A Non-Banking Financial Company (NBFC) is a company registered under the

Companies Act, 1956 engaged in the business of 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 but 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 institution, which is a company and has principal business of
receiving deposits under any scheme or arrangement in one lump sum or in installments
by way of contributions or in any other manner, is also a non-banking financial company
(Residuary non-banking company).
Banks vs. NBFCs
The difference between banks and NBFCs is mainly in the nature of the liabilities of the
two and, to some extent, in the structure of their assets. While the liabilities of
commercial banks usually consist of demand and time deposits, those of NBFCs do not
ordinarily include demand deposits, the mutual benefit financial companies, commonly
known as Nidhis, being notable exceptions. Since demand deposits, which are withdrawal
by cheque, are considered to be a component of money, it is the degree of money ness
of the liabilities of the two types of institutions, which constitutes a major difference
between the two. From the point of view of assets held, it may be said that commercial
banks hold a wide variety ranging from short-term and medium-term to long term credits
and they also use various credit instruments like overdrafts, cash credits, bills, etc. On the
other hand, the assets of NBFCs are more specialized. For instance, hire purchase finance
companies confine their operations mainly to the financing of transport operations and
consumer credit while housing finance companies make loans for housing purpose. It
may, however, be stated that the difference in the nature of assets held by commercial
banks on the one hand and those held by NBFCs on the other does not clearly demarcate
the respective fields of the two because commercial banks are also, of late, making
advances in fields like transport and consumer credit, which were earlier considered as
out of their purview.
Many activities and functions of NBFCs are similar to those of banks. The distinction
between them has become considerably blurred. It is true that NBFCs, unlike banks, are
still not a part of payments mechanism. They cannot create money but in many other
respects, they are substitution and complementary with banks.
NBFCs are doing functions akin to that of banks; however there are a few differences:

An NBFC cannot accept demand deposits;

An NBFC is not a part of the payment and settlement system and as such an
NBFC cannot issue cheque drawn on itself; and
Deposit insurance facility of Deposit Insurance and Credit Guarantee Corporation
is not available for NBFC depositors unlike in case of banks.

List of major products offered by NBFCs

Funding of commercial vehicles

Funding of infrastructure assets
Retail financing
Loan against shares
Funding of plant and machinery
Small and Medium Enterprises Financing
Financing of specialized equipment
Operating leases of cars

Need and Importance of NBFCs

With the rise of middle class in India which has reached a certain stage of discernible
economic development, there is a growing demand for property ownership, small-scale
investment, and saving for retirement and a growing need for housing finance,
contractual savings, insurance services, pension plans management and asset
management. These varied requirements cannot be met by the banking system alone, as
commercial banks in India are not functioning as a full- fledged universal banking. This
is being met by opening non-banking financial subsidiaries by practically all the major
banks in India. These subsidiaries are in the form of merchant banks, mutual funds,
insurance companies, primary dealers and other NBFCs. Thus, NBFIs play a crucial role
in broadening access to financial services, enhancing competition and diversification of
the financial sector (RBI, 2005).
With the growing importance assigned to financial inclusion, NBFCs have come to be
regarded as important financial intermediaries particularly for the small-scale and retail
sectors. NBFCs play an important role in promoting inclusive growth in the country, by
catering to the diverse financial needs of bank excluded customers. They promote the
habit of saving among the individuals. By financing real assets and extending credit to
infrastructure projects, NBFCs play a pro-active role in the development process of the
country. Activities undertaken by the NBFCs for achieving inclusive growth in the
country are described below:
Credit to MSMEs: Statistics based on 4th Census on MSME sector revealed that only
5.18% of the units (both registered and un-registered) had availed finance through
institutional sources. 2.05% got finance from non-institutional sources the majority of
units say 92.77% had no finance or depended on self-finance. The fact that a large
segment in the micro and small industries sector does not have access to formal credit
provides a window of opportunity for the NBFCs to design suitable innovative products.
Micro Finance Institutions: NBFC-MFIs provide access to basic financial services such
as loans, savings, money transfer services, micro-insurance etc. to poor people and
attempt to fill the void left between the mainstream commercial banks and money
lenders. Over the last few years NBFC-MFIs have emerged as fast growing enablers in
providing the financial services to the poor people by providing capital inputs to poor,
which generates self-employment, and thereby promotes inclusive growth. To encourage
MFIs, as per the Malegam committee recommendations, RBI has created separate

