SETTING UP A SMALL FINANCE BANK | IIBF CERTIFICATION FREE STUDY MATERIAL | IIBF CERTIFICATION NOTES

SETTING UP A SMALL FINANCE BANK | IIBF CERTIFICATION NOTES

Setting up of small finance bank in unbanked and underbanked areas of India, where it is difficult to provide financial services to the underserved and unserved segments of the population is based on the principle of financial inclusion.

Setting up of small finance bank could cater to two needs:

1. Offer savings vehicles, mainly to unserved and underserved segments of the population
2. Provide credit to micro and small firms, tiny and marginal farmers, small business units, and other unorganised sector organisations that operate with cutting-edge technology and little overhead.

Eligible promoters

1. Resident individuals having at least 10 years of experience in finance and banking.
2. Small financing banks may be established by companies and societies that are owned and governed by residents.
3. Existing MSME, NBFCs and LABs owners (or who control these institutions), can choose to transfigure these into small finance banks.

With a soundtrack record of professional experience/running their business for 5 years, promoters or promoter groups can become eligible to convert their institution into a small finance bank.

Activities a small credit bank engages in

There is no restriction on a small finance bank to carry out any standard banking operation.

Nonetheless, they were created with the primary goal of providing basic banking services, such as lending to underserved and unserved populations like small companies, marginal farmers, micro- and small industries, and unorganised sector organisations.

Registration, licensing and regulations

After they start operating and are deemed appropriate under Section 42(6)(a) of the Reserve Bank of India Act, 1934, the SFB is given scheduled bank status.

READ ALSO: SMALL FINANCE BANKS | BANK PROMOTION STUDY MATERIAL

Branch expansion

1. Initially, for 5 years period, it needs prior approval of the Reserve bank of India for the branch expansion.
2. Plans for annual branch expansion should be in line with the obligation to open at least 25% of their branches in rural areas without banks (population up to 9,999 as per the latest census).
3. Nonetheless, the advantage is given to candidates who initially locate the bank in a collection of underbanked States or regions, such as in the North-East, East, or Central regions of the nation. 
4. Small financing banks are not restricted in their areas of operations.

Capital requirement

1. The prescribed minimum paid-up equity capital for Small finance banks is Rs. 100 crores.

The capital adequacy ratio must be maintained at 15% of the risk-weighted assets (RWA) subject to the changing percentage as prescribed by RBI from time to time.

2. Tier I capital must be at least 7.5% of the RWAs and Tier II must be limited to a maximum of total Tier II capital.

The capital adequacy framework is as follows:

Minimum Capital Requirement: 15%

Common Equity Tier 1: 6%

Additional Tier I: 1.5%

Minimum Tier I capital: 7.5%

Tier 2 capital: 7.5%

Capital Conservation Buffer: Not applicable

Countercyclical capital buffer: Not applicable

Pre-specified Trigger for conversion of AT1: CET1 at 6% up to March 31, 2019, and 7% thereafter.

Prudential norms

1. While SFB is operational, it must allocate 75% of its ANBC to industries that RBI has designated as priority sectors for lending (PSL).
2. According to the current PSL prescriptions, the bank must distribute 40% of its ANBC to various PSL subsectors, but it is free to allocate the remaining 35% to any PSL subsectors in which it has a competitive advantage.
3. The largest loan amount and investment limit exposure to a single or group of obligors would be limited to 10% & 15% of its capital funds, respectively.
4. The bank generally lends to small customers; at least 50% of its loan portfolio should consist of advances and loans up to Rs. 25 lakhs.

Additional conditions for NBFCs/MFIs and LABs to convert into a bank

1. After complying with all legal and approval requirements from various authorities an existing NBFC, MFI and LAB could apply to convert itself to small bank finance.
2. An entity must have at least Rs. 100 crores in net worth, or it may decide to inject more paid-up equity capital to reach this amount.
3. Small financing banks and NBFCs/MFIs are incompatible.
4. The RBI may not force the existing NBFCs, MFIs, and LABs to make the promoters’ minimum initial contribution as required if regulatory restrictions or other factors have reduced the founders’ shareholding to below 40% but above 26%.

