The RBI's recent guidelines for on-tap licensing of new private sector banks is a key reform with the RBI moving away from its policy of allowing applications for licenses only during a specific period to a policy allowing applications whenever required.
In 2013, the Reserve Bank of India (RBI) had issued guidelines for the licensing of new banks in the private sector. With a view to increasing competition, and as part of its larger push towards financial inclusion, the RBI issued guidelines providing a framework for 'on-tap' licensing last week (Guidelines). On-tap licensing means a system where licenses are given on an ongoing basis as opposed to only in specific windows of time. The salient features of the Guidelines have been summarized in this update.
New banks can be promoted by individuals who are residents in India, private sector entities/groups that are 'owned and controlled' by residents or existing NBFCs that are 'controlled' by residents. Promoters also have to comply with other conditions set out in the Guidelines. Large industrial houses (i.e. groups with assets exceeding INR 50 billion (approx. USD 748 mn) and with the non-financial business of the group accounting for 40% or more of the total assets/gross income of the group), as well as NBFCs which are part of such groups, are not eligible to be promoters. However, large industrial hosues are permitted to invest upto 10% in new banks as long as they do not have a controlling interest or any director appointment rights.
The promoters/promoter group should be 'fit and proper' persons with a past record of sound credentials, integrity, and a successful track record of running their businesses for at least 10 years (in the case of individuals, this experience should be in the banking and finance space at a senior level).
Minimum capital, foreign participation and lock-in
New banks are required to have a minimum paid-up capital of INR 5 billion (approx. USD 75 mn), and are required to maintain this minimum net worth at all times.
Foreign shareholding in new banks would be as per the extant FDI policy (which currently permits foreign investment upto 74%, with foreign investment upto 49% being under the automatic route, and between 49% and 74% being under the government approval route). This is a relaxation from the earlier regime where aggregate foreign investment was limited to 49% for the first 5 years, and there were also limits on how much a single non-resident entity/group could hold.
Promoters/promoter groups are required to maintain a minimum holding of 40% of the paid-up voting equity capital of the new bank for a period of 5 years from the date of commencement of business. Any shareholding in excess of 40% needs to be brought down to 40% within 5 years from the date of commencement of business. This holding is required to be further brought down to 30% within 10 years, and 15% within 15 years from the date of commencement of business. The new banks are also required to get their shares listed on a stock exchange within a period of 6 years from the commencement of business.
The new banks have to provide a 'realistic and viable' business plan in support of their application. Any deviation from the business plan may result in the RBI effecting a change in management, limiting expansion, and/or imposing penal measures.
The business plan is also required to address how these new banks propose to achieve financial inclusion. Further, new banks have to comply with priority sector lending targets (as applicable to existing domestic banks) and have to open at least 25% of their branches in unbanked rural centres.
The promoter shareholding in these new banks is required to be held through a Non-Operative Financial Holding Company (NOFHC). The NOFHC will act as the holding company for the bank, as well as other financial services entities within the promoter group. However, the NOFHC structure is not mandatory for individuals or standalone private entities/ converting entities which do not have any other group entities.
The NOFHC is required to be registered with the RBI as a NBFC, and at least 51% of the total paid up equity capital of the NOFHC has to be held by the promoter/promoter group which should comprise only of individuals, non-financial services entities, and core investment companies/ investment companies. Individuals within the promoter group, along with their relatives and associated entities, cannot hold voting equity shares in excess of 15% in the NOFHC. The non-promoter holding is limited to 49% (with a further sub-limit of 10% for individiuals (along with their relatives and associated entities).
Any change in shareholding which results in a shareholder transfering/ acquiring 5% or more of the NOFHC requires the prior approval of the RBI.
Corporate governance and regulatory compliance
The RBI has set out several requirements to ensure high standards of corporate governance, transparency and capital adequacy in both the new banks and the NOFHCs. This includes (i) a prohibition on cross-holdings, (ii) considerable restrictions on intra-group exposures, (iii) a requirement to have 'independent' directors comprise a majority of the board at the new banks, and at least half the board of the NOFHC, (iv) maintaining an arm's length relationship with promoter/ promoter group entities, and the major suppliers and major customers of these entities, and (v) applying income recognition, exposure, capital adequacy and prudential norms on a solo and a consolidated basis across the new bank, the NOFHC and all other financial businesses under the NOFHC.
Application deadlines and process
The application window for new licenses will be open 'on tap' i.e. applications may be submitted to the RBI at any point of time, as desired by the applicant.
At the first stage, the applications will be screened by the RBI to ensure prima facie eligibility, and will then be handed over to a Standing External Advisory Committee (SEAC) (constitution to be announced in future) for their recommendations. The recommendations made by the SEAC will then be examined by the Internal Screening Committee (ISC) consisting of the governor and the deputy governors of the RBI. The ISC will then submit its recommendations to the Committee of the Central Board of the RBI, which will have the final discretion in granting an 'in-principle approval' for new banking licenses. While no specific timeline has been prescribed under the Guidelines, the RBI on its website has indicated that it typically takes 90 days to process applications for in-principle approvals.
The in-principle approval granted by the RBI will be valid for 18 months from the date of grant of the approval, and the new banks have to commence business within this period.
In recent years, the RBI has taken a number of initiatives (including issuing licenses for payment banks and small finance banks) to deepen India's banking sector. The Guidelines represent a continuation of these efforts. Interested market participants will also continue watching this space closely, as it is anticipated that the RBI may in the coming months introduce a framework for more differentiated licenses – this time, for custodian banks and banks concentrating on wholesale and long-term financing.