The Centre for Internet and Society
http://editors.cis-india.org
These are the search results for the query, showing results 1 to 5.
RBI and Regulation of Digital Financial Services in India, 2012-2016
http://editors.cis-india.org/raw/rbi-regulation-digital-financial-services-in-india-2012-2016
<b>The Reserve Bank of India (RBI) published its first guideline on mobile banking in 2008, and the conversation on integrating Aadhaar numbers with bank account numbers on one hand and mobile numbers on the other started as soon as UIDAI was established. However, it is the post-2010 period, with rapid growth of the e-commerce sector in India, that saw rise of digital financial services and intermediaries, and hence the demand for regulatory intervention in the sector. This essay by Shivalik Chandan tracks RBI policies and guidelines responding to and shaping the regulatory framework of the digital financial sector in India, including both mobile banking and online transactions.</b>
<p> </p>
<p>1. <strong><a href="#1">Introduction</a></strong></p>
<p>2. <strong><a href="#2">Mobile Banking in India</a></strong></p>
<p>2.1. <strong><a href="#2-1">Customer Enrolment Issues identified by the RBI</a></strong></p>
<p>2.2. <strong><a href="#2-2">Technical Issues identified by the RBI</a></strong></p>
<p>2.3. <strong><a href="#2-3">The Way Forward</a></strong></p>
<p>3. <strong><a href="#3">Online Payments in India</a></strong></p>
<p>3.1. <strong><a href="#3-1">Regulatory Response to Online Payment Instruments</a></strong></p>
<p>3.2. <strong><a href="#3-2">Infrastructure for Online Payments between Private Parties</a></strong></p>
<p>3.3. <strong><a href="#3-3">Infrastructure for Online Payments involving the Government</a></strong></p>
<p>3.4. <strong><a href="#3-4">The Way Forward</a></strong></p>
<p>4. <strong><a href="#4">Peer-to-Peer (P2P) Lending</a></strong></p>
<p>5. <strong><a href="#5">Conclusion</a></strong></p>
<p>6. <strong><a href="#6">Endnotes</a></strong></p>
<p>7. <strong><a href="#7">Author Profile</a></strong></p>
<hr />
<h2 id="1">1. Introduction</h2>
<p>The advent of new technology usually leads to innovation in industry. Regardless of the sector, new technology is almost always adopted to make tasks easier and more efficient, and this applies to the financial sector as well. Advancements such as credit cards and ATMs have fundamentally changed the process of banking and finance. The past few years have seen some major innovation in the sector, leading to a shift in the way people interact with the financial system of the country. Pursuant to the same, the Reserve Bank of India has responded to these advancements to make sure that they do not go unchecked.</p>
<p>The e-commerce industry in India has seen unprecedented growth over the last few years, largely because of a higher level of internet penetration among the population. From a worth of $3.9 billion in 2009, the worth of the Indian e-commerce market went up to $12.6 billion in 2013 <strong>[1]</strong>. The number of online shoppers was 35 billion in 2014, and is now expected to cross 100 million by the end of this year <strong>[2]</strong>. The newfound presence of the e-commerce industry in the country has led to a new form of payment: the online wallet. A more convenient method than using a credit card for every transaction, it is expected to achieve a compound annual growth rate of 68% this year <strong>[3]</strong>.</p>
<p>A priority of the RBI since the mid-2000s has been financial inclusion. The term is usually defined with respect to financial exclusion, which is construed as the inability to access necessary financial services in an appropriate form due to problems associated with access, conditions, prices, markets, or self-exclusion. In contrast, financial inclusion is the delivery of financial services at affordable costs to disadvantaged sections of society. There is no single metric that can determine the amount of financial inclusion, and specific indicators such as number of bank accounts and number of bank branches only provide a partial picture <strong>[4]</strong>.</p>
<p>In 2013, CRISIL launched an index (Inclusix) to measure the status of financial inclusion in India. The index combines branch penetration, deposit penetration, and credit penetration into one metric. The report was the first regional, state-wise, and district-wise assessments of financial inclusion ever measured, and the first analysis of inclusion trends over a three-year period. Some key conclusions found in the report were <strong>[5]</strong>:</p>
<ol><li>The all-India CRISIL Inclusix score of 40.1 is low, though there were clear signs of progress – this score had improved from 35.4 in 2009.</li>
<li>Deposit penetration is the key driver of financial inclusion – the number of savings accounts (624 million), is almost four times the number of loan accounts (160 million).</li></ol>
<h2 id="2">2. Mobile Banking in India</h2>
<p>Perhaps the biggest change in banking in recent times has been the introduction of mobile banking. The RBI issued its first set of regulatory guidelines to do with mobile banking in 2008, where banks were permitted to transfer funds from one bank account to another through the mobile platform. From 2010 to 2012, the number of users of mobile banking services grew 277.68% (from 5.96 million to 22.51 million) and the value grew a whopping 875.6% (from Rs. 6.14 billion to Rs. 59.90 billion). These figures clearly indicate that mobile banking in the country is growing at a very high rate. Yet, as of 2014, there were 350 to 500 million unique mobile subscribers and only 22 million mobile banking customers <strong>[6]</strong>.</p>
<p>The RBI clearly recognised the potential for a widespread increase in mobile banking as well as the opportunity of increasing financial inclusion in the country, and made recommendations for “addressing the consumer acquisition challenges as well as the technical aspects” <strong>[7]</strong>. Recommendations such as alternate channels for mobile registration such as ATMs, uniformity in the mobile registration process across banks, and standardisation and simplification of the MPIN generation process were made by the RBI. Despite the potential in mobile banking as a channel for financial services, and financial inclusion, the RBI identified several challenges with the platform, which were of two types – customer enrolment related issues, and technical issues.</p>
<h3 id="2-1">2.1. Customer Enrolment Issues identified by the RBI</h3>
<p>The following customer enrolment issues were identified by the RBI:</p>
<ul><li><strong>Mobile Number Registration:</strong> In order to avail mobile banking services, the customer needs to go to a branch of the bank or an ATM of that bank to register their mobile number. The RBI recommended that registration be made possible through other channels as well, and that registration forms be made uniform to ease the customer experience.</li>
<li><strong>MPIN Generation:</strong> The process for MPIN generation is different across banks, and requires a visit to the bank branch in some cases. The RBI recommended that the process be standardised and that the MPIN be intimated to the customer through their handset without necessitating a visit to the bank.</li></ul>
<p>These recommendations were implemented by the RBI in its Master Circular issued in December 2014 <strong>[8]</strong>.</p>
<h3 id="2-2">2.2. Technical Issues identified by the RBI</h3>
<p>One of the major technical issues identified by the RBI was the fact that there is a large disparity in the type of mobile handset, and consequentially, the technology most customers have. The majority of handsets in the country are GSM or CDMA enabled, and a comparatively small number have GPRS technology. The RBI identified three major ways of mobile banking utilised by most banks as SMS, USSD, and application based banking. The problems the RBI identified with the SMS method were that the service is not encrypted, and that it may become inconvenient for customers to remember the syntax required for the commands. The USSD system solves the complexity issue, as it presents an interactive menu and is much faster than SMS. However, it is still not a secure means of communication. A big step forward for the USSD system has been the implementation of the National Unified USSD Platform by the National Payments Corporation of India with a single short code (*99#) to utilise the common USSD channel for mobile banking for all banks <strong>[9]</strong>.</p>
<p>The RBI conceded that application based mobile banking is the best way to offer the service both in terms of user friendliness as well as security, but stated that developing these applications requires a large amount of research and development due to the extremely high number of permutations and combinations of handsets and operating systems available on the market, and that smartphones are in the minority as far as type of handsets go. To resolve these issues, the RBI suggested that banks continue offering all three services, so that the largest number of people can take advantage of mobile banking services. The RBI also recommended that all banks implement a uniform mobile banking system across all three architectures (SMS, USSD, and applications) for the ease of consumers <strong>[10]</strong>.</p>
<h3 id="2-3">2.3. The Way Forward</h3>
<p>In the two years since these recommendations were published, smartphones and GPRS connections (both required for application-based mobile banking) have become a lot cheaper and have permeated a larger section of the Indian society. Hopefully, this trend will gradually reflect in the banking sector and lead to a boom in application-based mobile banking. The next challenge that the RBI will face in the coming years in the field of mobile banking is the replacement of credit cards with smartphones. Both Apple and Google (with Apple Pay and Android Pay) are utilising NFC technology in smartphones to enable customers to store their credit card information on their smartphone and simply tap it onto a terminal to complete the transaction, and even though it is available in a small number of countries presently, it is only a matter of time before it is introduced in India, and this development has been addressed by the RBI in the ‘Vision 2012-2015’ document, where they have addressed the requirement of updating all PoS terminals at the merchant ends, as well as developing an open standard for all NFC transactions, regardless of the payment system operators <strong>[11]</strong>.</p>
<p>The RBI has announced its intention to review the guidelines for mobile banking to address issues relating to customer registration, safety and security of transactions, risk mitigation, and customer grievance redressal measures, with the intention of promoting mobile phones as access channels to payment and banking services. The policy efforts will also focus on ensuing that mobile banking services are provided to non-smartphone users across the country as well <strong>[12]</strong>.</p>
<p> </p>
<h2 id="3">3. Online Payments in India</h2>
<p>The National Payments Corporation of India was set up in 2009 as an umbrella organisation for all retail payment systems (under section 25 of the Companies Act) with the core objective of consolidating and integrating the multiple systems with varying service levels into a nation-wide, uniform, and standard business process for all retail systems <strong>[13, 14]</strong>. In 2012, the RBI, in its Vision 2012-2015 document, recognised the development of new e-payment systems and the increasing proportion of transactions taking place through these systems. The introduction of technology such as cloud computing, mobile telephony, service oriented architecture, and an increasing popularity of the virtual world would, according to the RBI, lead to significant changes in the way payments would be processed in the future. The document elucidated the possibility of the movement away from cash transactions to electronic transactions, leading to their goal of a ‘less-cash economy’ <strong>[15]</strong>. The RBI set the objective of innovating towards the convergence of products and services which should be available across all delivery channels to all, in a low-cost, safe, and efficient manner. The RBI held that its regulatory stance would be to promote innovation to achieve the goals of inclusion, accessibility, and affordability, while remaining technology neutral <strong>[16]</strong>.</p>
<h3 id="3-1">3.1. Regulatory Response to Online Payment Instruments</h3>
<p>The introduction of online wallets has provided consumers with a simpler and more efficient method to complete online transactions across a wide variety of merchants, and is growing at a considerable rate. A master circular was issued by the RBI in December 2014, outlining the guidelines that these wallets (which are considered a part of ‘pre-paid payment instruments’) must follow. In the circular, RBI defined three types of payment instruments or wallets.</p>
<ul><li><strong>Closed wallets</strong> can be issued by a company to a consumer for buying goods exclusively from that company, such as Flipkart or Amazon. They do not need any sort of permission or regulation from the RBI as they do not permit cash withdrawal or redemption, and hence are not classified as payment systems.</li>
<li><strong>Semi-closed wallets</strong> can be used to purchase goods and services at clearly identified merchant locations which have a specific contract with the issuer to accept the payment instrument. NBFCs can issue semi-closed wallets which need to be authorised by the RBI. The most commonly known online wallets (such as Paytm and Mobikwik) fall under this category.</li>
<li><strong>Open wallets</strong> can be used for the purchase of goods and services (including financial services) at any card accepting merchant terminal and can also be used for cash withdrawal at ATMs. However, these can only be issued by banks with approval from the RBI <strong>[17]</strong>.</li></ul>
<p>The RBI has classified three categories of pre-paid payment instruments that can be issued:</p>
<ul><li><strong>Up to Rs. 10,000</strong>, by accepting the minimum details of the customer, provided that the amount outstanding at any time does not exceed Rs. 10,000 and the total value of reloads per month does not exceed Rs. 10,000. These can only be issued in electronic form.</li>
