Non-Banking Financial Companies in India: Significance, Benefits & Challenges
NBFCs or Non-Banking Financial Companies emerged as the most innovative financial institution in India that backed its economy. This financial institution gives wings to Micro, Small, and Medium Enterprises (MSMEs). It brought affordable and approachable financial support for the growth of various industries including infrastructure, education, technology, and healthcare. NBFCs established under the Companies Act 1956 provide financial assistance to businesses and individuals under the limitations and directions of the RBI. It is also involved in extending services like venture capital finance, housing finance, insurance, leasing, and hire purchase. It has been one of the financial sector services which grew 22% every year and drastically beat the banking sector between 2006 and 2013. It has also witnessed a growth of 25.7% when the country’s GDP growth slowed down to 6.3% in 2011-12 from 10.5%. It has contributed exceptionally to India’s financial sector over the years.
Significance of NBFCs for Indian Economy
NBFCs have contributed Ito the Indian economy on a large scale by lending over one-third or 35.8% of their total assets while banks lent only 7.6%. This financial institution has been catering in urban and rural areas that eventually promoted inclusive growth in the country.
MSMEs, self-employed professionals, and micro-entrepreneurs opened doors for employment opportunities and occupation services with the help of NBFCs.
Governed by the RBI, NBFCs also set solutions and customer protection policies to safeguard their customers. Hence, they implement a detailed strategic plan for operation transparency, liquidity maintenance, disclosure of information and risk management, etc.
NBFCs brought a revolution in the financial service sector through the technology-driven process, multi-channel existence, and customized products for various financial requirements.
What factors made NBFCs more successful than the banking sector?
As we already discussed that NBFC sector has exceptionally contributed to the growth of the Indian financial system. It has come up as the preference for business loans, retail lending, etc. Thus, it encompasses a major share in business loan financing. This financial intermediary witnessed more profits than the banking sector because of its feasibility and convenience. Let’s have a look at the major factors which made it more successful than the banking sector.
- Quick Loan Reimbursement
Availing loan facilities through banks involves a long stringent paperwork process that ultimately delays the disbursement. While NBFCs loan facility is somewhere flexible with less documentation and minimum eligibility. It makes loan processing simple and convenient. Hence, NBFCs came up as the most satisfactory financial institution among the customers for their financial requirements.
- Affordable Interest Rates
Finding a competitive interest rate for a loan is the main concern among loan seekers. As compared to banks, NBFCs offer the lowest interest rates on business loans which are stipulated based on the Prime Lending Rate (not regulated by RBI). For SME loans, interest rates may vary. It is a vital factor that made NBFCs the most preferred financial institution than the traditional banks.
- Convenient Eligibility Criteria
NBFCs follows a flexible and convenient approach for loan eligibility. Instead of having a low credit score, an individual can qualify for a loan from NBFC. Many of them don’t even require any collateral and they disburse the loan. While the traditional system in banks may refuse the loan application if a borrower is not able to furnish the required documents.
Challenges Faced By NBFCs in India
Non-Banking Financial Companies captured a huge market share and made more progress rapidly than the banks. Still, these financial institutions have to face difficulty to survive in the market. Let’s discuss the challenges faced by NBFCs:
Complicated Process to Obtain NBFC License & Its Compliances
Reserve Bank of India has set complicated documentation procedures that need to be followed by Non-Banking Financial Companies. As well, the compliances are different from one NBFC to another. An individual running a company of loans, advances, and bad loans gets difficulty accomplishing all compliances set by the Reserve Bank of India.
Presence of Many Representatives
Many representatives are one of the causes of imbalanced growth in NBFCs. This financial institution is still in its early stage. It needs only a representative body to run a smooth system and facilitate the balanced growth of NBFCs.
Inequality in Tax Structure
Banks and NBFCs have different tax structures i. e. TDS, dual taxation on lease/hire purchase, etc. This disparate tax treatment cause inequality between them.
Ever-Increasing Non-Performing Assets
Businesses with irregular cash flow have to face delays in payments, which result in the accumulation of bad loans and the problem is increasing with such a high speed posing threat to the lucrative sector of the economy.
Shortage of Defaulter Database
NBFCs have to face credit risk due to the shortage of defaulter databases. Implementation of legal amendments to leverage the utility payment database for the credit assessment process is required to run a smooth operation.
Absence of Statutory Recovery Tool
In the case of bad loans or Non-Performing Assets, there is a lack of statutory recovery tool that affects the sustainability of NBFCs in India. The absence of a Proper Channel in scheduling the payments and comprehensive debt resolution for settlements favoring the interests of all the stakeholders have been a big challenge in the realization of these Non-Performing Assets. Nowadays, some debt resolution consulting companies assist in the recovery of bad loans and help in the complete resolution of pending cases.
Absence of Refinancing Option
In India, banks and housing financing companies have various options to refinance. While NBFCs have to depend on the banks or capital marketing for the same. This unfavorable condition has caused issues for its sustainable growth.
Approaches to Tackle the Challenges Faced by NBFCs
Above mentioned challenges are countless that NBFCs have been facing over the years. But some solutions can help to overcome these challenges. They can associate with Financial Technology players to avail of quick, affordable, and better services for lending, payments, brokerage, and credit scoring. There must be a vital business plan with proper monitoring of the operations.
NBFC must implement a risk management framework to identify the threats to the organization. It must hire Subject Matter professionals / consulting firms who help as a legal recovery or Debt Resolution tool for the bad loans or Non-Performing Assets. They can also assist in the documentation, license, and compliances and deliver services to tackle the obstacles of NBFCs. There should also be co-originating lending that can help to avoid the funding risk in the future.