.
(4) Regulations for methods of recovery have also been incorporated in the Directions.
Scenario in AP
According to a source, the State of Andhra Pradesh accounts for 30% micro finance business of the country and there are several major market players operating from the State. Due to varied circumstances existing in the State, the Andhra Pradesh State Assembly on 15th October, 2010 has promulgated ‘The Andhra Pradesh Micro Finance Institutions (Regulations of Money) Ordinance’, which was later replaced by an Act, with an aim to protect the interests of borrowers and regulate the operations of MFIs. However, the Malegam Committee felt that after introduction of NBFC-MFI, there is no need to have a separate regulatory format in the State and recommended its withdrawal.
Conclusion
Apart from the Directions, the Central Government has drafted a ‘Micro Finance (Development and Regulation) Bill, 2011 which will apply to all micro finance organizations other than banks, co-operative societies and NBFCs other than licensed under Section 25 of Companies Act. The proposed Bill, among others, provides for registration with NABARD and that Central Government will constitute a Micro Finance Development Council to advise NABARD on the policies, schemes and other measures for orderly growth and development of micro finance services.
The micro finance market in India is expected to grow rapidly, supported by Government of India’s initiatives to achieve greater financial inclusion, and growth in the country’s unorganized but priority sector. Banks have a major role to play and work along with MFIs. In light of this, the new regulatory framework is expected to give increased recognition for MFIs, create a regulated and level playing field for the players and of course, protect the interest of borrowers.
[The authors are respectively Senior Associate and Associate in Lakshmikumaran & Sridharan, Hyderabad]
Introduction
Schemes to eradicate poverty are not new in India. Right from nationalization of banks in the year 1969, SHG (Self Help Group) – Bank Linkage Programme in 1992 till the recent categorization of Micro Finance Institutions in 2011 by the Reserve Bank of India, different schemes have been implemented by the government and are still being implemented. The schemes may have different names but the intention has been to provide rural credit and eradicate poverty by enabling inclusive growth.
In the process, different models have evolved and one of the successful models is Micro Finance Institutions (MFIs) leading to the growing recognition of MFIs. Since 2000, commercial banks including Regional Rural Banks have been providing funds to MFIs for onward lending to poor clients. This model of partnering with banks is an innovative way of financing MFIs. The bank is the lender and the MFI acts as an agent for handling items of work relating to credit monitoring, supervision and recovery. In other words, the MFI acts as an agent and takes care of all relationships with the client, from first contact to final repayment. The model has the potential to significantly increase the amount of funding that MFIs can leverage on a relatively small equity base.
Legal Framework
MFIs constitute an extremely heterogeneous group consisting of NBFCs (Non-Banking Finance Companies), societies, trusts and co-operatives catering to the needs of unorganized sector. NBFCs have played an important role in the Indian financial sector for a long time, fulfilling the gap in the demand and supply of financial services, particularly for small clients.
Prior to the categorization ‘Non Banking Financial Company - Micro Finance Institution (NBFC-MFI)’ by the RBI, the MFIs as NBFCs were regulated by Reserve Bank under Chapters III-B, III-C and V of the Reserve Bank of India Act. In order to encourage growth in this sector while adequately protecting the interests of the borrowers and for various other reasons, the RBI, based on the recommendations of a sub-committee headed by Mr. Y.H. Malegam, decided to create a special category of NBFCs viz., Non Banking Financial Company - Micro Finance Institution (NBFC-MFI) and issued directions by way of a notification on 2nd December, 2011 to this effect. These directions are known as Non-Banking Financial Company - Micro Finance Institutions (Reserve Bank) Directions, 2011 (hereinafter ‘Directions’).
Definition of NBFC-MFI
As per the said Directions, an NBFC-MFI is defined as:
“A non-deposit taking NBFC (other than a company licensed under Section 25 of the Indian Companies Act, 1956) that fulfils the following conditions:
i. Minimum Net Owned Funds of Rs.5 crore. (For NBFC-MFIs
registered in the North Eastern Region of the country, the minimum
NOF requirement shall stand at Rs. 2 crore).
ii. Not less than 85% of its net assets are in the nature of
“qualifying assets.”
Other Regulations
An NBFC-MFI shall comply with the following:
(1) Capital requirement: All new NBFC-MFIs shall maintain a capital adequacy ratio consisting of Tier I and Tier II Capital which shall not be less than 15 percent of its aggregate risk weighted assets. Existing NBFCs, to be classified as NBFC-MFIs, having asset size of less than Rs. 100 crore will be required to comply with this norm from 1st April, 2012.
(2) Pricing of credit: All NBFC-MFIs shall maintain an aggregate margin cap of not more than 12%. Interest on individual loans will not exceed 26% per annum and calculated on a reducing balance basis.
(3) Fair practices: There shall be only three components in pricing of loan viz., the interest charge, the processing charge and the insurance premium. Penalty shall not be charged on delayed payment and security deposit/margin from borrowers shall not be collected. There should be a standard form of loan agreement.
(4) Regulations for methods of recovery have also been incorporated in the Directions.
Scenario in AP
According to a source, the State of Andhra Pradesh accounts for 30% micro finance business of the country and there are several major market players operating from the State. Due to varied circumstances existing in the State, the Andhra Pradesh State Assembly on 15th October, 2010 has promulgated ‘The Andhra Pradesh Micro Finance Institutions (Regulations of Money) Ordinance’, which was later replaced by an Act, with an aim to protect the interests of borrowers and regulate the operations of MFIs. However, the Malegam Committee felt that after introduction of NBFC-MFI, there is no need to have a separate regulatory format in the State and recommended its withdrawal.
Conclusion
Apart from the Directions, the Central Government has drafted a ‘Micro Finance (Development and Regulation) Bill, 2011 which will apply to all micro finance organizations other than banks, co-operative societies and NBFCs other than licensed under Section 25 of Companies Act. The proposed Bill, among others, provides for registration with NABARD and that Central Government will constitute a Micro Finance Development Council to advise NABARD on the policies, schemes and other measures for orderly growth and development of micro finance services.
The micro finance market in India is expected to grow rapidly, supported by Government of India’s initiatives to achieve greater financial inclusion, and growth in the country’s unorganized but priority sector. Banks have a major role to play and work along with MFIs. In light of this, the new regulatory framework is expected to give increased recognition for MFIs, create a regulated and level playing field for the players and of course, protect the interest of borrowers.
[The authors are respectively Senior Associate and Associate in Lakshmikumaran & Sridharan, Hyderabad]