<li><strong>From Rs. 10,001 to Rs. 50,000</strong>, by accepting any ‘officially valid document’ defined under rule 2(d) of the PML Rules, 2005, which are amended from time to time. These are to be non-reloadable in nature.</li>
<li><strong>Up to Rs. 1,00,000 with full KYC</strong>, and these can be reloadable in nature. The balance in the PPI should not exceed this amount at any time <strong>[18]</strong>.</li></ul>
<h3 id="3-2">3.2. Infrastructure for Online Payments between Private Parties</h3>
<p>Pursuant to the goal of enabling infrastructure for financial transactions between private parties, the NPCI implemented the Immediate Payment Service (IMPS) in 2010. The service offers an instantaneous, 24x7 interbank electronic fund transfer service, which can be utilised through mobile, internet, or an ATM. This service is superior to the previously used NEFT service, as NEFT transactions are settled in batches and hence are not in real time. Also, the NEFT service is only available during the working hours of the RTGS system, while the IMPS can be used at any time <strong>[19]</strong>.</p>
<p>Building on the IMPS service, the NPCI has developed the Unified Payments Interface (UPI), which will allow customers to transfer money and make payments almost as easily as they send messages. Multiple bank accounts can be linked to one application, and the need for sharing sensitive information such as bank account numbers, OTPs, or mobile numbers has been eliminated. This interface has been touted to have a large impact on the payment space, and help the economy move closer to a ‘less-cash’ economy <strong>[20]</strong>. On launch of the Interface in April of this year, 29 banks concurred to provide UPI services to their customers, and 21 of those banks have already joined the UPI as payment service providers.</p>
<p>On downloading the UPI application of a bank, a ‘virtual identifier’ is generated by the application which works as a payment identifier for sending and collecting money, and is protected by a single click two-factor authentication. The virtual ID is an email ID-like format: for example, if a customer named ABC had an account in HDFC bank, his virtual ID would be ABC@hdfc. However, the customer has the choice to use his/her mobile number or Aadhar number in place of the name. In order to protect the customer’s privacy, there is no account number mapper anywhere except the customer’s bank. When a customer selects UPI as the payment mode for an online transaction and the request reaches the merchant’s server, it is immediately passed onto the acquiring bank’s server where a UPI collection transaction is initiated on the customer’s virtual identifier. This request reaches the customer’s phone through the UPI server on the basis of the virtual identifier, and the customer authenticates it using the MPIN to complete the transaction <strong>[21]</strong>.</p>
<p>The UPI can be utilised for real-world transactions as well. Instead of handing over cash, the customer can simply tell the cashier his/her virtual ID. The cashier can then initiate a pay request through the UPI, and the customer can authenticate it on his/her phone, leading to the completion of the transaction <strong>[22]</strong>.</p>
<h3 id="3-3">3.3. Infrastructure for Online Payments involving the Government</h3>
<p>In the ‘Vision 2012-2015’ document, the RBI outlined an opportunity of developing a bill payment system for payments toward insurance premiums, utility payments, taxes, school fees, etc. To this end, a committee was set up to analyse the potential for an electronic GIRO (General Interbank Recurring Order) payment system in India. Under the recommendation of the Committee, a Giro Advisory Group (GAG) was set up with the objective of defining a framework which enables the creation of pan India touch points for bill payments, which submitted its report in March 2014. The GAG recommended a tiered system for bill systems in the country – a central unit which would set the standards, and various operating bodies which would work in accordance with the standards set by the central body. Draft guidelines for the Bharat Bill Payment System (BBPS) were published on the RBI website in August 2014 for public comments. Based on recommendations, the RBI published guidelines for the implementation of the BBPS in November 2014.</p>
<p>The BBPS will consist of two types of bodies, which will carry out distinct functions:</p>
<ul><li><strong>Bharat Bill Payment Central Unit (BBPCU):</strong> The single authorised body which will set the necessary technical, operational, and technical standards for the entire system and its participants, and will also undertake clearing and settlement activities. The NPCI will serve as the BBPCU.</li>
<li><strong>Bharat Bill Payment Operating Units (BBPOU):</strong> The authorised operational units, which will work in adherence to the standards set by the BBPCU.</li></ul>
<p>The objective of the BBPS is to implement an integrated bill payment system which offers interoperable and accessible bill payment systems to customers through a network of agents, enabling multiple payment modes, and providing instant confirmations of the payments. Hence, the RBI decided that all existing players (both banks and non-banks) catering to the requirement of bill payments as well as the aggregation of payment services will be a part of the BBPS <strong>[23]</strong>. Initially, the BBPS is expected to cover repetitive payments for everyday utility services such as electricity, water, gas, telephone, and DTH. The plan is to gradually expand the scope to include other types of repetitive payments like school/university fees, municipal taxes, etc.</p>
<p>On 20 October, 2015, the RBI issued a press release inviting applications from entities engaged in bill payments, for authorisation to operate as BBPOUs, stating the function as “facilitating collection of repetitive payments for everyday utility services, such as, electricity, water, gas, telephone and Direct-to-Home (DTH)” <strong>[24]</strong>.</p>
<p>As of May 2016, 33 companies were reportedly approved by the RBI to function as BBPOUs. PayU India, PayTm, Oxigen, SBI, ICICI bank, HDFC bank, Kotak Mahindra Bank, Bank of Baroda, Axis Bank and RBL Bank and TechProcess have confirmed their BBPOU license <strong>[25]</strong>. The system is expected to launch in July this year <strong>[26]</strong>.</p>
<h3 id="3-4">3.4. The Way Forward</h3>
<p>The RBI, in its ‘Vision 2018’ document, has outlined the future plans relating to pre-paid instruments. With an increase in the number of entities authorised to issue PPIs, there has been a growth in their usage for the purchase of goods and services as well as transfer of funds. The RBI plans to review the provisions relating to PPIs about KYC requirements, customer-facing aspects such as safety and security, risk mitigation measures, complaint redressal mechanisms, forfeiture of unutilised balances, and fraud monitoring. The RBI also plans to monitor developments in technology which impact the financial services industry, such as distributed ledgers, blockchain, etc. and develop regulatory frameworks as required <strong>[27]</strong>.</p>
<h2 id="4">4. Peer-to-Peer (P2P) Lending</h2>
<p>Another new development in the banking and finance sector is the introduction of peer to peer lending (hereinafter referred to as P2P lending). P2P lending is a form of crowdfunding which is essentially an online platform designed to bring together lenders and borrowers. A fee is charged from both and this fee goes to providing services such as collecting loan repayments and doing a preliminary assessment on the trustworthiness of the borrower. The RBI issued a consultation paper on this in April 2016 and invited responses from the various stakeholders.</p>
<p>The RBI identified that even though there is no credible data on the total lending through P2P platforms, close to 20 P2P lending platforms were launched in the last year, and there are presently around 30 such platforms in the country. After looking at the operational business model of these companies, the RBI found that the major regulatory concerns would relate to KYC and recovery practices.</p>
<p>After holding that regulation might lend credibility to P2P lending and therefore cause low-awareness lenders to make high-risk investments, and might stifle the growth of an innovative and efficient avenue for borrowers who either do not have access to or have been rejected by traditional loan mechanisms, the RBI argued for regulation in the following ways. Firstly, they held that in its nascent stage, the industry might disrupt the financial sector and it would be better to avoid such disruption. Secondly, the lower operational costs might lead to a softening of lending rates, and the RBI feels that it would benefit the P2P lending platforms if they were regulated. Thirdly, they identified the potential for unethical practices being adopted by any of the players in the market in the absence of regulation. Finally, the RBI held that borrows and lenders which are brought together by the P2P platform might be perpetrating an illegality under Section 45S of the RBI Act if they are unregulated.</p>
<p>Based on these considerations, the RBI recommended regulations on the P2P platforms in order to “facilitate the orderly growth of this sector so that its ability to provide an alternative avenue for credit for the right kind of borrowers is harnessed.” Some of the regulations proposed by the RBI were the limiting of P2P lending platforms to the role of an intermediary between lenders and borrowers, a requirement of a minimum capital of Rs. 2 crore and prudential limits on the maximum contribution by a lender (since they may include uninformed individuals), and the enforcement of adequate risk management systems to ensure smooth operations <strong>[28]</strong>.</p>
<h2 id="5">5. Conclusion</h2>
<p>The RBI, setting out a goal of financial inclusion and a less-cash economy, has kept up with developing technology in the financial sector, in order to ensure that consumers can glean the benefits of these advancements, and the goals it set out can be achieved.</p>
<p>Mobile banking is one of the largest opportunities for financial inclusion in countries, and the RBI, through its policy efforts, is trying to ensure that it reaches maximum penetration in the country. E-commerce is growing in the country, leading to a new financial space being created, which the RBI is privy to. The NPCI has been a boon in this sector, achieving a considerable amount since it was launched. P2P lending, a new and relatively untested development is gaining momentum in the country, and the RBI has begun to take concrete steps to make sure it does not get out of hand.</p>
<p>Technological advancements will continue to change all industries, including the financial services industry, and it is the task of the RBI to make sure that these advancements are utilised to the best of their abilities, so as to benefit the customers in the country as best as possible.</p>
<h2 id="6">6. Endnotes</h2>
<p><strong>[1]</strong> PwC, (2014). <em>Evolution of E-commerce in India</em>. [online] Available at: <a href="http://www.pwc.in/assets/pdfs/publications/2014/evolution-of-e-commerce-in-india.pdf">http://www.pwc.in/assets/pdfs/publications/2014/evolution-of-e-commerce-in-india.pdf</a> [Accessed 6 Jul. 2016].</p>
<p><strong>[2]</strong> The Times of India. (2014). "Online shoppers in India to cross 100 million by 2016: Study."[online] Available at: <a href="http://timesofindia.indiatimes.com/tech/tech-news/Online-shoppers-in-India-to-cross-100-million-by-2016-Study/articleshow/45217773.cms">http://timesofindia.indiatimes.com/tech/tech-news/Online-shoppers-in-India-to-cross-100-million-by-2016-Study/articleshow/45217773.cms</a> [Accessed 6 Jul. 2016].</p>
<p><strong>[3]</strong> Singh, A. (n.d.). "Mobile Wallets – Market, Opportunities and Challenges." [online] Altimetrik.com. Available at: <a href="http://www.altimetrik.com/wisdometrik/mobile-wallets-market-opportunities-and-challenges/">http://www.altimetrik.com/wisdometrik/mobile-wallets-market-opportunities-and-challenges/</a> [Accessed 6 Jul. 2016].</p>
<p><strong>[4]</strong> Thorat, Usha. (2008). "Financial Inclusion and Information Technology". Keynote address by Deputy Governor of the Reserve Bank of India, at the "Vision 2020 – Indian Financial Services Sector" event hosted by NDTV, in Mumbai, September 12. Available at: <a href="http://www.bis.org/review/r080917d.pdf">http://www.bis.org/review/r080917d.pdf</a> [Accessed 6 Jul. 2016].</p>
<p><strong>[5]</strong> CRISIL, (2013). "Finance Minister launches ‘CRISIL Inclusix’." [online] Available at: <a href="http://www.crisil.com/Ratings/Brochureware/News/CRISIL-Inclusix-launch-pr_250613.pdf">http://www.crisil.com/Ratings/Brochureware/News/CRISIL-Inclusix-launch-pr_250613.pdf</a> [Accessed 8 Jul. 2016].</p>
<p><strong>[6]</strong> Reserve Bank of India, (2014). <em>Mobile Banking - Report of the Technical Committee</em>. [online] Available at: <a href="https://rbi.org.in/scripts/PublicationReportDetails.aspx?UrlPage=&ID=760">https://rbi.org.in/scripts/PublicationReportDetails.aspx?UrlPage=&ID=760</a> [Accessed 6 Jul. 2016].</p>
<p><strong>[7]</strong> Ibid.</p>
<p><strong>[8]</strong> Reserve Bank of India, (2014). <em>Master Circular - Mobile Banking Transactions in India - Operative Guidelines</em>. [online] Available at: <a href="https://rbidocs.rbi.org.in/rdocs/notification/PDFs/65MNF052B434ED3C4CE391590891B8F3BE66.PDF">https://rbidocs.rbi.org.in/rdocs/notification/PDFs/65MNF052B434ED3C4CE391590891B8F3BE66.PDF</a> [Accessed 8 Jul. 2016].</p>
<p><strong>[9]</strong> National Payments Corporation of India. (n.d.). "Overview of *99# Service." [online] Available at: <a href="http://www.npci.org.in/Product-Overview-NUUP.aspx">http://www.npci.org.in/Product-Overview-NUUP.aspx</a> [Accessed 8 Jul. 2016].</p>
<p><strong>[10]</strong> Supra note <strong>[6]</strong>.</p>
<p><strong>[11]</strong> Reserve Bank of India, (2012). <em>Payment Systems in India: Vision 2012-15</em>. [online] Available at: <a href="https://www.rbi.org.in/Scripts/PublicationVisionDocuments.aspx?Id=678">https://www.rbi.org.in/Scripts/PublicationVisionDocuments.aspx?Id=678</a> [Accessed 6 Jul. 2016].</p>
