Prudential regulationi Relationship with the prudential regulatorGeneral powers of the RBI
The RBI was constituted under, and derives its statutory powers to regulate market segments from, specific provisions of the RBI Act. The RBI holds a fairly tight rein over banks, quasi-financial institutions and non-banking financial institutions, and has wide powers of inspection and audit under law, over all banks in India (including foreign banks operating through branches in India). To strengthen banks' balance sheets, the RBI prescribes and monitors prudential norms with regard to income recognition, asset classification and provision, capital adequacy, investment portfolios and capital market exposures. The major market segments under the regulatory ambit of the RBI are interest rate markets, government securities market, money markets, foreign exchange markets, derivatives on interest rates and prices, repo, foreign exchange rates and credit derivatives.
In terms of the BR Act, a bank must submit monthly returns setting out its assets and liabilities in India to the RBI and provide all other information in relation to its banking business as may be requested by the RBI. The RBI also prescribes standards for the quality of the statutory audit and internal audit functions in banks and financial institutions. The government notified changes to the BR Act to empower the RBI to issue directions suo moto to banks to initiate insolvency resolutions under the Insolvency and Bankruptcy Code, 2016 (Insolvency Code) to recover bad loans.ii Management of banksPrivate sector banks
The RBI closely controls the appointment and removal of directors of private sector banks, and its prior approval is required before the appointment of the chairperson, managing director and other full-time directors of a private sector bank. At least half the board of a private sector bank must consist of independent directors.
The directors on the boards of private sector banks must also comply with the fit and proper criteria prescribed by the RBI and the board's composition must meet the specified qualifications as set out above. Further, no two private sector banks are permitted to have common directors. The RBI also has the power (in the public interest or in the interest of depositors, or to secure the proper management of a bank) to supersede the board of directors of a private sector bank, to appoint an administrator to undertake its management, and to reshuffle and reconstitute the board of directors.Specific provisions governing public sector banks
In addition to the conditions mentioned above for private sector banks that are also applicable to PSBs, the government has set up the Banks Board Bureau as an autonomous body to appoint heads of PSBs. With effect from 1 April 2016, the Banks Board Bureau is tasked with the responsibility of appointing full-time directors and the non-executive chairperson of the board of directors of PSBs in a transparent manner using a merit-based selection approach.Small finance and payments banks
The regulations applicable to private sector banks in respect of board composition and management are also applicable to SFBs and payments banks.Board constitution norms for foreign banks
Currently, all foreign banks undertake operations in India through their branches and are therefore not subject to corporate governance norms issued by the RBI. Having said that, the appointment of the chairperson, managing director and other full-time directors of any branch of a foreign bank in India (if appointed) requires prior approval of the RBI. However, in terms of the RBI guidelines applicable to WOS (once incorporated by foreign banks in India), the WOS are required to ensure that at least 50 per cent of the board of directors comprises Indian residents, at least one-third of the directors are Indian nationals and resident in India, the chief executive officer is an Indian resident, and at least two-thirds of the directors of the WOS are non-executive directors. The regulations that govern the appointment of the board of directors of private sector banks also apply to WOS of foreign banks in India.iii Restrictions on remuneration and the payment of bonuses
Generally, employees of all banks in India (including foreign banks operating through branches) are not permitted to be paid remuneration in the form of commission or a share in the profits of the bank. No Indian bank or branch of a foreign bank is permitted to approve or amend the terms of remuneration of its full-time directors or chief executive officer without the prior approval of the RBI. In consonance with the principles of the FSB, the RBI discourages banks in India (including foreign banks operating through branches) from adopting any remuneration structures that encourage or reward an excessive risk-taking approach by the management. The RBI also has the power to restrict compensation for directors and management, including the chief executive officers and executive directors of those SCBs that do not meet the financial parameters set by the RBI.Private sector banks
