Chapter – 14 Para Banking Services
• Banks provide safe custody of valuables of the customers.
• There are two ways to ensure safety of customer’s valuables:(i) by hiring out safe deposit vaults (lockers).(ii) by accepting the valuables e.g. jewellery, documents etc. (Custodial service)
• Locker is a subsidiary activity offered by bank.
• It is a non-fund based activity that bank offers to the customers.
• The relationship between the Banker and the users of safe deposit locker is that of a lesser and les see.
• Locker can be issued to an individual or two or more persons jointly. Locker can also be issued to Partnership Firms, Limited Companies, Societies, Associations, and Clubs etc.• The Bank provides various sizes of lockers against payment of duly contracted/agreed yearly rent payable in advance to its customers on execution of standard application form specially designed, depending upon the status of the hirer of lockers.
• The intending hirer of locker is expected to maintain a duly introduced account with the branch for establishing identity of the hirer.
• The duly filled and stamped standard application form is required to be signed by both the hirer and the branch official at branch premises for the purpose of entering into an agreement to establish the lesser/lessee relationship.
• Nomination is available in lockers as per section 45 Z of the N.I. Act, 1881.
• Hirer can nominate a nominee in the locker account.
• Nomination can be modified as per the need of the hirer but not before all the hirers have signed a letter of change.
• Signature of all the hirers must be verified with the one on record.
• On the death of the hirer, contents of the lockers can be handed over to the nominee safely unless any legal heir raises a contra issue or gets a stay on the disbursement of the contents to nominee.
Custodial Services by banks
• Customers may deposit his/her valuables/documents etc. with the bank for safety purposes.
• Property / valuables handed over to the bank are not subject to the general lien of the banker
• Mutual Fund is a pool of investors fund to be held, managed, traded or disposed of for higher income for the investors with minimum risk. In simple words mutual fund is also called as ‘Fund’.The money is invested in a wide range of assets. The assets in which the fund will be invested are clearly stated in the fund Prospectus.
• Mutual fund is a mechanism for pooling resources by issuing units to investors.Theresources so mobilized are invested as per objectives of the Fund. Investments are diversied and well spread over a spectrum of instruments.
• For selling of Mutual Fund Schemes, AMFI Certification is required.Important Features of Mutual Fund
MF is a link between savings investors and capital market.
Capital market participants in promoting good corporate governance and investor protection.
A player who brings liquidity into the financial system.
• Mutual Fund is organized as a Trust.
Advantages to Investors
• Reduction in Risk
• Professional Management
• Reduced cost to the Investor
• Better Yields
• Portfolio Diversification
• Economies of scale
• Tax benefits
• Investment ComfortAdvantages to banks
• Fee Based Income.
• Diverse Client base
• Intimate Customer Needs Knowledge
• Customer faith in Bank
• Leverage Branch net work to Mutual Fund distribution.
• Customer Retention.
• Reverse flow of funds
Based on the period of the unit and the amount raised, Funds are categorized as:
Open ended funds
Close ended funds
Income oriented funds
Trust oriented funds
• Open ended fund is one in which no fixed quantum of amount to be raised nor the number of investors and where the investors can buy the unit whenever they want and sell the unit to the Fund at a price (net asset value-NAV) announced by Fund from time to time.
• Close ended fund is characterized by a maximum amount to be pooled by the Fund, fixed period, quick liquidity and having unit price normally less than the NAV.Mis-selling:Mis-selling is an ethically questionable practice of a salesperson misrepresenting or misleading an investor about the characteristics of a product or service. In an effort to make a sale to a potential customer, a financial products salesperson could leave out certain information or describe a financial product as something the investor urgently needs, even though sound financial judgment would come to the opposite conclusion.
Genesis: Bank for International Settlement (BIS) has been the oldest international bank, having its headquarters in Basel in Switzerland. The Central banks of G-10 nations came together in 1974 for the first time to establish broad supervisory standards and best practices for banks and form a Committee called Basel Committee.Purpose of Basel accord was facilitating and enhancing information sharing and cooperation among bank regulators. In 1988, the committee introduced the capital measurement system, commonly known as Basel Capital Accord-I. It fixed that banks should have minimum capital standard of 8% by 1992. Then came the Basel accord –II by overcoming limitations of Basel-I accord. Basel –II accord suggested the concept of capital ratio. In capital ratio numerator represents the required capital by bank and the denominator shows risk weighted assets.Banks were required to maintain capital of not less than 8 percent of their risk-weighted assets. This capital ratio is referred to as risk-based capital (RBC).New capital framework under Basel-II accord consists of three pillars for risk mitigation.