<p><strong>[12]</strong> Reserve Bank of India, (2015). <em>Payment and Settlement Systems in India: Vision 2018</em>. [online] Available at: <a href="https://rbidocs.rbi.org.in/rdocs/PublicationReport/Pdfs/VISION20181A8972F5582F4B2B8B46C5B669CE396A.PDF">https://rbidocs.rbi.org.in/rdocs/PublicationReport/Pdfs/VISION20181A8972F5582F4B2B8B46C5B669CE396A.PDF</a> [Accessed 6 Jul. 2016].</p>
<p><strong>[13]</strong> National Payments Corporation of India. (n.d.). "About Us - National Payments Corporation of India." [online] Available at: <a href="http://www.npci.org.in/aboutus.aspx">http://www.npci.org.in/aboutus.aspx</a>. [Accessed 6 Jul. 2016].</p>
<p><strong>[14]</strong> See also: Bihari, D. and Chandra, S. (2015). "The Electronic Banking Revolution in India." Journal of Internet Banking and Commerce, [online] (20), p.110. Available at: <a href="http://www.icommercecentral.com/open-access/the-electronic-banking-revolution-in-india.php?aid=59261#corr">http://www.icommercecentral.com/open-access/the-electronic-banking-revolution-in-india.php?aid=59261#corr</a> [Accessed 8 Jul. 2016].</p>
<p><strong>[15]</strong> The term ‘less-cash economy’ was possibly first used in the context of national regulatory framework by the Bank Indonesia in 2006, and was implemented through the ‘Ayo ke Bank’ program [<a href="http://www.adb.org/sites/default/files/publication/156004/adbi-wp149.pdf">http://www.adb.org/sites/default/files/publication/156004/adbi-wp149.pdf</a>]. Its usage by the European Payments Council in 2009 [<a href="http://www.sepaitalia.eu/uploads/making_sepa_a_reality_v.3.pdf">http://www.sepaitalia.eu/uploads/making_sepa_a_reality_v.3.pdf</a>], and the Aite Group in context of the USA [<a href="http://aitegroup.com/report/less-cash-society-forecasting-cash-usage-united-states">http://aitegroup.com/report/less-cash-society-forecasting-cash-usage-united-states</a>] gave it international attention. RBI first used the term in its 'Payment Systems in India: Vision 2012-15' document.</p>
<p><strong>[16]</strong> Supra note <strong>[8]</strong>.</p>
<p><strong>[17]</strong> Reserve Bank of India, (2014). <em>Master Circular – Policy Guidelines on Issuance and Operation of Pre-paid Payment Instruments in India</em>. [online] Available at: <a href="https://rbidocs.rbi.org.in/rdocs/notification/PDFs/116MCPPI20062014FL.pdf">https://rbidocs.rbi.org.in/rdocs/notification/PDFs/116MCPPI20062014FL.pdf</a> [Accessed 6 Jul. 2016].</p>
<p><strong>[18]</strong> Supra note <strong>[9]</strong>.</p>
<p><strong>[19]</strong> National Payments Corporation of India. (n.d.). "IMPS - Background." [online] Available at: <a href="http://www.npci.org.in/aboutimps.aspx">http://www.npci.org.in/aboutimps.aspx</a> [Accessed 6 Jul. 2016].</p>
<p><strong>[20]</strong> Nair, V. (2016). "NPCI’s unified payment interface to start in April." [online] Available at: <a href="http://www.livemint.com/Industry/ZA9pPkeGdY9wrChh1BDQhN/NPCIs-unified-payment-interface-to-start-in-April.html">http://www.livemint.com/Industry/ZA9pPkeGdY9wrChh1BDQhN/NPCIs-unified-payment-interface-to-start-in-April.html</a> [Accessed 6 Jul. 2016].</p>
<p><strong>[21]</strong> Mathew, G. (2016). "Unified Payments Interface system: Faster, easier and smoother."[online] The Indian Express. Available at: <a href="http://indianexpress.com/article/technology/tech-news-technology/unified-payments-interface-upi-payment-system-faster-easier-and-smoother-2754125/">http://indianexpress.com/article/technology/tech-news-technology/unified-payments-interface-upi-payment-system-faster-easier-and-smoother-2754125/</a> [Accessed 7 Jul. 2016].</p>
<p><strong>[22]</strong> The Hindu. (2016). "RBI's Unified Payments Interface makes payments easier than ever." [online] Available at: <a href="http://www.thehindu.com/business/Economy/unified-payments-interface/article8470746.ece">http://www.thehindu.com/business/Economy/unified-payments-interface/article8470746.ece</a> [Accessed 7 Jul. 2016].</p>
<p><strong>[23]</strong> Lakshminarasimhan, P. (2016). "Bharat Bill Payment System likely to be launched in July." [online] The Financial Express. Available at: <a href="http://www.financialexpress.com/article/industry/companies/bharat-bill-payment-system-likely-to-be-launched-in-july/257040/">http://www.financialexpress.com/article/industry/companies/bharat-bill-payment-system-likely-to-be-launched-in-july/257040/</a> [Accessed 7 Jul. 2016].</p>
<p><strong>[24]</strong> Reserve Bank of India, (2015). "RBI invites Applications for authorising Bharat Bill Payment System Operating Units (BBPOUs)." [online] Available at: <a href="https://www.rbi.org.in/Scripts/FS_PressRelease.aspx?prid=35274&fn=9">https://www.rbi.org.in/Scripts/FS_PressRelease.aspx?prid=35274&fn=9</a> [Accessed 7 Jul. 2016].</p>
<p><strong>[25]</strong> Srivastava, V. (2016). "RBI Grants License to 33 Companies For Bharat Bill Payment System." [online] Thetechportal.com. Available at: <a href="http://thetechportal.com/2016/05/17/rbi-grants-license-33-companies-operate-bharat-bill-payment-system/">http://thetechportal.com/2016/05/17/rbi-grants-license-33-companies-operate-bharat-bill-payment-system/</a> [Accessed 7 Jul. 2016].</p>
<p><strong>[26]</strong> Supra note <strong>[23]</strong>.</p>
<p><strong>[27]</strong> Supra note <strong>[10]</strong>.</p>
<p><strong>[28]</strong> Reserve Bank of India, (2016). Consultation Paper on Peer to Peer Lending. [online] Available at: <a href="https://rbidocs.rbi.org.in/rdocs/Content/PDFs/CPERR280420162D5F13C3A2204F4FB6A2BEA7363D0031.PDF">https://rbidocs.rbi.org.in/rdocs/Content/PDFs/CPERR280420162D5F13C3A2204F4FB6A2BEA7363D0031.PDF</a> [Accessed 6 Jul. 2016].</p>
<h2 id="7">7. Author Profile</h2>
<p>Shivalik Chandan is a student at National Law University, Delhi, who has completed two years of the B.A. LLB course. He enjoys watching movies, playing the drums, and listening to (almost all genres of) music in his spare time.</p>
<p> </p>
<p>
For more details visit <a href='http://editors.cis-india.org/raw/rbi-regulation-digital-financial-services-in-india-2012-2016'>http://editors.cis-india.org/raw/rbi-regulation-digital-financial-services-in-india-2012-2016</a>
</p>
No publisherShivalik ChandanUnified Payments InterfaceOnline PaymentsReserve Bank of IndiaMobile BankingResearchNetwork EconomiesP2P LendingResearchers at Work2016-07-11T06:27:23ZBlog EntryComments on the RBI's Consultation Paper on Peer to Peer Lending
http://editors.cis-india.org/raw/comments-on-the-rbi-consultation-paper-on-peer-to-peer-lending
<b>The Reserve Bank of India published a Consultation Paper on Peer to Peer Lending on April 28, 2016, and invited comments from the public. CIS submitted the following response, authored by Elonnai Hickok, Pavishka Mittal, Sumandro Chattapadhyay, Vidushi Marda, and Vipul Kharbanda.</b>
<p> </p>
<h2>1. Preliminary</h2>
<p><strong>1.1.</strong> This submission presents comments and recommendations by the Centre for Internet and Society (<strong>“CIS”</strong>) on the Consultation Paper on Peer to Peer Lending (<strong>“the consultation paper”</strong>) by the Reserve Bank of India (<strong>“RBI”</strong>) <strong>[1]</strong>.</p>
<h2>2. The Centre for Internet and Society</h2>
<p><strong>2.1.</strong> The Centre for Internet and Society, CIS <strong>[2]</strong>, is a non-profit organisation that undertakes interdisciplinary research on internet and digital technologies from policy and academic perspectives. The areas of focus include digital accessibility for persons with diverse abilities, access to knowledge, intellectual property rights, openness (including open data, free and open source software, open standards, open access, open educational resources, and open video), internet governance, telecommunication reform, digital privacy, and cyber-security. The academic research at CIS seeks to understand the reconfiguration of social processes and structures through the internet and digital media technologies, and vice versa.</p>
<p><strong>2.2.</strong> This submission is consistent with CIS’ commitment to safeguarding general public interest, and the interests and rights of various stakeholders involved. The comments in this submission aim to further the concerns of citizens’ and users’ rights in the context of products, services, and transactions facilitated by digital media technologies, the , the principle that regulation should be defined around functions of the acts concerned, and not the technologies of delivery. Our comments are limited to the clauses that most directly have an impact on these concerns.</p>
<h2>3. Response</h2>
<h3>3.1. Whether there is a felt need for regulating peer to peer lending platforms?</h3>
<p><strong>3.1.1.</strong> Peer to peer (<strong>“P2P”</strong>) lenders are platforms serving as marketplaces for the lenders and the borrowers of funds to connect. Their very business model does not render them as a provider of finance, as they aspire to function as pure intermediaries to enable lending and borrowing.</p>
<p><strong>3.1.2.</strong> The Section 45I.(f)(iii) of the RBI Act, 1935 <strong>[3]</strong>, provides RBI the authority to classify any financial institution as a non-banking financial company (<strong>“NBFC”</strong>) “with the previous approval of the Central Government and by notification in the Official Gazette.” Since the P2P lending platforms do not provide any finance themselves, undertake acquisition of financial instruments, deliver financial and/or insurance services, or collect financial resources directly, the only ground for classifying such companies as “financial institutions” <strong>[4]</strong> appears to be their involvement in “managing, conducting or supervising, as foreman, agent or in any other capacity, of chits or kuries as defined in any law which is for the time being in force in any State, or any business, which is similar thereto” <strong>[5]</strong>. P2P lending platforms can be considered to be brokers and thus there are other aspects that merit scrutiny such as antitrust issues, obligations of either party, company activities and the transactional system involved, as we will discuss in this document.</p>
<p><strong>3.1.3.</strong> The consultation paper itself states that the balance sheet of the platform cannot indicate any borrowing / lending activity, which entails that the platform cannot itself provide finance or receive any funds for the provision of loans to others. Platforms are not allowed to determine the interest rates as they are not a party to the transaction. Neither would they be liable in cases of default by the borrower. These rules, standard for P2P platforms in other jurisdictions as well, confirm the assumption that the platform itself is not providing finance and thus, cannot be entrusted with any liability, obligation from the transaction.</p>
<p><strong>3.1.4.</strong> Further, with RBI raising the threshold asset size for an NBFC to be considered systemically important (NBFC-ND-SI) from Rs. 100 Crores to Rs. 500 Crores <strong>[6]</strong>, and Economic Times reporting that one of the biggest Indian P2P lending platform’s enterprise valuation (which can be taken as indicative of its net assets) is Rs 50 Crores <strong>[7]</strong>, we may assume that most P2P lending platforms will have net assets worth less than 500 crore, at least in the near future; although there is a possibility for exponential growth with some companies.</p>
<p><strong>3.1.5.</strong> Given the limited sphere of operation, restricted ability (by design) of these platforms to shape interest rates and other features of financial instruments, and their generally non-systemically-important nature, we would submit that the regulation of such P2P lending platforms are kept to an absolute minimum, so that their economic viability is not undermined, and at the same time the key risks associated with their operations are addressed by RBI.</p>
<h3>3.2. Is the assessment of P2P lending and risks associated with it adequate?</h3>
<p><strong>3.2.1.</strong> CIS observes that the following are the key risks involved with the operations of the P2P lending platforms, and these are being respectively addressed by, or can be addressed by RBI in the following manners.</p>
<ol type="A"><li><strong>Insufficient information about the conditions of lending, leading to defrauding of the borrower:</strong> The borrower may not receive appropriate information about the terms of the loan, and/or the P2P lending platform may not act in a “fair” manner (say, in case of collusion between the P2P lending platform and the lender, or the lending platform and the borrower), which may lead to defrauding and/or economic loss of either party. By classifying P2P lending platforms as NBFCs, RBI will ensure that these companies follow the Guidelines on Fair Practices Code for NBFCs <strong>[8]</strong>, which extensively addresses concerns related to this type of risks.<br /><br /></li>
<li><strong>Insufficient information about the borrower, or her/his ability to repay the loan, may lead to non-repayment and economic loss of the lender:</strong> If the P2P lending platform allows the lender to offer loans to borrowers without acquiring and/or providing sufficient information to the lender about the borrower’s credit history and/or ability to repay the loan, modes of formulating security for loans, this may heighten the risks of non-repayment of loans. By classifying P2P lending platforms as NBFCs, RBI will ensure that these companies follow the Master Circular – 'Know Your Customer' (KYC) Guidelines – Anti Money Laundering Standards (AML) - Prevention of Money Laundering Act, 2002 - Obligations of NBFCs <strong>[9]</strong>, which extensively addresses concerns related to this type of risks.<br /><br /></li>
<li><strong>Credit-related information of the lenders and the borrowers collected by P2P lending platforms may not be made available to other financial institutions and that will lead asymmetry in credit information available across various actors in the sector:</strong> Credit information, related to both lending and borrowing practices of entities using the platform concerned, is a key asset of the P2P lending platforms. Lack of sharing of such information with Credit Information Companies, for economic reasons or otherwise, may however, lead to information asymmetry within the financial sector, which will structurally weaken the entire sector (with pieces of credit information being distributed across actors and not being shared internally). By classifying P2P lending platforms as NBFCs, RBI will ensure that these companies follow the Credit Information Companies (Regulation) Act, 2005 <strong>[10]</strong>, which extensively addresses concerns related to this type of risks.<br /><br /></li>