In private sector banks, the variable component of the compensation payable to full-time directors and chief executive officers is not permitted to exceed 70 per cent of the fixed component in a year. However, where the variable pay constitutes a substantial portion of the fixed pay, an appropriate portion of the variable pay must be deferred for a period. Notwithstanding the general provisions of the BR Act, the RBI has granted general permission to private sector banks to pay compensation (not exceeding 1 million rupees) to non-executive directors in the form of profit-related commission if the bank in question has declared profits.Public sector banks
The RBI in consultation with the government fixes the rate of sitting fees payable to directors on the boards of PSBs. Any performance-based compensation structures for the management of PSBs are also devised by the RBI in consultation with the Ministry of Finance.Foreign banks
The compensation policy of all foreign banks operating through branch offices in India is governed by their head office policies. However, a foreign bank must submit a declaration to the RBI annually from its head office to the effect that its compensation structure in India, including that of the chief executive officer, conforms with the FSB principles and standards.iv Regulatory capital and liquidity
In May 2012, the RBI issued guidelines on the implementation of the Basel III capital regulations that were brought into effect from 1 April 2013. The Basel III norms are being implemented in phases, and were to be fully implemented by 31 March 2019. However, in November, 2018, the RBI extended the timeline for implementation of the Basel III capital regulations by a year. Typically, all SCBs can issue ordinary equity shares with voting rights as part of the Common Equity Tier 1 (CET1) capital. However, if SCBs issue non-voting ordinary equity shares as part of CET1 capital, they must be identical to voting ordinary shares of the issuing bank in all respects except the absence of voting rights.
Typically, SCBs must maintain a total capital equivalent to 9 per cent of their total risk-weighted assets. The RBI has prescribed a minimum capital requirement of 15 per cent of total risk-weighted assets for payments banks and SFBs. Universal banks proposed for a licence under the new at will licensing guidelines are required to maintain a capital adequacy ratio of 13 per cent of their risk-weighted assets for a minimum period of three years after the commencement of operation.
To enable the banking industry to sustain the advantage of healthy financial profiles, the RBI has generally prescribed higher capital adequacy norms than those proposed under the Basel III regulations prescribed by the Basel Committee on Banking Supervision (BCBS). For instance, SCBs must typically maintain CET1 capital of at least 5.5 per cent of risk-weighted assets, as opposed to the 4.5 per cent prescribed by the BCBS. Similarly, according to the Basel III regulations, the total capital required to be maintained by SCBs is 8 per cent, as opposed to the threshold of 9 per cent prescribed by the RBI.
For universal banks proposed for a licence under the new at will licensing guidelines, and any foreign banks setting up WOS, the initial minimum paid-up voting equity capital of the bank must be 5 billion rupees.v Recovery and resolution
Under Indian law, no separate guidelines or procedures have been prescribed on the bankruptcy of a bank or financial institution. Typically, if a weaker bank is facing bankruptcy, it is merged with a stronger and financially sound bank.
Under the BR Act, the RBI has wide powers to manage the financial health of a bank, including the power to supersede the board of directors, impose a moratorium on the bank's functions, prepare a scheme for amalgamation or restructuring, and apply for winding-up. No court in India can approve a winding-up petition against a bank unless the RBI certifies its inability to pay its debt in writing. The RBI can also apply to the courts to suspend an entity's banking business if the bank's business is being conducted in a manner detrimental to the interests of depositors. In the case of a bank being wound up, the RBI may even be appointed as the liquidator.
While there is no separate bankruptcy resolution regime, in terms of the Deposit Insurance and Credit Guarantee Corporation Act, 1961, the government has established the Deposit Insurance and Credit Guarantee Corporation, which automatically insures customer deposits with all commercial banks, up to a limit of 100,000 rupees per depositor. The Insolvency Code seeks to consolidate the laws relating to the reorganisation and insolvency of companies. However, the Insolvency Code is not applicable to reorganisation or insolvency, or both, of any bank in India (including foreign banks operating through branches).