category under NBFCs. As on date, around 33 MFIs have been registered with RBI.
Monetization of Gold: NBFCs provide loans against security of gold jewellery.
Although banks are also involved in gold loan business, NBFCs gold loans witnessed
phenomenal growth due to their customer friendly approaches like simplified sanction
procedures, quick loan disbursement etc. Gold loan NBFCs help in monetization of idle
gold stocks in the country and facilitate in creating productive resources. Branches of
gold loan NBFCs increased significantly during the last couple of years mostly housed at
semi-urban and rural centers of the country.
Second Hand Vehicle Financing: Apart from providing loan against property, NBFCs
also engage in financing used/ second hand vehicles, reconditioned vehicle, threewheelers, construction equipment besides secured / unsecured working capital financing
etc. Incidentally, in India except NBFCs no other financial sector player finance second
hand vehicles; which are very popular with road transport operators essentially in the
self-employed segment.
Affordable Housing: Another area where NBFCs are participating in the inclusive
growth agenda is affordable housing. Large NBFCs are setting up units to extend smallticket loans to homebuyers targeting low-income customers across the country. Firms are
offering loans of Rs. 2-6 lakh to borrowers with monthly income of Rs.6000 12000
who find it difficult to borrow from the commercial banks. Firms offer easier know-your
customer (KYC) norms such as relaxation in documentation requirements to facilitate
easy access to low-income borrowers.
To sum up, NBFCs role in financial inclusion as explained above, indicate the fact that
they have been game changers in certain areas like financial inclusion especially micro
finance, affordable housing, second-hand vehicle finance, gold loans and infrastructure
finance.

Challenges to NBFCs
The NBFCs in India face some challenges, which restrict them it achieving their
objectives effectively. Some of the major challenges are as follows:
Customer Protection Issues: Protection of customers against unfair, deceptive or
fraudulent practices has become top priority internationally after the crisis. Incidentally,
the Bank has received and is receiving number of complaints against charging of
exorbitant interest rates, raising of surrogate deposits under the garb of non-convertible
debentures, various types of preference shares, Tier II Bonds, etc. Aggressive practices in
re-possessing of automobiles in the case of auto loans and improper/opaque practices in
selling the underlying gold jewellery in the case of gold loans are the two categories in
which relatively more complaints are being received by the Reserve Bank. NBFCs are
often found not to practice Fair Practices Code(FPC) in letter and spirit. Developing a
responsive and proper grievance redressal mechanism is the more important agenda in the
context of this action point.

Camouflaging Public Deposits: NBFCs have been prone to adopt variety of

instruments/ways of accepting camouflaged public deposits for resource mobilization
viz., use of Cumulative Redeemable Preference Shares (CRPS)/ Convertible Preference
Shares (CCPS) / NCDs / Tier 2 capitals. These instruments are generally marketed as any
other deposit products mostly by agents. Furthermore, complaints are received that
deposit receipts issued to customers reveal that the deposits are accepted on behalf of
other group companies, whose operations are very opaque.
No Single Representative Body for the Industry: In the case of NBFCs, there are
multiple representative bodies such as Finance Industry Development Council (FIDC)
for Assets Finance Companies, Association of Gold Loan Companies (AGLOC) for
Gold Loan NBFCs, etc. In addition, RBI has recently issued guidelines for SelfRegulatory Organization for Micro Finance Institutions. This leads to the unclear rules
and regulations, which hamper the growth trajectory of the NBFCs.
Less Asset Reconstruction Powers: NBFCs do not enjoy much power in the asset
reconstruction framework. The SARFAESI Act does not cover NBFCs.
Powers of Regulators: The regulators do not have sufficient power in regulating the
NBFCs. NBFCs, as the entities, especially the unincorporated ones, can sprung in any
nook and corner of the country and can operate with impunity unnoticed, but endangering
their customers interest.
NBFCs are categorized
a) In terms of the type of liabilities into Deposit and Non-Deposit accepting NBFCs,
b) Non deposit taking NBFCs by their size into systemically important and other nondeposit holding companies (NBFC-NDSI and NBFC-ND) and
c) By the kind of activity they conduct.
NBFCs regulated by the RBI are of 10 types, which are described below:

Asset Finance Company(AFC) : An AFC is a company which is a financial

institution carrying on as its principal business the financing of physical assets
supporting productive/economic activity, such as automobiles, tractors, lathe
machines, generator sets, earth moving and material handling equipments,
moving on own power and general purpose industrial machines. Principal
business for this purpose is defined as aggregate of financing real/physical assets
supporting economic activity and income arising therefrom is not less than 60%
of its total assets and total income respectively.
Investment Company (IC): IC means any company which is a financial institution
carrying on as its principal business the acquisition of securities,
Loan Company (LC): LC means any company which is a financial institution
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 but does not

include an Asset Finance Company.

Infrastructure Finance Company (IFC): IFC is a non-banking finance company a)
which deploys at least 75 per cent of its total assets in infrastructure loans, b) has
a minimum Net Owned Funds of Rs. 300 crore, c) has a minimum credit rating of
A or equivalent d) and a CRAR of 15%.
Systemically Important Core Investment Company (CIC-ND-SI): CIC-ND-SI is
an NBFC carrying on the business of acquisition of shares and securities which
satisfies the following conditions:o 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;
o Its investments in the equity shares (including instruments compulsorily
convertible into equity shares within a period not exceeding 10 years from
the date of issue) in group companies constitutes not less than 60% of its
Total Assets;
o 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;
o It does not carry on any other financial activity referred to in Section
45I(c) and 45I(f) of the RBI act, 1934 except investment in bank deposits,
money market instruments, government securities, loans to and
investments in debt issuances of group companies or guarantees issued on
behalf of group companies.
o Its asset size is Rs 100 crore or above and
o It accepts public funds
Infrastructure Debt Fund: Non- Banking Financial Company (IDF-NBFC): IDFNBFC is a company registered as NBFC to facilitate the flow of long term debt
into infrastructure projects. IDF-NBFC raise resources through issue of Rupee or
Dollar denominated bonds of minimum 5 year maturity. Only Infrastructure
Finance Companies (IFC) can sponsor IDF-NBFCs.
Non-Banking Financial Company - Micro Finance Institution (NBFC-MFI):
NBFC-MFI, introduced in Dec 2011, 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: (a) Loan disbursed by an NBFC-MFI to a borrower with a rural
household annual income not exceeding Rs. 60,000 or urban and semi-urban
household income not exceeding Rs. 1,20,000; (b) Loan amount does not exceed
Rs. 35,000 in the first cycle and Rs. 50,000 in subsequent cycles;(c) Total
indebtedness of the borrower does not exceed Rs. 50,000;(d) Tenure of the loan
not to be less than 24 months for loan amount in excess of Rs. 15,000 with
prepayment without penalty;(e) Loan to be extended without collateral;(f)
Aggregate amount of loans, given for income generation, is not less than 75 per
cent of the total loans given by the MFIs;(g) Loan is repayable on weekly,
fortnightly or monthly installments at the choice of the borrower
Non-Banking Financial Company Factors (NBFC-Factors): NBFC-Factor,
introduced in July 2012, is a non-deposit taking NBFC engaged in the principal
business of factoring. The financial assets in the factoring business should

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constitute at least 75 percent of its total assets and its income derived from
factoring business should not be less than 75 percent of its gross income.
The remaining two NBFCs are Mortgage Guarantee Companies (MGCs) and
Residuary Non- Banking Companies (RNBCs).