SMALL FINANCE BANKS

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Context

Ujjivan Small Finance Bank (SFB) has raised interest rates on domestic term deposits below RS 2 crore.

Small Finance Banks

Small finance banks are a type of bank that helps those sections which do not get support from other banks.
Small finance banks provide basic bank facilities to the economical sections which are not supported by the other banks.
It helps to provide financial aid to the small business units, small or marginal farmers, micro or small industries. It includes small scale businesses, the unorganized sector, low-income households, farmers, etc.
Small finance banks are registered as a public limited company under companies act in 2013. It is licensed under section 22 of the banking regulation act 1949.
It is governed by the provisions of the banking regulation act 1949 and the Reserve Bank of India act 1934.
Reserve bank of India wants to help the weaker sections of the economy ie Rural and Semi-urban areas.

Features

Small finance banks let their depositors invest in current accounts and savings accounts, fixed deposits, commercial papers, refinancing, etc.
Small finance banks provide two types of loans that are individual and group loans. The group loans are offered on joint liability. If a member of the group fails to pay the amount then the whole group is liable for the loan.
Small finance groups require prior approval every time from the RBI when they want to establish a new branch.
Small Finance Banks also require to extend 75% of their Adjusted Net Bank Credit (ANBC) to the classified sectors under the priority sector lending (PSL) by the RBI.

Objectives

The objective of small finance banks

Its main and foremost purpose is to provide an institutional mechanism for promoting savings among the rural & semi-urban sections of society.
It helps in the supply of credit to small business units; small & marginal farmers; micro & small industries and other unorganized sectors.

How is Small Finance Bank different from Commercial Banks?

Small Finance Bank

Small finance banks were recommended by the NachiketMor Committee on Financial Inclusion.
Area of operations will be smaller.
Can's extend large loans.
50% loans to Micro, Small and Medium Enterprises (MSME) Sector.
For Initial 3 years, 25% branches must be in rural areas to tap those areas.
Not allowed to set up a subsidiary to offer non banking financial services to the customers.
Target customers are MSME, Small Farmers, Small Businessman, Unorganized Workers, etc.
Cooperative bank can't apply for license of small banks.
Small finance banks are governed by the provisions of Reserve Bank of India act 1934, Banking Regulation act 1949 and other relevant statutes.

Commercial Bank

Commercial Bank has no restrictions on providing any kind of products, functions and services to the customers.
Commercial banks in India can extend lending services such as home loans, personal loans, etc. without any restriction.
No cap on accepting deposits from its customers.
Can issue Debit as well as Credit Cards.
Commercial banks are allowed to invest the money they collect in form of deposits in open market.
Commercial banks can provide foreign exchange services however different banks charges are different for these services.

In a nutshell,

Rules for Small Finance banks

Small finance banks will perform basic banking services of accepting the deposits and lending money to backward sections.
It will provide banking facilities to boost saving habits among rural people.
These small finance banks are established as a public limited company. They may be promoted either by individuals, corporate, trust or societies.
These are governed by the provisions of the Reserve Bank of India act 1934 and the Banking Regulation Act 1949.
Small Finance Banks cannot borrow funds from the Reserve Bank of India, unlike any other scheduled bank.

Eligibility Criteria for Banks

Paid Up Capital Rs. 100 Crores.
Promoters minimum initial contribution to above 40%(to be bought to 26% within 12 years of commencement).
Foreign Shareholding as per FDI policy for private banks.
Subjected to all prudential norms and regulations of commercial banks.
Extend 75% of ANBC to the sectors classified as PSL.
At least 50% of its loan portfolio should constitute of loan and advances up to 25 lakh.

Registration of SFBs

SFBs are registered as a public company under the Companies Act, 2013.
They are licensed as under Section 22 (1) of the Banking Regulation Act, 1949 (“BR Act”).
They are to be governed by the RBI Act, 1934; BR Act; Payments and Settlements Act, 2007; Credit Information Companies (Regulation) Act, 2005; Deposit Insurance and Credit Guarantee Corporation Act, 1961; and any other relevant guidelines and prudential norms issued by the RBI or any other regulators from time to time.
SFBs are to be given the status of a scheduled bank once they start their operations and would be found relevant to Sec 42 (6) (a) of the RBI Act, 1934.

Norms of SFBs

The SFBs are subject to all the prudential norms and regulations of RBI as applicable to existing commercial banks including the requirements related to Cash Reserve Ratio (“CRR”) and Statutory Liquidity Ratio (“SLR”).
The SFBs are required to extend 75 per cent of their Adjusted Net Bank Credit (ANBC) to the sectors eligible for classification as priority sector lending (“PSL”) by the RBI. At least 50 per cent of their loan portfolios should have loans and advances of up to Rs. 25 L.
SFBs must have 25% of its branches set up in unbanked areas.
SFBs cannot set up subsidiaries to undertake non-banking financial service activities.