<li><strong>P2P lending platforms diversifying their financial operations without informing RBI and hence without appropriate regulatory control:</strong> It is possible that P2P lending platforms may decide to diversify their activities. There have been similar examples in other related sectors, say e-commerce marketplaces, that have started their own product re/selling companies that use the same online marketplace concerned. By classifying P2P lending platforms as NBFCs, RBI will ensure that these companies provide RBI with detailed and regular reports of their economic activities and investments, which is expected to address concerns related to this type of risks.</li></ol>
<h3>3.3. Are there any other risks which ought to be addressed?</h3>
<p><strong>3.3.1.</strong> CIS observes that as part of the usual transaction related activities of the P2P lending platforms, the companies will come into possession of what has been defined as “sensitive personal data or information” by the Information Technology (Reasonable security practices and procedures and sensitive personal data or information) Rules, 2011 <strong>[11]</strong>. The concerns related to this type of risk is directly addressed by the Rules concerned, and may not require additional attention from the RBI.</p>
<p><strong>3.3.2.</strong> CIS observes that as borrowers and lenders start using specific P2P lending platforms, the data regarding their credit histories and/or “financial reputation” will be owned by these companies. While such information might be shared internally within the financial sector through the Credit Information Companies, the borrowers and lenders themselves may not get direct access to such data. Hence, the borrowers and lenders will not be able to move easily and smoothly to a new P2P lending platform and make use of their existing credit information and/or “financial reputation” when accessing services offered via the new P2P lending platform. In other words, the borrowers and lenders may face a <em>service provider lock-in</em>, and inability to move between P2P lending platforms easily, without explicit access to their own credit history/reputation, and will not have the ability to migrate such information from one P2P lending platform to another (or to any other agency, for that matter). CIS submits that RBI must provide a mechanism to allow users to migrate between platforms as it has not been discussed in the consultation paper.</p>
<h3>3.4. Is the proposed approach to regulating these platforms adequate?</h3>
<p><strong>3.4.1.</strong> CIS observes that while classification of P2P lending platforms will appropriately address key risks associated with their operations (as listed in 3.2.1. A-D), it will not address a major risk emerging out of their operations that is unique to the technological basis of the business concerned (as mentioned in 3.3.2.), and further, it will impose substantial financial and management obligations that have a very high probability of undermining the economic viability of this emerging and niche sector of intermediated direct lending and borrowing.</p>
<p><strong>3.4.2.</strong> CIS observes that these financial and management obligations may involve the following topics among others discussed: 1) minimum net worth requirement for registration, 2) minimum investments required to be made government securities, 3) transferring of minimum percentage of net profits to RBI, 4) guidelines regarding corporate governance <strong>[12]</strong>, etc.</p>
<p><strong>3.4.3.</strong> Given this, CIS submits that instead of classifying P2P lending platforms as “Misc NBFCs,” a new sub-classification is created under the category of NBFC for such platforms, that directly addresses the key risks associated with businesses of P2P lending platforms, and protects lenders as well as borrowers while enhancing transparency in operations. This new sub-classification of P2P lending companies should also be divided into systemically-important and non-systemically-important like other NBFCs, and requirements regarding financial operations and corporate management should only be enforced for the former category of P2P lending companies.</p>
<h3>3.5. Any other relevant issues pertaining to P2P lending</h3>
<p>Beyond the issues already discussed above, CIS seek clarity from the RBI around the following aspects:</p>
<ol><li><strong>Transactional system pertaining to P2P lending:</strong>
<ol type="a">
<li>What are the requirements and prerequisites for mandating the collection of user identity?</li>
<li>Establishing a maximum sum that can be transferred per transaction.</li></ol>
</li>
<li><strong>Company activities:</strong>
<ol type="a"><li>Fees that can be charged by platforms.</li>
<li>How data security can be best addressed.</li>
<li>How the financial transactions are brokered.</li>
<li>Modes of redressal.</li>
<li>Restitution to users if something goes amiss in the transaction.</li>
<li>Insurance that the company has to buy or capital on hand to support.</li></ol>
</li></ol>
<p> </p>
<h2>Endnotes</h2>
<p><strong>[1]</strong> See: <a href="https://www.rbi.org.in/scripts/bs_viewcontent.aspx?Id=3164">https://www.rbi.org.in/scripts/bs_viewcontent.aspx?Id=3164</a>.</p>
<p><strong>[2]</strong> See: <a href="http://cis-india.org/">http://cis-india.org/</a>.</p>
<p><strong>[3]</strong> See: <a href="https://rbidocs.rbi.org.in/rdocs/Publications/PDFs/RBIA1934170510.pdf">https://rbidocs.rbi.org.in/rdocs/Publications/PDFs/RBIA1934170510.pdf</a>.</p>
<p><strong>[4]</strong> See Section 45I.(c) of RBI Act, 1923, last amended on January 07, 2013.</p>
<p><strong>[5]</strong> See Section 45I.(c)(v) of RBI Act, 1923, last amended on January 07, 2013.</p>
<p><strong>[6]</strong> See: <a href="https://rbidocs.rbi.org.in/rdocs/content/pdfs/PNNBFC200315.pdf">https://rbidocs.rbi.org.in/rdocs/content/pdfs/PNNBFC200315.pdf</a>.</p>
<p><strong>[7]</strong> See: <a href="http://economictimes.indiatimes.com/small-biz/startups/faircent-com-raises-pre-series-a-funding-of-250k/articleshow/47630279.cms">http://economictimes.indiatimes.com/small-biz/startups/faircent-com-raises-pre-series-a-funding-of-250k/articleshow/47630279.cms</a>.</p>
<p><strong>[8]</strong> See: <a href="https://rbi.org.in/scripts/NotificationUser.aspx?Id=7866">https://rbi.org.in/scripts/NotificationUser.aspx?Id=7866</a>.</p>
<p><strong>[9]</strong> See: <a href="https://rbi.org.in/scripts/BS_ViewMasCirculardetails.aspx?id=8168">https://rbi.org.in/scripts/BS_ViewMasCirculardetails.aspx?id=8168</a>.</p>
<p><strong>[10]</strong> See: <a href="http://www.incometaxindia.gov.in/Pages/acts/credit-information-companies-act.aspx">http://www.incometaxindia.gov.in/Pages/acts/credit-information-companies-act.aspx</a>.</p>
<p><strong>[11]</strong> See: <a href="http://deity.gov.in/sites/upload_files/dit/files/GSR313E_10511%281%29.pdf">http://deity.gov.in/sites/upload_files/dit/files/GSR313E_10511%281%29.pdf</a>.</p>
<p><strong>[12]</strong> See: <a href="https://www.rbi.org.in/scripts/BS_NBFCNotificationView.aspx?Id=3706">https://www.rbi.org.in/scripts/BS_NBFCNotificationView.aspx?Id=3706</a>.</p>
<p> </p>
<p>
For more details visit <a href='http://editors.cis-india.org/raw/comments-on-the-rbi-consultation-paper-on-peer-to-peer-lending'>http://editors.cis-india.org/raw/comments-on-the-rbi-consultation-paper-on-peer-to-peer-lending</a>
</p>
No publishersumandroPrivacyReserve Bank of IndiaData ProtectionResearchNetwork EconomiesP2P LendingResearchers at Work2016-06-01T20:21:13ZBlog EntryRBI Consultation Paper on P2P Lending: Data Security and Privacy Concerns
http://editors.cis-india.org/raw/rbi-consultation-paper-on-p2p-lending
<b>On April 28, 2016 the Reserve Bank of India published a consultation paper on P2P Lending and invited comments from the public on the same. The Paper discusses what P2P lending is, the various regulatory practices that govern P2P lending in different jurisdictions and lists our arguments for and against regulating P2P lending platforms.</b>
<p> </p>
<h2>Arguments against Regulation</h2>
<p>The arguments against regulation of P2p lending companies as set out in the paper are (briefly):</p>
<ol><li>Regulating an exempt or nascent sector may be perceived as rubber stamping the industry through regulation, thus lending credibility to the P2P lending which could attract ill informed lenders to the sector who may not understand all the risks associated with the industry. In this way Regulation may cause more harm than good.</li>
<li>Regulations may also be perceived as too stringent, thus stifling the growth of an innovative, efficient and accessible industry.</li>
<li>The P2P lending market is currently in a nascent stage and does not pose an immediate systemic risk meriting regulation.</li></ol>
<p> </p>
<h2>Arguments in favour of Regulation</h2>
<p style="text-align: justify;">The arguments for regulating the market on the other hand are:</p>
<ol><li>Considering the significance of the online industry and the impact which it can have on the traditional banking channels/NBFC sector, it would be prudent to regulate this emerging industry.</li>
<li>The, the importance of these methods of financing, specially in sectors where formal lending cannot reach, needs to be acknowledged.</li>
<li>If the sector is left unregulated altogether, there is the risk of unhealthy practices being adopted by one or more players, which may have deleterious consequences.</li>
<li>Section 45S of RBI Act prohibits an individual or a firm or an unincorporated association of individuals from accepting deposits “if its business wholly or partly includes any of the activities specified in clause (c) of section 45-I (i.e. activities of a financial institution); or if his or its principal business is that of receiving of deposits under any scheme or arrangement or in any other manner, or lending in any manner. Contravention of Section 45S is an offence punishable under section 58B (5A) of RBI Act. As per the Act, ‘‘deposit’’ includes and shall be deemed always to have included any receipt of money by way of deposit or loan or in any other form, but does not include any amount received from an individual or a firm or an association of individuals not being a body corporate, registered under any enactment relating to money lending which is for the time being in force in any State. Since the borrowers and lenders brought together by a P2P platform could fall within these prohibitions, absence of regulation may lead to perpetrating an illegality.”</li></ol>
<p>After listing out the arguments, the paper adopts the approach of regulating this industry and proposes to bring P2P lending platforms under the purview of RBI’s regulation by defining them as Non Banking Financial Companies (NBFCs) under section 45-I(f)(iii) of the RBI Act. Once notified as NBFCs, RBI can issue regulations under sections 45JA and 45L. Though there is scope to comment on many aspects of the consultation paper our comments here will be limited to the data security and privacy aspects of the recommendations.</p>
<p> </p>
<h2>Data Security and Privacy Concerns</h2>
<p>While the understanding of potential borrowers, specially those who have had experiences with commercial financial institutions, is that the more amount of information they provide, the better their chances become of getting a loan. This perception emanates from the fact that any potential borrower is asked for a myriad of documents, including personally identifying documents before a request for a loan is considered, infact for almost all financial institutions it is part of their core prudential norms to ask for identity documents before disbursing a loan. Getting as much information as possible from the borrower is not just a quirk of the financial institutions but it makes business sense for them, since it is those institutions who bear the risk of recovery of their money. There is no reason why the same logic or allowing creditors all the information about the borrower should not be applicable to P2P lending platforms, as far as the principle of prudential business practices is concerned. However, the key difference between disclosing information to P2P lending platforms as opposed to financial institutions is that whilst the information supplied to financial institutions stays limited to the institution and its employees, a large amount of the information (though not necessarily all) given to P2P platforms is made available to all potential creditors, which in P2P lending translates to any internet user who registers as a potential creditor. In this way the potential for the information to reach a wider group of people is much higher and therefore privacy and data security risks require special attention in P2P lending.</p>
<p>In section 5.3(v) of the Paper it is recommended that “Confidentiality of the customer data and data security would be the responsibility of the Platform. Transparency in operations, adequate measures for data confidentiality and minimum disclosures to borrowers and lenders would also be mandated through a fair practices code.” Whilst the fair practices code has not yet been developed or at least not yet made publicly available, as companies in the P2P lending industry are body corporates, these fair practice codes should be in line with and satisfy the requirements of section 43A of the Information Technology Act, 2000 (“<strong>IT Act</strong>”) as well as the Guidelines issued by the RBI’s Guidelines on Information security, Electronic Banking, Technology risk management and cyber frauds <strong>[1]</strong>.</p>
<p>The minimum standards for data protection in Indian law have been laid down by section 43A of the IT Act and the Information Technology (Reasonable security practices and procedures and sensitive personal data or information) Rules, 2011 (“<strong>Rules</strong>”) issued under section 43A. As per Rule 4 of the Rules P2P platforms would be required to have a privacy policy to deal with sensitive personal data, which includes any details regarding financial information such bank account, credit/debit cards, etc <strong>[2]</strong>.</p>