• First pillar indicates minimum capital requirements
• Second pillar indicates supervisory review system, and
• Third pillar forwards the market discipline concept.All these pillars address to the risk reduction processes.
Risks are related to:
Credit Risk, and
Commercial banks in India started implementing Basel-II w.e.f March, 31 2007. RBI was associated with Basel Committee on Banking Supervision (BCBS) from 1997. Basis of emphasis of Basel-II guidelines are:
• Banks to assess their own risks to which they are exposed i.e. credit risk and operational risks
Important regulatory initiatives taken by RBI relevant to adoption of Basel-II are:
• Ensuring banks to have suitable risk management framework as per respective bank’s needs.
• Risk based supervision (RBS) was introduced in banks on pilot basis.
• Encouraging banks to formalize their capital adequacy assessment process (CAAP) in alignment with their business plan.
• Developing areas of greater disclosure and transparency.
Capital structure of banks has now been developed into three categories. These are:
A. Tier-I capital comprising of:
Paid up capital and disclosed reserves
Retained profit and general reserves
B. Tier-II capital comprises of:
Asset revelation Reserves
General Loan Loss Reserves
Hybrid (Debt/Equity) capital
Subordinated Debt capitalRBI has now discontinued the implementation of Basel -II vis-à-vis Basel -I norms and have started concentrating achieving Basel-III norms for which it has issued guidelines. Important points of guidelines are:
BASEL-III NORMS (BASED ON RBI GUIDELINES)
Objectives: Basel III reforms are the response of Basel Committee on Banking Supervision (BCBS) to improve the banking sector’s ability: (i) to absorb shocks arising from financial and (ii) economic stress, whatever the source.
Consequently, the Basel Committee on Banking Supervision (BCBS) released comprehensive reform package entitled “Basel III: A global regulatory framework for more resilient banks and banking systems” (known as Basel III capital regulations) in December 2010.
• Based on RBI Guidelines, banks in India have begun applying Basel-III norms on capital regulation from April 1, 2013 in phases and they will be fully implemented byMarch 31, 2018.
CREDIT RATING AGENCIES:
Main FeaturesThere are many important credit rating companies in India, of which few important are:
1. Credit Rating Information Services of India Ltd. (CRISIL)
2. Investment Information and Credit Rating Agency of India Ltd. (ICRA)3. CARE
4. India Ratings & Research Pvt. Ltd.
5. SME Rating Agency of India Ltd (SMERA)
(a) Credit Rating Information Services of India Ltd. (CRISIL)
• CRISIL provides to its customers an analyzed data on company’s financial health, insights and opinion along with its advice to enable the investor, issuers, policy makers etc. to take investment decision.
• CRISIL helps mainly in the field of credit risk, financial risk, price risk, market risk, liquidity risk and exchange risks.
• CRISIL covers only corporate sector for its analysis.
• CRISIL provides consultancy services to public or private sector enterprises and also State Governments.
(b) Investment Information and Credit Rating Agency of India Ltd. (ICRA)
• ICRA was jointly promoted in 1991 by banking and industrial houses like IFCI, LIC, SBI, some public sector commercial banks, and some financial services companies.
• This was established with the objective of providing guidance to investor and creditors in determining risk associated with investment.
• ICRA in general provides services in the area of crating rating, credit assessment and general assessment about issuers of debt instruments like debentures, bonds, preference shares, fixed deposits, commercial papers etc. It shows that ICRA provides professional services for short term, medium term as well as long term debt instruments.
FINANCIAL INSITUTIONS IN INDIA
After independence, Government / RBI opened many specialized financial and development institution to bridge the gap in the capital market and provide various facilities like loans, underwriting of issues, guaranteeing deferred payment of entrepreneurs, training and skill development of entrepreneurs and help in promotional aspects of business. These financial institutions are broadly categorized into (i) All India institutions, and (ii) State level institutions, depending upon the geographical coverage of their operations. At the national level, Financial Institutions provide long and medium term loans at reasonable rates of interest. Their activities include subscribing to the debenture issues of companies, underwrite public issue of shares, guarantee loans and provide deferred payments facilities, etc. On the other hand, the State level institutions help in the development of medium and small scale enterprises, but the activities are by and large the same as for the national level institutions.