Corporate governance

1. Must have the majority of independent directors.
2. It’s important to adhere to the corporate governance guidelines including ‘Fit & proper’ criteria for directors as issued by RBI from time to time.

Board of directors: Composition and functioning

Provisions applicable to the banking companies shall apply to small finance banks as well.

The makeup and operation of the board’s committees, committees at the management level, and compensation guidelines

The current rules in this area that apply to banks in the private sector also apply to SFBs.

Other conditions:

The NOFHC (Non-Operative Financial Holding Corporation) structure should be used to establish both types of banks if the promoter of a small financing bank also wants to establish a payments bank.

In addition to the promoters, no other people or organisations will be allowed to own more than 10% of the bank’s paid-up equity capital (including relatives).

If current NBFCs, MFIs, or LABs decide to become small finance banks and entities other than the promoters control more than 10% of the paid-up equity capital, the RBI may consider allowing up to three years for such shareholding to be reduced to 10%.

To address consumer complaints, the bank needs to have a powerful Customer Grievances Cell.

Other conditions for SFBs

Banking operations

1. 1. Adhering in every way to the current guidelines for the branch authorisation policy, which apply to scheduled commercial banks. Within a year of starting operations, SFBs are obliged to have 25% of their branches in rural areas without banks.
2. The same rules that apply to scheduled commercial banks in terms of bank fees, lockers, nominations, facilities for the disabled, etc. will also apply to SFBs.
3. In regards to MCLR and other related regulations on interest rates and fair practice codes for lenders, provisions existing for the scheduled commercial banks will apply to SFBs as well.
4. To promote financial inclusion, SFBs must lend to self-help groups.
5. As long as the assets financed out of such loans are PSL eligible assets are allowed to receive the PSL classification for the loans made to such NBCs for lending banks.
6. All provisions of the RBI and the BR Act as well as RBI directives regarding minimum balances, inactive accounts, unclaimed deposits—including the transfer of such deposits to the Depositors Education and Awareness Fund regularly maintained by the RBI—nominations, checks/drafts, etc.—will apply to SFBs.

1. Passbooks for the deposit accounts may be issued at their discretion
2. Should provide both a written or printed copy of:

• The first-time deposit receipts 
• An electronic deposit confirmation.

3. If passbooks have not been supplied a complimentary statement of accounts every six months to the registered address must be sent.

4. If passbooks have not been supplied, may upon request and on a fee-based basis or in any manner give a paper statement of account

5. May offer account information via a variety of user-friendly channels, including SMS and/or online banking and

6. Via SMS, email, or printed proof should offer electronic confirmation for each account transaction.

7. SFBs must abide by all current KYC regulations, including those governing the Central KYC Registry and any supplemental guidance that may be issued in this regard. However, like all other banks, SFBs have the option to open accounts without obtaining a wet signature and instead rely on electronic authentication or confirmation.

8. As the Reserve Bank may specifically approve, SFBs may do some additional foreign exchange activity. It can put the provisions of the Foreign Contribution (Regulation) Act of 2010 into effect (as applicable to scheduled commercial banks).

9. SFBs will be subject to all current regulations controlling currency chests that apply to commercial banks in the event of other financial services, and currency distribution (including detection of forged and counterfeit notes, currency chest facilities, and facilities for exchanging notes).

10. Both the centres and the base branches should handle any client complaints related to a particular satellite office or doorstep customer care centre. Banking Ombudsman (BO) Program coverage will extend to SFBs.

11. It should be mentioned in the customer service policy adopted by the SFBs’ boards that the SFBs will maintain a close eye on how well customers’ complaints are handled.

12. Both on-site and off-site monitoring systems would be used by RBI to closely monitor the bank’s grievance redress procedure.

13. SFBs should join each of the four credit information companies (CICs) and report all credit data to them as provided by RBI guidelines also it must abide by all the guidelines when it comes to disclosing and providing CICs with data on some major defaults and wilful defaults.

14. The current provisions that apply to scheduled commercial banks in the sphere of outsourcing activities, internet banking, and mobile banking shall also apply to SFBs.

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