<p>This policy would have to be published on the website of the platforms and would provide for a number of things such as (i) Clear and easily accessible statements of its practices and policies; (ii) type of personal or sensitive personal data or information collected; (iii) purpose of collection and usage of such information; (iv) disclosure of information including sensitive personal data or information; (v) reasonable security practices and procedures for the data. The other requirements of the Rules as regards consent before usage of the information, collection limitations, imparting information/notice to the consumer (information provider), retention limitation, purpose limitation, opt-out option, disclosure, etc. will also be applicable to P2P platforms and the fair practices code that the RBI would issue for this purpose will have to take all these issues into account.</p>
<p style="text-align: justify;">The Rules also provide that body corporates will be considered to have complied with reasonable security practices if they have implemented such security practices and standards and have a comprehensive documented information security programme and information security policies that contain managerial, technical, operational and physical security control measures that are commensurate with the information assets being protected with the nature of business. Although there are no such practices which have been endorsed by any governmental body for P2P lending platforms, however the Department of Banking Supervision, Reserve Bank of India, has issued guidelines on “Information security, Electronic Banking, Technology risk management and cyber frauds" <strong>[3]</strong>. which could be relied upon until a fair practices code is put into place. The major privacy and data security provisions of these guidelines are given below:</p>
<ul>
<li><strong>Security Baselines</strong>: The guidelines require banks to be proactive in identifying and specifying the minimum security baselines to be adhered to by the service providers to ensure confidentiality and security of data;</li>
<li><strong>Back up records</strong>: A cloud computing system must ensure backup of all its clients' information;</li>
<li><strong>Security steps</strong>: An institution may take the following steps to ensure that risks with respect to confidentiality and security of data are adequately mitigated: (i) Address, agree, and document specific responsibilities of the respective parties in outsourcing; (ii) Discuss and agree on the instances where customer data shall be accessed; (iii) Ensure that service provider employees are adequately aware and informed on the security and privacy policies.</li>
<li><strong>Confidentiality</strong>: Agreements should provide for maintaining confidentiality of customer's information even after the contract expires or is terminated by either party and specify the liability in case of security breach or leakage.</li>
<li><strong>Encryption</strong>: Normally, a minimum of 128-bit SSL encryption is expected. Banks should only select encryption algorithms which are well established international standards.</li>
<li><strong>Fraud Risk Management</strong>: It is also necessary that customer confidential information and other data/information available with banks is secured adequately to ensure that fraudsters do not access it to perpetrate fraudulent transactions.</li></ul>
<p>Although inclusion of the above principles in the fair practices code would be helpful, however since the workings of P2P platforms are quite unique, therefore it would be counterproductive to restrict the security and privacy protocols to only those applied to regular banking transactions and the fair practices code should take into account these unique problems of P2P lending rather than seek to apply the existing norms blindly.</p>
<p> </p>
<h2>Endnotes</h2>
<p><strong>[1]</strong> See: <a href="https://rbidocs.rbi.org.in/rdocs/content/PDFs/GBS300411F.pdf">https://rbidocs.rbi.org.in/rdocs/content/PDFs/GBS300411F.pdf</a>.</p>
<p><strong>[2]</strong> The Rules define “sensitive personal data or information” as information relating to: "(i) password, (ii) financial information such as Bank account or credit card or debit card or other payment instrument details, (iii) physical, physiological and mental health condition, (iv) sexual orientation, (v) medical records and history, (vi) Biometric information, (vii) any detail relating to the above clauses as provided to body corporate for providing service, and (viii) any of the information received under above clauses by body corporate for processing, stored or processed under lawful contract or otherwise."</p>
<p><strong>[3]</strong> See: <a href="http://rbidocs.rbi.org.in/rdocs/content/PDFs/GBS300411F.pdf">http://rbidocs.rbi.org.in/rdocs/content/PDFs/GBS300411F.pdf</a>.</p>
<p> </p>
<p>
For more details visit <a href='http://editors.cis-india.org/raw/rbi-consultation-paper-on-p2p-lending'>http://editors.cis-india.org/raw/rbi-consultation-paper-on-p2p-lending</a>
</p>
No publishervipulPrivacyReserve Bank of IndiaData ProtectionResearchNetwork EconomiesP2P LendingResearchers at Work2016-06-01T11:41:17ZBlog Entry RBI Consultation Paper on P2P Lending: Legality and Implications
http://editors.cis-india.org/raw/rbi-consultation-paper-on-p2p-lending-legality-and-implications
<b>The Reserve Bank of India published a Consultation Paper on Peer-to-Peer Lending on April 28, 2016. The Paper proposes to bring the P2P lending platforms under the purview of RBI’s regulation by defining P2P platforms as NBFCs under section 45I(f)(iii) of the RBI Act. Once notified as NBFCs, RBI can issue regulations under sections 45JA and 45L. The last date for submission of comments to the Consultation Paper is May 31, 2016. In this post, Pavishka Mittal discusses the legality and implications of the proposed classification of Peer-to-Peer lending companies as NBFCs. </b>
<p style="text-align: justify; "> </p>
<p style="text-align: justify; "><strong>1.</strong> <a href="#1">Introduction</a></p>
<p style="text-align: justify; "><strong>2.</strong> <a href="#2">Legal Basis for Classifying P2P Lending Platforms as NBFCs</a></p>
<p style="text-align: justify; "><strong>3.</strong> <a href="#3">Legal Implications of Classifying P2P Lending Platforms as NBFCs</a></p>
<p style="text-align: justify; "><strong>3.1.</strong> <a href="#3-1">Threshold Mechanism under Indian Law</a></p>
<p style="text-align: justify; "><strong>3.2.</strong> <a href="#3-2">Change in Management or Control of NBFCs</a></p>
<p style="text-align: justify; "><strong>3.3.</strong> <a href="#3-3">Compliance with KYC/AML/CFT Norms</a></p>
<p style="text-align: justify; "><strong>3.4.</strong> <a href="#3-4">Compliance with Guidelines on Fair Practices Code for NBFCs</a></p>
<p style="text-align: justify; "><strong>3.5.</strong> <a href="#3-5">Obligations to Share Credit Information</a></p>
<p style="text-align: justify; "><strong>4.</strong> <a href="#4">Endnotes</a></p>
<p style="text-align: justify; "><strong>5.</strong> <a href="#5">Author Profile</a></p>
<hr style="text-align: justify; " />
<h2 id="1" style="text-align: justify; ">1. Introduction</h2>
<p style="text-align: justify; ">RBI in its Consultation Paper has proposed to classify Peer-to-Peer (P2P) lending platforms as NBFCs. NBFCs in India are considered to be an alternative to the banking sector, with the only distinction being the prohibition on collecting demand deposits and the absence of running accounts. The established categories of NBFCs as per section 45I include loan, investment, asset finance and residuary non-banking companies incorporated under the Companies Act 1956. This blog post will examine the various categories of NBFCs in India and whether P2P lending platforms are within any of these established categories under law. The legality of the proposed course of action by the RBI in its consultation paper is subsequently examined. Further, the legal implications of the same, i.e the components of the increased compliance by the P2P platforms is discussed in detail.</p>
<h2 id="2" style="text-align: justify; ">2. Legal Basis for Classifying P2P Lending Platforms as NBFCs</h2>
<p style="text-align: justify; ">P2P lenders are platforms serving as marketplaces for the lenders and the borrowers of funds to connect. Their very business model does not render them as a provider of finance, they are only an intermediary in the financial services sector. There is no question that loan companies are NBFCs under section 45I(f) of the RBI Act, 1935 <strong>[1]</strong>. However, since these P2P platforms do not provide any finance themselves, there can be no ground for classifying them as a loan company within section 45I of the RBI Act. NBFCs are also classified into deposit taking NBFCs and non-deposit taking NBFCs. In this situation, the question of permissibility, or legal basis, of taking deposits by the platform does not arise as the funds are to be directly transferred from the lender to the borrower, as stipulated in the Consultation Paper itself. The Paper further states that the balance sheet of the platform cannot indicate any borrowing/lending activity, which entails that the platform cannot itself provide finance or receive any funds for the provision of loans to others. Platforms are not allowed to determine the interest rates as they are not a party to the transaction. Neither would they be liable in cases of default by the borrower. These rules, standard for P2P platforms in other jurisdictions too, confirm the assumption that the platform itself is not providing finance and thus, cannot be entrusted with any liability, obligation from the transaction. However, it has to be vigilant in its role in maintaining data on the market participants on the platform for the fulfillment of KYC norms.</p>
<p style="text-align: justify; ">Serious concerns as to the financial health of the economy, however, are bound to arise if such entities are to continue operations without any regulatory supervision. The existing regulations, when made could not have fathomed the niche business models of the present. It is for this reason that sector-specific guidelines are often released for the benefit of all market participants as was seen in the case the revised e-commerce regulations <strong>[2]</strong>. In the present case, the proposed action is classifying P2P lending platforms as NBFCs with the RBI reserving the power to name any 'non-banking institutions' as NBFCs. Clause (a) of section 45I of the RBI Act 1934 declares that the business of a non banking financial institution includes the business of a non-banking financial company as specified under subsection (f). Clause (iii) of subsection (f) defines a non-banking financial company to include any other non-banking institution or class of such institutions, as the RBI may, with the previous approval of the Central Government and by notification in the Official Gazette, specify. Clause (c), in contrast identifies NBFCs through their activities, through their 'principal business'. The <em>fifty/fifty</em> test to determine the principal business of the firm as to the engagement of at least fifty percent of the assets of the firm in the core operations of the firm is not applicable if the RBI chooses to declare any 'non-banking institution' as a NBFC. In the present case, in the absence of any established characteristics of a NBFC within clause (c), the RBI has made use of clause (f) to meet the primary objective of regulation. The RBI will not exceed its regulatory authority in doing so. The only restriction on such an action is that an NBFCs cannot include any institution whose principal business is that of agricultural activity, industrial activity, sale/purchase of goods, sale/purchase/construction of immovable property.</p>
<h2 id="3" style="text-align: justify; ">3. Legal Implications of Classifying P2P Lending Platforms as NBFCs</h2>
<p style="text-align: justify; ">The Reserve Bank under section 45JA of the RBI Act 1934, can validly determine the policy and give directions to all or any of the non-banking financial companies relating to income recognition, accounting standards, making of proper provision for bad and doubtful debts, capital adequacy based on risk weights for assets and credit conversion factors for off-balance sheet items and also relating to deployment of funds by a non-banking financial company, or a class of non-banking financial companies, or non-banking financial companies generally, as the case may be. Further, such non-banking financial companies shall be bound to follow the policy so determined and the directions so issued. Without prejudice to the generality of the powers named above, the Bank may also give directions to NBFCs generally or to a class of NBFCs or to any particular NBFC as to (a) the purpose for which advances or other fund based or non-fund based accommodation may not be made; and (b) the maximum amount of advances or other financial accommodation or investment in shares and other securities which, having regard to the paid-up capital, reserves and deposits of the NBFC’s and other relevant considerations, which can be validly made by that NBFC.</p>
<p style="text-align: justify; ">Section 45JA of the RBI Act 1934 is illustrious of the vast powers with the central bank to frame directions and policies applicable to NBFC’s. Powers of regulation extend to the subjective satisfaction of the RBI that the affairs of the NBFC are being conducted in a manner prejudicial to its depositors or the NBFC itself other than the established grounds of public interest and regulation of the financial system of the country to its advantage. This is of importance to P2P lending platforms because the characterization of their organizations as NBFCs would not just indicate compliance with the existing regulatory mechanism applicable to NBFCs but also any other direction, notification, policy that can be validly issued in the future on the subjective satisfaction of the above broad grounds. P2P lending platforms, many not even public companies presently may not be able to operate in the manner that is most beneficial to its private interests in the interest of the public. Further, no other legal form of organization other than a company would be valid under law. Further, no P2P Platform would be able to adopt any other legal form of organization (sole proprietorship, partnership etc.) other than a company due to the fact that clause (c) grants the power on the RBI to name any non-banking financial ‘company’ to include any other non-banking ‘institution’ or class of ‘institutions’. These ‘institutions’, when named NBFCs under law would be companies and would have to change their form of organization, by registration as a company within the Companies Act 2013, if necessary.</p>