Important national and State level financial institutions are:
• Industrial development bank of India established in 1964 (IDBI)
• Industrial Finance Corporation of India established in 1948. (IFCI)
• Industrial Credit & Investment Corporation of India started in 1955 (ICICI)
• Technology Development & Information Co. of India Ltd (TDIC)
• Life Insurance Corporation of India established in 1956 (LIC)
• Unit Trust of India started in 1964 (UTI)
• State Financial Corporations (SFC)
• State Industrial Development Corporation (SIDC)
• NABARD established in 1982
• EXIM bank in 1982
• National Housing Bank in 1988, (NHB)
• Infrastructure Development Finance Company Ltd (IDFC) in 1997 etc.
1. Industrial Finance Corporation of India
• This corporation was set up as first development financial institution in 1948 under the IFCI Act, with the main objective of providing medium and long term finance to industries starved for funds at that time for new projects, diversification, expansion and modernization.
• Initially IFCI was established under the act of Parliament but later in 1993, July,1 it became a company under Indian Companies Act, 1956 with, however, Government holding maximum shares.
• IFCI has over all these years diversified its activities in the field of merchant banking, syndication of loans, formulation of rehabilitation programmes for sick industrial units, activities relating to amalgamations and mergers, etc.
2. Industrial Development Bank of India (IDBI)
• IDBI came into existence in July 1964 in the form of apex financial institution.
• Main objective of its setting up was to help medium and large industrial units financially to usher industrial development in the country.
• IDBI provides financial assistance in two ways: (i) Direct assistance, and (ii) Indirect assistance.
• Direct assistance is provided by way of project loans, underwriting of and direct subscription to industrial securities, soft loans, technical refund loans, etc.
• Indirect assistance is in the form of refinance facilities to industrial concerns.
3. Small Industries Development Bank of India (SIDBI)
• SIDBI was established by the Government of India in April 1990, as a wholly owned subsidiary of IDBI. • It is the principal financial institution for promotion, financing and development of small scale industries in the economy.
• It aims to empower the Micro,Small and Medium Enterprises(MSME) sector with a view to contributing to the process of economic growth, employment generation and balanced regional development.
4. Industrial Credit & Investment Corporation of India Ltd. (ICICI)
• ICICI Ltd. is originally known as Industrial Credit & Investment Corporation of India was established as a joint stock company under the Indian Companies Act, 1955.
• The objective of its opening was to help industrial sector with permanent financial solution provider. It started its functions as a handling organization as well as helping with long term funding source.
• At present ICICI provides following support to industries:
Merchant Banking activities.
• ICICI started as a company free from the Government controls. It found its own place in the market with its policies and management.
• ICICI has also floated its own bank by the name ICICI Bank.
• ICICI’s funding has been through market borrowings and overseas capital markets, besides other local sources.
5. Unit Trust of India (UTI)
• Unit Trust of India (UTI) was established under the UTI Act, in 1963
• The purpose of its establishment was to encourage savings and investment among savers at all levels.
• Its main function is to mobilize savings of public and channelize in productive channels for economic development of the country.
• Main objective of such mobilization of savings was to help and motivate middle and low income groups to invest in schemes and enable them to share the benefits of the rapidly growing industrialization in the country.
• In December 2002, the UTI Act, 1963 was repealed with the passage of Unit Trust of India (Transfer of Undertaking and Repeal) Act, 2002, paving the way for the bifurcation ofUTI into 2 entities, UTI-I and UTI-II with effect from 1st February 2003.
6. National Housing Bank (NHB)
• National Housing Bank is wholly owned subsidiary of Reserve Bank of India established under the National Housing Bank Act, 1987.
• NHB is national level apex financial institution having a primary role of providing refinance to housing companies and banks doing the business of housing.