FDI in SFBs

The foreign shareholding in SFBs will be per FDI policy for private sector banks as amended and notified from time to time.
As per the current FDI policy, the aggregate foreign investment in a private sector bank from all sources will be allowed up to a maximum of 74 per cent of the paid-up capital of the bank (automatic up to 49 per cent and govt. approval route beyond 49 per cent to 74 per cent). At all times, at least 26 per cent of the paid-up capital will have to be held by residents.
Further, in the case of foreign institutional investors (“FII”)/ foreign portfolio investors (“FPIs”)/ individual FII/FPI holding is restricted to 10% of the total paid-up capital.
Moreover, Qualified Foreign Investors are not allowed to hold more than 24% of the total paid-up capital, which can be raised to 49% of the paid-up capital with the approval from the Board of Directors through a resolution, followed by a special resolution to the effect by its general body.

What will be their transition path?

If any particular SFB would want to transition themselves to a universal bank, they would have to apply to the RBI and fulfil the requirements notified by the central bank from time to time.
This transitioning is mainly based on the last five year’s performance of the SFB and the due diligence by the RBI.
After being transitioned into a universal bank, the SFB will be subject to all the rules & regulations which are applicable to universal banks.

A universal bank is a bank that combines the three main services of banking under one roof. The three services are wholesale banking, retail banking, and investment banking. In other words, it is a retail bank, a wholesale bank, and also an investment bank.

SFBs in India

The operational SFBs in India are as follows:

Ujjivan Small Finance Bank
Jana Small Finance Bank
Equitas Small Finance Bank
AU Small Finance Bank
Capital Small Finance Bank
Fincare Small Finance Bank
ESAF Small Finance Bank
North East Small Finance Bank
Suryoday Small Finance Bank
Utkarsh Small Finance Bank

Conclusion

The main objective behind setting up SFBs was to cut down the cost of banking and serve the rural and semi-urban areas of the country. This would be done through the strategy of giving better rates to the consumer for savings and loans.
SFBs are instituted to service the small business of the country which is hugely dependent on the high rate unorganized lending sector for their financial needs. S
SFB is a huge step towards financial inclusion and financial literacy of the masses by the central bank.

Small Finance Bank Vs Payments Bank Vs Commercial Bank

Basis of Difference	Small Finance Bank	Payments Bank	Commercial Bank
Who can promote	Individuals/ professional having 10 years experience in finance, NBFCs, microfinance companies, local area banks, etc.	Can be promoted by Telecom Companies, Prepaid Card Issuers, NBFCs, Supermarket Chains, PSUs, etc.	As per guidelines issued by RBI
Promoter's Share	40% in starting Then can be gradually brought down to 26% in 12 years	40 % for first Five 5 years from the date of commencement of business	As per guidelines issued by RBI
Capital Required	Minimum Paid Up capital should be 100 Crores	Minimum Paid Up capital should be 100 Crores	Commercial banks have enormous amounts of capital.
Regulatory Requirements	Meet CRR and SLR set by the RBI	Meet CRR and SLR set by the RBI	Meet CRR and SLR set by the RBI
Customer Reach	Customers are reached through its branches	Customers are reached through Mobile banks	Customers are reached through its branches
Demand Deposit	Can accept demand deposit like savings deposit without any fixed limit	Can accept demand deposit like savings deposit only upto Rs. 1 lakh	Can accept deposit without any fixed limit
Time Deposit	Can accept Time Deposit such as Fixed Deposit and Recurring Deposit	Can't accept Time Deposit such as Fixed Deposit and Recurring Deposit	Can accept Time Deposit such as Fixed Deposit and Recurring Deposit
Loan	Can offer loan. Must extend 75% loans to priority sectors	Cannot offer loan	Can offer loan to its customers
Remittance Services	Can provide Remittance Services	Can provide Remittance Services	Can provide Remittance Services
Online Banking Solutions	Can offer online banking services	Can offer online banking services such as bill payment, etc.	Can offer online banking services
Revenue	Earns revenue through leding services	Earns revenue through transaction charges and fee income for remittances	Earns revenue through leding services, transaction charges, etc.
Debit Card	Can issue Debit Card and ATM Card	Can issue Debit Card and ATM Card	Can issue Debit Card and ATM Card
Credit Card	Can issue credit cards	Can't issue credit cards	Can issue Credit Card
Target Customers	MSME, Small Farmers, Small Businessman, Unorganized Workers, etc.	Poor migrant labourers, unbanked Indians, under-banked customers, low-income households and small businesses	Not restricted to any region
Forex Services		Can provide Forex Services and can charge less than commercial bank for these products	Can provide foreign exchange services, however, different banks charges are different for these services
Adoption of Technology	Should be fully technology driven right from the beginning	Should be fully technology driven right from the beginning	Gradually implementing latest technology like online transactions, mobile banking, etc.
Branches	For Initial 3 years, 25% branches must be in rural areas to tap those areas	Must have 25% branches in rural areas	Can open branches anywhere in India
Third Party Products	Can sell third party products like mutual funds, indurance, pension products, etc.	Can sell third party products like mutual funds, indurance, pension products, etc.	Can sell third party products like mutual funds, indurance, pension products, etc.

Read:

Microfinance Institutions:

https://www.iasgyan.in/daily-current-affairs/microfinance-institutions-mfis

Cooperative Banks:

https://www.iasgyan.in/blogs/all-about-cooperative-banks-in-india#:~:text=Cooperatives%20Banks%20are%20registered%20under,Cooperative%20Societies)%20Act%2C%201965.

https://www.livemint.com/industry/banking/this-small-finance-bank-hikes-interest-rates-on-fixed-deposits-11655088622992.html