<p style="text-align: justify; ">As per section 45I of the RBI Act 1934, all NBFCs excepting those which are regulated by other statutory/regulatory bodies are to be registered with the RBI. P2P lending platforms will thus have to comply with the following:</p>
<ul style="text-align: justify; ">
<li>Minimum net worth requirement of Rs 2 crore for registration.</li>
<li>Make minimum investments as stipulated in RBI notifications in central, state government securities and would be liable to pay a penal interest in the case of non-compliance.</li>
<li>A minimum of 20% of net profits will have to be transferred to the Reserve Fund from which no appropriations are permissible except with intimation to the Central Bank within 21 days from such withdrawal.</li>
<li>Statements, information called for under the provisions of chapter IIIB would have to be furnished.</li>
<li>RBI bank is empowered to file a winding up petition if it is satisfied that the NBFC is unable to pay its debt or its continuance is detrimental to public interest/depositors of the company.</li>
<li>Prohibited from disclosing any information contained in any statement or return submitted by such company under the provisions of Chapter IIIB; or obtained through audit or inspection or otherwise by the Bank. Such information is to be treated as confidential with the exception of disclosure to any other NBFC in accordance with the practice and usage customary amongst such companies or as permitted or required under any other law.</li>
<li>Scope of business of banks is limited by section 16(1) of Banking Regulation Act - the only limitation being the prohibition on checking facilities, due to absence of demand deposits.</li>
</ul>
<h3 id="3-1" style="text-align: justify; ">3.1. Threshold Mechanism under Indian Law</h3>
<p style="text-align: justify; ">Due to differential financial risk posed by different categories of NBFCs, there exist different regulatory mechanisms applicable to the different classes. For these reasons other than administrative convenience, NBFCs were categorised into the following three groups:</p>
<ul style="text-align: justify; ">
<li>Deposit accepting NBFCs,</li>
<li>Non-deposit accepting NBFCs with assets of less than Rs.100 crore, and</li>
<li>Non-deposit accepting NBFCs with assets of Rs.100 crore and above.</li>
</ul>
<p style="text-align: justify; ">With the aim to achieve a balance between under-regulation and over-regulation in the sector, RBI increased the threshold asset size for an NBFC to be considered systemically important (NBFC-ND-SI) from Rs.100 crore to Rs.500 crore <strong>[3]</strong>. A simplified regulatory framework has been established for NBFCs which are not systemically important (NBFCs-ND), i.e. NBFCs having total assets less than Rs.500 crore.</p>
<p style="text-align: justify; ">As per Economic Times, Faircent’s <strong>[4]</strong> enterprise valuation, which can be indicative of its net assets, is Rs 50 crore <strong>[5]</strong>. Keeping in mind that Faircent is arguably one of the biggest market players in the P2P segment, it seems that most P2P lending platforms will have net assets worth less than 500 crore, at least in the near future. Thus, this blog post, to analyse the <em>applicable</em> regulatory regime relies on the assumption that P2P lending platforms, if recognized as NBFCs, would not be systematically important as per the criteria laid down under law. Systematically Important NBFCs have different leverage, capital adequacy, asset classification, corporate governance and disclosure norms.</p>
<p style="text-align: justify; ">The RBI issued Prudential Norms Directions for Non-Systematically Important Non-Banking Financial (Non-Deposit Accepting or Holding) Companies in 2015 <strong>[6]</strong>. This framework classifies non deposit taking NBFCs on the basis of their access to public funds and customer interface. Subclause (ii) of clause (3) of Paragraph 1 states that these directions, excepting paragraph 15 are not applicable to NSI-NBFC’s provided that they do not accept or hold public funds. As per paragraph 15, a certificate will have to be submitted to the Regional Office of the Department of Non-Banking Supervision by the statutory auditor within one month from the date of finalization of the balance sheet and in any case not later than December 30th of that year.</p>
<p style="text-align: justify; ">NSI-ND-NBFCs do not have to comply with the limited prudential norms when there is no access to public funds, either directly or indirectly. In the present case, the P2P Platform will not itself have any access to public funds, the funds being transferred directly from the lender to the borrower. The RBI in its consultation paper has proposed the applicability of a leverage ratio to P2P platforms which is in contravention of Paragraph 1 of the deemed regulations. The powers of the RBI under section 45JA of the RBI Act 1934 do not include the making of any directions/regulations which involve the applicability of a leverage ratio. If P2P platforms are made to comply with the deemed leverage ratio requirement under law, 7, it results in apprehension as the possibility of applicability of the other provisions of the NSI-ND-NBFC Prudential Norms Directions. The question as to the existence of regulatory authority to impose the leverage ratio arises which deserves clarification by the RBI.</p>
<h3 id="3-2" style="text-align: justify; ">3.2. Change in Management or Control of NBFCs</h3>
<p style="text-align: justify; ">The Non-Banking Financial Companies (Approval of Acquisition or Transfer of Control) Directions, 2014 [herein after referred to as ‘Change in Control Directions’) was a step towards ensuring that all NBFCs are managed by ‘fit and proper’ management <strong>[8]</strong>. Earlier, only intimation with the Regional Office was required.</p>
<p style="text-align: justify; ">In 2015, addressing the responses from the industry, the RBI issued revised guidelines <strong>[9]</strong> to make prior written permission of the Reserve Bank be required for the following activities:</p>
<ul style="text-align: justify; ">
<li>Any takeover or acquisition of control of an NBFC, which may or may not result in change of management.</li>
<li>Any change in the shareholding of an NBFC, including progressive increases over time, which would result in acquisition/ transfer of shareholding of 26 per cent or more of the paid up equity capital of the NBFC. This would not extend to cases involving buyback of shares/ reduction in capital provided approval from a competent court has been obtained.</li>
<li>Any change in the management of the NBFC which would result in change in more than 30 per cent of the directors, excluding independent directors. Prior approval would not be required for those directors who get re-elected on retirement by rotation.</li>
<li>Further, P2P lending platforms will have to continue to inform the RBI regarding any change in their directors/ management as stipulated under Non-Systemically Important Non-Banking Financial (Non-Deposit Accepting or Holding) Companies Prudential Norms (Reserve Bank) Directions, 2015.</li>
</ul>
<h3 id="3-3" style="text-align: justify; ">3.3. Compliance with KYC/AML/CFT Norms</h3>
<p style="text-align: justify; ">Non-deposit-taking NBFCs with assets of Rs 25 Crore and above are to comply with Know Your Customer (KYC) norms / Anti-Money Laundering (AML) standards / Combating of Financing of Terrorism (CFT) through the allotment of Unique Customer Identification Code for NBFC Customers in India (UCIC) as intimated by the RBI in its circular dated May 3, 2013 <strong>[10]</strong>. According to RBI's master circular dated July 1, 2014 <strong>[11]</strong>, NBFCs are required to prepare a risk profile of each customer and apply enhanced due diligence measures on higher risk customers. Further, NBFCs are to put in place policies, systems, and procedures for risk management keeping in view the risks involved in a transaction, account or banking/business relationships. In 2015, the RBI issued another notification <strong>[12]</strong>, which stated that the periodicity of the updation of the data required to be maintained through the 'client due diligence' directions should not be less than once in five years in the case of low risk category customers, and not less than once in two years in case of high and medium risk categories. Full KYC exercise will have to be done every two years for high risk, every eight years for medium risk, and every ten years for low risk individuals and entities taking in to account the adequacy of the data obtained through client due diligence measures, if any. The 2014 directions also stated that detailed guidelines on Customer Due Diligence (CDD) measures made applicable to Politically Exposed Person (PEP) and their family members or close relatives will have to be complied with.</p>
<p style="text-align: justify; ">Further, NBFCs have been warned in the notification that the information collected from the customer for the purpose of opening of account should be kept confidential, and should <em>not</em> be divulged for cross selling or any other purposes. NBFCs have to ensure that the information sought from the customer is <em>relevant</em> to the perceived risk, is not intrusive, and is in conformity with the guidelines issued in this regard. Any other information from the customer should be sought separately with her/his consent, and <em>after</em> opening the account.</p>
<p style="text-align: justify; ">If the NBFC has knowledge or reason to believe that the client account opened by a professional intermediary is on behalf of a single client, the client must be identified. NBFCs should not allow opening and/or holding of an account on behalf of a client/s by professional intermediaries, like Lawyers, Chartered Accountants, etc., who are unable to disclose the true identity of the beneficial owner due to professional obligations of customer confidentiality. Some documents have been specified which should be called for and verified for the opening of an account in the name of a proprietary concern.</p>
<p style="text-align: justify; ">A Principal officer should be appointed to ensure compliance with the KYC/AML/CFT norms and the obligations under the Prevention of the Money Laundering Act 2002. A system should be made for the recording of transactions involving counterfeit coins/currency, cash exceeding Rs 10 lakh rupees, either individually or in a series, and for transactions that are ‘suspicious’ according to the Money Laundering Act 2002. NBFCs should maintain for at least ten years from the date of transaction between the NBFC and the client, all necessary records of transactions referred to in rule 3 of the Prevention of Money-laundering (Maintenance of Records of the Nature and Value of Transactions, the Procedure and Manner of Maintaining and Time for Furnishing Information and Verification and Maintenance of Records of the Identity of the Clients of the Banking Companies, Financial Institutions and Intermediaries) rules 2005, (hereinafter, referred to as the PMLA rules) to enable the reconstruction of transactions and the provision of evidence for prosecution of persons involved in criminal activity <strong>[12]</strong>. Even if P2P lending platforms do not enter into the transaction with the customer for the provision of the loan itself, there does exist a transaction involving the payment of processing fee etc. to the P2P lending platform, indicating compliance with the PMLA rules. Further, records pertaining to the identification of the customer will have to be maintained for a period of ten years after the termination of the business relationship. ‘Suspicious transactions’ will have to be reported to the Financial Intelligence Unit India. To combat financing of terrorism activities, continuous screening and monitoring of transactions which have no apparent economic or visible lawful purpose should be done. NBFCs should give special attention to business relationships and transactions with persons in countries which do not or insufficiently apply the FATF recommendations.</p>
<h3 id="3-4" style="text-align: justify; ">3.4. Compliance with Guidelines on Fair Practices Code for NBFCs</h3>
<p style="text-align: justify; ">Though P2P lending platforms are not loan companies, the object of classifying them as a NBFC would be defeated if they are not made to comply with the RBI established FCP guidelines. These requirements include:</p>
<ul style="text-align: justify; ">
<li>All communications to the borrower shall be in the vernacular language or a language as understood by the borrower.</li>
<li>To enable the borrower to make an informed decision, loan application forms should include necessary information which affects the interest of the borrower, so that a meaningful comparison with the terms and conditions offered by other NBFCs.</li>
<li>A system of providing acknowledgement for receipt of all loan applications with a time frame should be established.</li>
<li>The amount of the loan sanctioned along with the terms and conditions including annualised rate of interest and method of application thereof should be kept on record by the NBFC.</li>
<li>NBFCs shall mention the penal interest charged for late repayment in bold in the loan agreement.</li>
<li>Non furnishment of a copy of the loan agreement or enclosures quoted in the loan agreement being an unfair practice, NBFCs are, therefore, advised to furnish a copy of the loan agreement along with a copy each of all enclosures quoted in the loan agreement to all the borrowers at the time of sanction / disbursement of loans.</li>