• NHB’s main functions include: (i) extending financial assistance to housing finance institutions, (ii) formulate schemes of mobilization of resources and extension of credit for housing projects, (iii) formulate schemes for weaker sections of society at subsidized rates of interest etc., and (iv) providing guidelines to the housing financing institutions
• Share capital of NHB is largely contributed by RBI. However, NHB is empowered to raise line of credit from foreign sources like USAID Housing Guarantee Programme, Overseas Economic Cooperation Fund (OECF) of Japan etc. NHB also raises funds from debt market by offering bonds.Some State level financial Institutions are:
1. Andhra Pradesh State Financial Corporation (APSFC)
2. Himachal Pradesh Financial Corporation (HPFC)
3. Madhya Pradesh Financial Corporation (MPFC)
4. North Eastern Development Finance Corporation (NEDFI)
5. Rajasthan Finance Corporation (RFC)
6. Tamil Nadu Industrial Investment Corporation Limited
7. Uttar Pradesh Financial Corporation (UPFC)
8. Delhi Financial Corporation (DFC)
9. Gujarat State Financial Corporation (GSFC)
10. The Economic Development Corporation of Goa ( EDC)
11. Haryana Financial Corporation ( HFC )
12. Jammu & Kashmir State Financial Corporation ( JKSFC)
13. Karnataka State Financial Corporation (KSFC)
14. Kerala Financial Corporation ( KFC )
15. Maharashtra State Financial Corporation (MSFC )
16. Odisha State Financial Corporation (OSFC)
17. Punjab Financial Corporation (PFC)
18. West Bengal Financial Corporation (WBFC)
19. Assam Industrial Development Corporation Ltd (AIDC)
REFORMS IN BANKING SECTOR
Banking sector reforms were required because of the following reasons:
To create and enable environment for banks to overcome external constraints like interest rates, high levels of preemptions in the form of reserves, credit allocation to certain sectors etc.
To create policy environment of public ownership and reduce the equity of government in banks and enhancing the transparency and disclosure standards.
To enhance efficiency and productivity through competition.
• The reforms introduced in the banking and financial sector are:
Introduction of legal reforms by establishing Board for Financial Supervision (BFS) in 1994.
Passing of credit information companies (regulations) bill, 2004
Establishing best regulatory framework and supervisory practices matching with best in the world through introduction of CRAR and investment fluctuation reserve (IFR) out of profits towards interest rate risk, investment etc.
Prescribing prudential guidelines and encouraging market discipline.
• The special features of reforms are:
(i) financial sector reforms were undertaken early in reform cycle,
(ii) financial sector was not driven by any crisis and reforms have not been an outcome of multilateral aid,
(iii) reforms were designed with the country in mind,
(iv) government preferred that public sector banks manage the overhang problems of past rather than clean up the balance sheet with government aid.
• The banking/financial sector reforms have been the outcome of
(a) Report of the committee on financial system (M. Narasimham Committee-I) in 1991
(b) Report of the High Level Committee on Balance of Payments, 1992 (Dr. C. Rangarajan Committee)
(c) Report of the committee on banking sector reforms, 1998 ( M. Narasimham Committee-II)
Important impact of reforms on the banking system is:
Overall efficiency and stability improved through manpower management, cost reduction and business per employee
Capital adequacy matches with international levels.
Gross NPAs have come down from whopping around 15% to around 3% in 2012.
Improvement in profitability in banks Narasimham
Committee Report-II recommended the handling of critical issues like:
Required action to strengthen the foundation of banking system.
Procedural, and technological aspects
Structural changes in the system
Reorientation of human resource development.
Actions taken by Reserve Bank of India on reforms are:
Portfolio of government securities of banks is marked to market and adjustment, if any, announced.
Government and other approved securities have been assigned a risk weight against ‘Nil’ earlier.
Capital adequacy ratio raised from 8% to 10% in 2002 and to 12% in 2006 and further 16 % by 2018 as per Basel-III norms.
Setting up of an Asset Reconstruction Fund (ARF) to enable banks to issue bonds which form part of the Tier-II capital.RBI has further taken steps to tighten the implementation of reforms:
By tightening of definition of a loan account declared as NPA
By reducing gross NPA to 3% and Net NPA to 0%.Accrual of interest for income recognition is reduced to 90 days.
Introduction of minimum 1% provision for even standard assets.