<li>The NBFCs should give notice to the borrower of any change in the terms and conditions including disbursement schedule, interest rates, service charges, prepayment charges etc.</li>
<li>NBFCs should also ensure that changes in interest rates and charges are effected only prospectively. A suitable condition in this regard should be incorporated in the loan agreement. Decision to recall / accelerate payment or performance under the agreement should be in consonance with the loan agreement.</li>
<li>NBFCs should release all securities on repayment of all dues or on realisation of the outstanding amount of loan subject to any legitimate right or lien for any other valid claim. If such right of set off is to be exercised, the borrower shall be given notice about the same with full particulars about the remaining claims and the conditions under which NBFCs are entitled to retain the securities till the relevant claim is settled/paid.</li>
<li>NBFCs should refrain from interference in the affairs of the borrower except for the purposes provided in the terms and conditions of the loan agreement (unless new information, not earlier disclosed by the borrower, has come to the notice of the lender).</li>
<li>In case of receipt of request from the borrower for transfer of borrowed account, the consent or objection of the NBFC, should be conveyed within 21 days from the date of receipt of request. Such transfer shall be as per transparent contractual terms in consonance with law.</li>
<li>In the matter of recovery of loans, the NBFCs should not resort to undue harassment. Staff should adequately trained to deal with the customers in an appropriate manner.</li>
<li>The Board of Directors of NBFCs should also lay down an appropriate grievance redressal mechanism within the organization to resolve disputes arising in this regard.</li>
<li>NBFCs will have the freedom of implementing measures which enhance the scope of the guidelines without sacrificing their underlying spirit.</li>
</ul>
<p style="text-align: justify; ">The directions as to the formation of appropriate internal principles and procedures in <em>determining</em> interest rates excepting processing and other charges are not be applicable to P2P lending platforms. Thus, P2P lending platforms are not be made to adopt the interest rate model and communicate with the borrower as to the approach for gradation of risk and rationale for charging different rate of interest to different categories of borrowers.</p>
<h3 id="3-5" style="text-align: justify; ">3.5. Obligations to Share Credit Information</h3>
<p style="text-align: justify; ">In terms of Section 2(f) (ii) of the Credit Information Companies (Regulation) Act, 2005, a non-banking financial company as defined under clause (f) of Section 45-I of the Reserve Bank of India Act, 1934 has also been included as "credit institution" <strong>[13]</strong>. Further, the Credit Information Companies (Regulation) Act provides that every credit institution in existence shall become a member of at least one credit information company <strong>[14]</strong>. Thus all NBFCs being credit institutions are required to become a member of at least one credit information company as per the statute. In this regard, in terms of sub-sections (1) and (2) of Section 17 of the Credit Information Companies (Regulation) Act, 2005, a credit information company may require its members to furnish credit information as it may deem necessary in accordance with the provisions of the Act and every such credit institution has to provide the required information to that credit information company.</p>
<p style="text-align: justify; ">In terms of Regulation 10(a) (ii) of the Credit Information Companies Regulations, 2006, every credit institution shall:</p>
<ul style="text-align: justify; ">
<li>keep the credit information maintained by it, updated regularly on a monthly basis or at such shorter intervals as may be mutually agreed upon between the credit institution and the credit information company; and</li>
<li>take all such steps which may be necessary to ensure that the credit information furnished by it, is update, accurate and complete.</li>
</ul>
<p style="text-align: justify; ">Thus, P2P lending platforms will have to regularly disclose credit information, both current and historical, to enable the creation of robust databases with Credit Information Companies.</p>
<h2 id="4" style="text-align: justify; ">4. Endnotes</h2>
<p style="text-align: justify; "><strong>[1]</strong> See: <a href="https://rbidocs.rbi.org.in/rdocs/Publications/PDFs/RBIAM_230609.pdf">https://rbidocs.rbi.org.in/rdocs/Publications/PDFs/RBIAM_230609.pdf</a>.</p>
<p style="text-align: justify; "><strong>[2]</strong> See: <a href="http://dipp.nic.in/English/acts_rules/Press_Notes/pn3_2016.pdf">http://dipp.nic.in/English/acts_rules/Press_Notes/pn3_2016.pdf</a>.</p>
<p style="text-align: justify; "><strong>[3]</strong> See: <a href="https://rbidocs.rbi.org.in/rdocs/content/pdfs/PNNBFC200315.pdf">https://rbidocs.rbi.org.in/rdocs/content/pdfs/PNNBFC200315.pdf</a>.</p>
<p style="text-align: justify; "><strong>[4]</strong> See: <a href="https://www.faircent.com/">https://www.faircent.com/</a>.</p>
<p style="text-align: justify; "><strong>[5]</strong> See: <a href="http://economictimes.indiatimes.com/small-biz/startups/faircent-com-raises-pre-series-a-funding-of-250k/articleshow/47630279.cms">http://economictimes.indiatimes.com/small-biz/startups/faircent-com-raises-pre-series-a-funding-of-250k/articleshow/47630279.cms</a>.</p>
<p style="text-align: justify; "><strong>[6]</strong> See: <a href="https://www.rbi.org.in/scripts/NotificationUser.aspx?Id=9830&Mode=0">https://www.rbi.org.in/scripts/NotificationUser.aspx?Id=9830&Mode=0</a>.</p>
<p style="text-align: justify; "><strong>[7]</strong> See: <a href="http://dipp.nic.in/English/acts_rules/Press_Notes/pn3_2016.pdf">http://dipp.nic.in/English/acts_rules/Press_Notes/pn3_2016.pdf</a>.</p>
<p style="text-align: justify; "><strong>[8]</strong> See: <a href="https://rbi.org.in/Scripts/NotificationUser.aspx?Id=8899&Mode=0#f1">https://rbi.org.in/Scripts/NotificationUser.aspx?Id=8899&Mode=0#f1</a>.</p>
<p style="text-align: justify; "><strong>[9]</strong> See: <a href="https://rbi.org.in/Scripts/BS_NBFCNotificationView.aspx?Id=9934">https://rbi.org.in/Scripts/BS_NBFCNotificationView.aspx?Id=9934</a>.</p>
<p style="text-align: justify; "><strong>[10]</strong> See: <a href="https://rbi.org.in/scripts/NotificationUser.aspx?Id=7962&Mode=0">https://rbi.org.in/scripts/NotificationUser.aspx?Id=7962&Mode=0</a>.</p>
<p style="text-align: justify; "><strong>[11]</strong> See: <a href="https://rbi.org.in/scripts/NotificationUser.aspx?Id=9081&Mode=0">https://rbi.org.in/scripts/NotificationUser.aspx?Id=9081&Mode=0</a>.</p>
<p style="text-align: justify; "><strong>[12]</strong> See: <a href="https://rbi.org.in/Scripts/BS_NBFCNotificationView.aspx?Id=9449">https://rbi.org.in/Scripts/BS_NBFCNotificationView.aspx?Id=9449</a>.</p>
<p style="text-align: justify; "><strong>[13]</strong> See: <a href="http://www.incometaxindia.gov.in/Pages/acts/credit-information-companies-act.aspx">http://www.incometaxindia.gov.in/Pages/acts/credit-information-companies-act.aspx</a>.</p>
<p style="text-align: justify; "><strong>[14]</strong> See: <a href="https://rbi.org.in/Scripts/BS_ViewMasCirculardetails.aspx?id=9913#16">https://rbi.org.in/Scripts/BS_ViewMasCirculardetails.aspx?id=9913#16</a>.</p>
<h2 id="5" style="text-align: justify; ">5. Author Profile</h2>
<p style="text-align: justify; ">Pavishka Mittal is a law student at West Bengal National University of Juridical Sciences, Kolkata and has completed her second year. She takes contemporary dance very seriously and hopes to contribute to the dance community in India. Other than dancing, she indulges in binge-watching in her spare time.</p>
<p>
For more details visit <a href='http://editors.cis-india.org/raw/rbi-consultation-paper-on-p2p-lending-legality-and-implications'>http://editors.cis-india.org/raw/rbi-consultation-paper-on-p2p-lending-legality-and-implications</a>
</p>
No publisherPavishka MittalSharing EconomyReserve Bank of IndiaResearchNetwork EconomiesP2P LendingResearchers at Work2016-05-31T13:25:37ZBlog EntryRBI Consultation Paper on P2P Lending: Summary
http://editors.cis-india.org/raw/rbi-consultation-paper-on-p2p-lending-summary
<b>The Reserve Bank of India published a Consultation Paper on Peer-to-Peer Lending on April 28, 2016. The Paper proposes to bring the P2P lending platforms under the purview of RBI’s regulation by defining P2P platforms as NBFCs under section 45I(f)(iii) of the RBI Act. Once notified as NBFCs, RBI can issue regulations under sections 45JA and 45L. The last date for submission of comments to the Consultation Paper is May 31, 2016. In this post, Pavishka Mittal presents a summary of the Paper.</b>
<p> </p>
<p><strong>1.</strong> <a href="#1">Introduction</a></p>
<p><strong>2.</strong> <a href="#2">Crowdfunding and P2P Lending</a></p>
<p><strong>3.</strong> <a href="#3">Observations Made Regarding Current Practice of P2P Lending Companies</a></p>
<p><strong>4.</strong> <a href="#4">Types of Regulatory Regimes for P2P Lending Companies across the World</a></p>
<p><strong>5.</strong> <a href="#5">Arguments against Regulation</a></p>
<p><strong>6.</strong> <a href="#6">Arguments for Regulation</a></p>
<p><strong>7.</strong> <a href="#7">Proposed Regulatory Framework</a></p>
<p><strong>7.1.</strong> <a href="#7-1">Permitted Activity</a></p>
<p><strong>7.2.</strong> <a href="#7-2">Prudential Requirements</a></p>
<p><strong>7.3.</strong> <a href="#7-3">Governance Requirements</a></p>
<p><strong>7.4.</strong> <a href="#7-4">Business Continuity Plan (BCP)</a></p>
<p><strong>7.5.</strong> <a href="#7-5">Customer Interface</a></p>
<p><strong>7.6.</strong> <a href="#7-6">Reporting Requirements</a></p>
<p><strong>8.</strong> <a href="#8">Scope of RBI's Regulation</a></p>
<p><strong>9.</strong> <a href="#9">Endnotes</a></p>
<p><strong>10.</strong> <a href="#10">Author Profile</a></p>
<hr />
<h2 id="1">1. Introduction</h2>
<p>The Reserve Bank of India published a Consultation Paper on Peer-to-Peer Lending on April 28, 2016 <strong>[1]</strong>. The Paper notes that:</p>
<blockquote>Although nascent in India and not significant in value yet, the potential benefits that P2P lending promises to various stakeholders (to the borrowers, lenders, agencies etc.) and its associated risks to the financial system are too important to be ignored. The Reserve Bank (the Bank) has therefore found it necessary to put out this discussion paper to elicit public opinion and views of the various stakeholders on the future course of action having regard to the current legal and regulatory framework in place to regulate the business of financial intermediation.</blockquote>
<p>Here I present a summary of the Consultation Paper. The next post in this series will discuss in detail the different types of obligations that the Peer-to-Peer (henceforth, P2P) Lending Companies will have to satisfy if classified as Non-Bank Financial Companies, and other related issues.</p>
<p> </p>
<h2 id="2">2. Crowdfunding and P2P Lending</h2>
<p>The Paper starts with discussing (and distinguishing) SEBI’s <em>Consultation Paper on Crowdfunding in India</em>, published on June 17, 2014, to avoid overlap of jurisdiction <strong>[2]</strong>. SEBI's paper classified crowdfunding initiatives in to:</p>
<ul><li><strong>Community Crowdfunding:</strong> 1) Social Lending, and 2) Reward Crowdfunding; and</li>
<li><strong>Financial Return Crowdfunding:</strong> 1) Peer-to-Peer Lending, and 2) Equity Crowdfunding.</li></ul>
<p>Traditionally, Start-ups are funded through private equity, angel investor or loan arrangements with a financial institution. Any offering of public equity takes place only after the product or business becomes commercially viable. However, in Equity based Crowdfunding solicitation is done at an earlier stage. It refers to fund raising by a business, particularly early-stage funding, through offering equity interests in the business to investors online through a crowdfunding platform website acting as the intermediary.</p>
<p>Though, P2P lending did not appear to involve securities, loan/notes/contracts can be traded on a P2P platform or a secondary market. Thus, these loans may become securities, with the contract between the lender and the borrower being the security note.</p>
<p>In summary, SEBI’s paper suggested that under Security Based Crowd funding, the possible routes that could be explored are the following:</p>
<ul><li><strong>Equity based Crowd Funding (EbC):</strong> Raising equity through a crowd funding platform.</li>
<li><strong>Debt Based Crowd Funding (DbC)</strong> Raising of funds by issuing debentures or debt securities through a crowd funding platform.</li>
<li><strong>Fund Based Crowd Funding (FbC):</strong> Raising of funds for pooling under an Alternative Investment Fund (AIF) through a crowd funding platform.</li></ul>
<p> </p>
<h2 id="3">3. Observations Made Regarding Current Practice of P2P Lending Companies</h2>
<ul><li>P2P lending is in relation to unsecured loans.</li>
<li>The borrowers and the lenders can be both natural and juristic persons.</li>
<li>The interest rate can range from a flat interest rate fixed by the platform to dynamic interest rates as agreed upon by the borrowers and the lenders to cost plus model (operational costs plus margin for platform and returns for lender).</li>
<li>The companies often follow a reverse auction model in which the lenders bid for a borrower’s loan proposal and the borrower has the freedom to either accept or reject the offer.</li>
<li>Borrowers are able to avail lower rates than those offered by money lenders/unorganized sector. Lenders can obtain higher returns than what conventional investment opportunities offer.</li>
<li>Some of these are involved in the business targeted at micro finance activities with the stated primary goal being social impact and providing easier access of credit to small entrepreneurs.</li>
<li>The borrowers pay an origination fee (either a flat rate fee or as a percentage of the loan amount raised) according to their risk category.</li>
<li>The lenders, depending on the terms of the platform, have to pay an administration fee and an additional fee if they choose to use any additional service (e.g. legal advice etc.), which the platform may provide.
</li><li>The platform provides the service of collecting loan repayments and doing preliminary assessment on the borrower’s creditworthiness.</li>
<li>The regulatory concerns in such cases would relate to KYC and recovery practices. Since all payments are through bank accounts, the KYC exercise can be deemed to have been carried out by the banks concerned. The platform facilitates collection of post-dated cheques from the borrower in the name of the lender as a proxy for repayment of the loan.</li>
<li>The platform does NOT profit from the difference in the deposit and the loan rates, as is the case with Banking Financial Institutions.</li>
<li>In summary, while crowd funding - equity, debt based and fund based- would fall under the purview of capital markets regulator (SEBI), P2P lending would fall within the domain of the RBI.</li></ul>
<p> </p>
<h2 id="4">4. Types of Regulatory Regimes for P2P Lending Companies across the World</h2>
<ul><li><strong>Complete Exemption / Non-regulation due to Lack of Definition:</strong> Regulations already in place to be applicable which protect the borrowers from unfair interest rates, unfair credit provision, and false advertising. Hence no further, or specific, regulation is undertaken.</li>
<li><strong>Intermediary Regulation:</strong> Registration required as an intermediary to enable it to access the market. Other rules and requirements determine how the platform should conduct its business (for example, the licensing needed to provide credit and/or financial services).</li>
<li><strong>Banking Regulation:</strong> To be applicable due to their credit intermediation functions. As such, the platforms must obtain a banking licence; fulfil disclosure requirements and other such regulations.</li>
<li><strong>US Model:</strong> Involves two levels of regulation, involving a central agency (SEC in this case) and state legislations.</li></ul>
<p> </p>
<h2 id="5">5. Arguments against Regulation</h2>
<p>The presence of regulation would lend credibility to P2P lending, attracting lenders with low awareness to these platforms who may not understand the risks involved specially in the context of susceptibility of these platforms to attract high risk borrowers. Regulation may stifle the growth of an innovative, efficient and accessible avenue for borrowers who either do not have access to formal financial channels or are denied loans by them. The market for P2P lending, currently in a nascent stage does not pose an immediate systemic risk nor any significant impact on monetary policy transmission mechanism.</p>
<p> </p>
<h2 id="6">6. Arguments for Regulation</h2>
<ul><li>Considering the significance of the online industry and the impact which it can have on the traditional banking channels/NBFC sector, it would be prudent to regulate this emerging industry. Regulation would reduce its potential to disrupt the financial sector and throw surprises. As P2P lending promotes alternative forms of finance, where formal finance is unable to reach and also has the potential to soften the lending rates as a result of lower operational costs. Therefore, the importance of these methods of financing needs to be acknowledged. If the sector is left unregulated altogether, there is the risk of unhealthy practices being adopted by one or more players, which may have deleterious consequences.</li>
<li>Section 45S of RBI Act prohibits an individual or a firm or an unincorporated association of individuals from accepting deposits, if his or its business wholly or partly includes any of the activities specified in clause (c) of section 45-I (i.e. activities of a financial institution); or if his or its principal business is that of receiving of deposits under any scheme or arrangement or in any other manner, or lending in any manner. Contravention of Section 45S is an offence punishable under section 58B (5A) of RBI Act. As per the Act, ‘‘deposit’’ includes and shall be deemed always to have included any receipt of money by way of deposit or loan or in any other form, but does not include any amount received from an individual or a firm or an association of individuals not being a body corporate, registered under any enactment relating to money lending which is for the time being in force in any State. Since the borrowers and lenders brought together by a P2P platform could fall within these prohibitions, absence of regulation may lead to perpetrating an illegality.</li></ul>
<p> </p>
<h2 id="6">7. Proposed Regulatory Framework</h2>
<p>RBI concludes that a regulatory mechanism would facilitate the creation of an alternative avenue of credit. It proposes to bring the P2P lending platforms under the purview of RBI's regulation by defining P2P platforms as NBFCs under section 45I(f)(iii) of the RBI Act by issuing a notification in consultation with the Government of India. After the notification, RBI can issue directions under sections 45JA and 45L of RBI Act to such platforms regarding registration requirements and prudential norms. Below are the features of the proposed regulation.</p>
<h3 id="7-1">7.1. Permitted Activity</h3>
<p>Considering the present stage of development, the platform could be registered only as an intermediary. i.e. the borrowing and the lending activity could not be reflected on the Balance Sheet. The platform will be required to ensure that section 45S of the RBI Act is not attracted by its activities. The platforms will be prohibited from giving any assured return either directly or indirectly. The platforms will be allowed to opine on the suitability of a lender and creditworthiness of a borrower. Adequate regulations on advertisements will also be put in place. It will also be mandated that funds will have to necessarily move directly from the lender’s bank account to the borrower’s bank account to obviate the threat of money laundering. The guidelines would also prohibit the platforms being used for any cross-border transaction in view of FEMA provisions relating to transactions between residents and non-residents.</p>
<h3 id="7-2">7.2. Prudential Requirements</h3>
<p>The prudential requirements will include a minimum capital of Rs 2 crore. With a view to ensure that there is enough skin in the game at a later date, leverage ratio may be prescribed so that the platforms do not expand with indiscriminate leverage. Given that the lenders may include uninformed individuals, prudential limits on maximum contribution by a lender to a borrower/segment of activity could also be specified.</p>
<h3 id="7-3">7.3. Governance Requirements</h3>
<p>The guidelines in this regard will include fit and proper criteria for promoters, directors and CEO. A reasonable proportion of board members having financial sector background could be suggested. The guidelines may also require the P2P lender to have a brick and mortar place of business in India. The management and operational personnel of the platform would need to be stationed within the country.</p>
<h3 id="7-4">7.4. Business Continuity Plan (BCP)</h3>
<p>The platforms need to put in place adequate risk management systems for its smooth operations. BCP and back up for the data needs to be put in place since the platform also acts as a custodian of the agreements/cheques etc. In case of failure of the platform to continue its operations, it should have a ‘living will’ or alternative arrangement in the form of an agreement for continuation of its operations.</p>
<h3 id="7-5">7.5. Customer Interface</h3>
<p>Most of the platforms operating in India provide a credit score for the borrowers using their customized algorithms. Confidentiality of the customer data and data security would be the responsibility of the Platform. Transparency in operations, adequate measures for data confidentiality and minimum disclosures to borrowers and lenders would also be mandated through a fair practices code. The current regulations applicable to other NBFCs will be made applicable to the P2P platforms in regard to recovery practice. The operators would also be mandated to have a proper grievance redress mechanism to deal with complaints from both lenders and borrowers and require reporting to the Board.</p>
<h3 id="7-6">7.6. Reporting Requirements</h3>
<p>In order to assist monitoring, the platforms will need to submit regular reports on their financial position, loans arranged each quarter, complaints etc. to the Reserve Bank. The Bank may come out with a detailed reporting requirement.</p>
<p> </p>
<h2 id="8">8. Scope of RBI's Regulation</h2>
<p>It may be noted here that RBI has powers to regulate entities which are in the form of companies or cooperative societies. However, if the P2P platforms are run by individuals, proprietorship, partnership or Limited Liability Partnerships, it would not fall under the purview of RBI. Hence, it is essential that P2P platforms adopt company structure. The notification can therefore specify that no entity other than a company can undertake this activity. This will render such services provided under any other organisational structure illegal. Alternatively, the other forms of structure may be regulated by the State Governments.</p>
<p>Comments are sought on following aspects of this discussion paper:</p>
<ul><li>Whether there is a felt need for regulating P2P lending platforms?</li>
<li>Is the assessment of P2P lending and risks associated with it adequate?</li>
<li>Are there any other risks which ought to be addressed?</li>
<li>Is the proposed approach to regulating these platforms adequate?</li>
<li>Any other relevant issues pertaining to P2P lending.</li></ul>
<p> </p>
<h2 id="9">9. Endnotes</h2>
<p><strong>[1]</strong> See: <a href="https://www.rbi.org.in/scripts/bs_viewcontent.aspx?Id=3164">https://www.rbi.org.in/scripts/bs_viewcontent.aspx?Id=3164</a>.</p>
<p><strong>[2]</strong> See: <a href="http://www.sebi.gov.in/cms/sebi_data/attachdocs/1403005615257.pdf">http://www.sebi.gov.in/cms/sebi_data/attachdocs/1403005615257.pdf</a>.</p>
<p> </p>
<h2 id="10">10. Author Profile</h2>
<p>Pavishka Mittal is a law student at West Bengal National University of Juridical Sciences, Kolkata and has completed her second year. She takes contemporary dance very seriously and hopes to contribute to the dance
community in India. Other than dancing, she indulges in binge-watching in her spare time.</p>
<p> </p>
<p>
For more details visit <a href='http://editors.cis-india.org/raw/rbi-consultation-paper-on-p2p-lending-summary'>http://editors.cis-india.org/raw/rbi-consultation-paper-on-p2p-lending-summary</a>
</p>
No publisherPavishka MittalSharing EconomyReserve Bank of IndiaResearchNetwork EconomiesP2P LendingResearchers at Work2016-05-18T12:12:23ZBlog Entry