• On the structural reforms as recommended by the Narasimham Committee Report-II, RBI and Government of India have taken certain important steps, like:Voluntary merger of banks for promoting consolidation of banking industry
Foreign banks allowed to set up subsidiaries or joint ventures in India
Minimum share holding by government/RBI in equities of nationalized banks to be brought down, preferably to 33%.
Entry of private sector banks permitted subject to approval of RBI and initial capital requirement of Rs.500crores
INFORMATION TECHNOLOGY ACT, 2000 (AS AMENDED): SALIENT FEATURES
• In India, Law of Evidence till year 2000 required evidence which was paper based. However, commerce and trade, including banking found huge paper work leading to piling of papers to ensure that in case of need paper evidence could be produced in the court of law.
• Need was felt for legal changes for better and effcient e-commerce.TheGovernmentof India took the call of time and introduced a suitable Bill in 1999 called Information Technology Bill, 1999.
• Purpose of this Bill was to reduce paper work and provide a legal recognition to electronic records and digital signatures. It was felt that such law will recognize electronic records and digital signatures that will in turn improve electronic communication through internet etc.
• The Bill was passed by both houses of the Parliament and got the assent of the President of India in August, 2000. This Bill came to be called then as Information Technology Act, 2000.
• This has brought dramatic changes in e-commerce. People of all walks of life are increasingly using this technology instead of paper documents. It is cheaper, easier to store and retrieve speedily huge data at a fast speed.
• It helps to provide legal sanctity to electronic records and other activities carried through electronic means.
• This Act states that unless otherwise agreed, same shall have legal validity and enforceability.
• The Act was amended by Information Technology Amendment Bill 2006, passed in Lok Sabha on Dec 22nd and in Rajya Sabha on Dec 23rd of 2008 .
• Through this Act the provisions to provide growth of electronic based transactions, to provide legal recognition for e-commerce and e-transactions, to facilitate e-governance, to prevent computer based crimes and ensure security practices and procedures in the context of widest possible use of information technology worldwide have been fulfilled.
OBJECTIVES OF IT ACT, 2000
Objectives of the Act are:
• To grant legal recognition for transactions carried out by means of electronic data interchange and other means of electronic communication commonly referred to as “electronic commerce” in place of paper based methods of communication;
• To give legal recognition to Digital signatures for authentication of any information or matter which requires authentication under any law. To facilitate electronic filing of documents with Government departments.
• To facilitate electronic storage of data
• To facilitate and give legal sanction to electronic fund transfers between banks and financial institutions
• To give legal recognition for keeping of books of accounts by banker’s in electronic form.
• Digital signatures help the receiver of information to verify correctness and authenticity of origin of information. Receiver can also verify that the information is safe. In simple words digital signature
• A digital signature also prevents the sender of information to latter deny having not sent the information.
• A digital signature serves the same purpose as a handwritten signature.
• Handwritten signature is easy to counterfeit but digital not. • A digital signature provide authentication and data integrity.
• Digital signature also identity of the signer and is better than handwritten signatures since former are more secured.
• Merchant banking is a consultancy service provided to corporate bodies for project development and fund raising.
• Merchant banking activities include providing advice to corporate for promoting a new body and managing public issues for raising capital. In other words major functions undertaken by merchant bankers include issue management, market maker and capital restructuring or structuring.
• To become a merchant banker, approval of SEBI is required and a minimum net worth is required.
• Factoring is mainly a receivable management function undertaken by a ‘Factor’. • It relates to company’s book debts which are held up due to some reasons and company is not able to en-cash own its own.
• Many a time, suppliers of goods and services in small scale sector face working capital shortage due to non-receipt of payments from buyers. Such trade credit gets locked up in the form of receivables.
• Timely collection of receivable help improve the cost of funds and efficiency.
• Such small and medium enterprises sometimes are forced (circumstantially) to
• Such receivables at discount to a company, called “Factoring Company” so that remaining funds can be can be used productively. Such people who takeover the receivable at discount are called “Factor”.Types of factoring
• Six types of factoring services are available:
Full Service Factoring (without Recourse)
Full Service factoring with Recourse
Credit factoring i.e. Invoice Discounting
Debt Administration (or maturity factoring)
• Benefits of Factoring
Elimination of trade discount paid to customers
Incentive discount for early payment not required
Prompt payments and credit
Savings in cost and time
Increased return to client
Improve in liquidity