Good show by the banks, but can they sustain it?

By Banking No Comments

The ongoing COVID-19 pandemic is causing unprecedented disruptions to economic activities across countries, and India is no exception. The pandemic has severely affected and continues to disrupt global value chains, production, trade, services and MSMEs thereby affecting overall growth and welfare. India, due to its stringent lockdown, lost much of its economic output, so much so that its economy had contracted by 23.4% in the first quarter and by 7.3% in the overall financial year 2020-21. With the economy crippled to such an extent, how has the financial sector in the third-largest economy still fared a question of deliberation?
In its lowest growth since 1965, the loan portfolio of the banking system this year grew by just 5.6 per cent. Given the circumstances that had been thrust upon the economy, RBI had introduced a moratorium on repayment of loans and had allowed banks to restructure loans to ease debts. It is due to this reason; we saw sluggish growth in the loan portfolios of different banks. On top of it, the government had guaranteed an Rs. 3 trillion emergency credit line to the troubled sectors.
Despite the existing challenges, some banks did record growth in bank credit but however, that was driven by personal loans and credit to agriculture and allied activities. The loans to the MSMEs segment too grew due to the government’s guaranteed schemes. Thus, the net profit of some listed Indian banks during the financial year 2021 has more than doubled, growing from Rs 41,038 crore to Rs 1.03 trillion. But is this a façade or has the Indian financial system actually, finally cracked the solution to its archaic detestable problem of the NPAs?
With soaring profits at the moment, many might presume that India has finally cracked a solution to its draconian problem, but is such a trend sustainable? In January, the RBI’s last Financial Stability Report (FSR) had estimated that banks’ gross NPAs may rise to a humungous 13.5 per cent by September 2021, from 7.5 per cent in September 2020, under the baseline scenario. Additionally, in a severe stress scenario, these can rise to 14.8 per cent. Thus, till March, the banks could hold on to such a façade but not all of them will be in a position to stomach the impact of the second wave of the pandemic.
To mitigate the effects of the second wave, a sound banking system is a sine qua non for maintaining financial stability, which can be achieved by lifting off the dead weight of non-performing assets from its balance sheets. While there is no universally acknowledged official ‘acceptable’ limit for NPAs, bad loans within 3% are considered manageable.
Merely aiming to reduce NPAs is no solution. Realizing that better NPA recognition has become the need of the hour, RBI has begun conducting asset quality reviews across banks to ensure that the problem is addressed well in time rather than stretched or swept under the carpet. However, the extent of bad loans is yet to surface. Loan moratoriums and rescheduling have kept NPAs at bay. Many corporates have suffered severely, but nobody knows what exactly is happening. The real damage shall bring to the surface over the next few quarters, as vaccine campaigns have ramped up and with COVID (hopefully) gone away, corporates shall begin to disclose their annual results and banks compelled to label their problem loans as NPAs.
Besides RBIs vigilance, Indian Public Sector Banks have entered a full-fledged consolidation mode wherein 27-odd public sector banks (PSBs) amalgamated into 10 large banks. The anchor banks such as Union Bank of India, Punjab National Bank, Indian Bank and Canara Bank are in the process of the branch and people rationalization, technology integration and stressed loan strategy etc. Although PSBs took the blame for poor corporate governance and leadership, the private sector’s weak links are also exposed with Chanda Kochhar and Rana Kapoor coming under the radar for corruption charges or violating the service rules. Similarly, the mounting NPAs in their balance sheets indicate bad lending practices.
Investor sentiments are at an all-time low and it is also becoming evident how difficult it is going to be for banks all over the world to maintain good assets and good earnings. Additionally, despite banks provisioning of bad debts recovery is a long road ahead. This delay can be expected due to logjams in courtrooms and Tribunals thereby leading to ineffective recovery legislation at the grassroots level. Due to the shutdowns and income slowdown, many repayments of loans, especially in Europe, United States, may cease leaving the banks dry. However, banking institutions are under immense pressure to ensure a business-as-usual amidst the lockdown and health crises. What were earlier their assets now would become a big risk and therefore necessitating the need to go beyond traditional modes of business vigilance to rise from the ashes left behind by the pandemic.

Bad Loans Insurmountable Burden on Investment and Savings

By Banking No Comments

A sound banking system is a sine qua non for maintaining financial stability in any country, which can be achieved by lifting off the dead weight of non-performing assets from its balance sheets. However, it is common knowledge that Indian banks are saddled with bad debts thereby ranking them as one of the worst in the world. In fact, it wouldn’t be wrong to state that India is definitely the worst in the BRICS bloc when it comes to its NPA management programme.
While there is no universally acknowledged official ‘acceptable’ limit for NPAs, bad loans within 3% are considered manageable. As aforementioned, compared with most BRICS members, India fares quite poorly compared to China’s, as its NPA stands at 1.75% while India’s NPA stands at a whopping 9.85%. In the recent case of PMC Bank, the bank’s last available numbers for March 31, 2019, showed a large deposit base of Rs 11,600 crore, a Gross NPA ratio of 3.76% and a net NPA ratio of 2.19%, which did not seem out of the ordinary. However, its capital adequacy ratio was higher than the regulatory requirement of 12% and its advances were growing in the double digits.
From a macro-economic standpoint, countries with high NPAs typically do not have high economic growth, investment and savings in the economy. Additionally, if loan non-recovery balloons, the bank’s net interest margin (NIM), profitability, return on assets, dividend payout, etc. all get severely affected, which in many cases does not spell well for the Bank’s credibility. Moreover, credit inflow is also jeopardized as its very financial soundness comes under scrutiny.
Despite its conspicuous impact on the economy, NPAs have an insurmountable burden on the investment and savings of investors like you and me. A high NPA ratio usually suggests that a bank’s management and recovery programs are flawed and hence an individual’s money isn’t safe in its mighty, hollow vaults. This emphatically leads to a low rate of savings for the people. Thus, due to burgeoning bad loan books, investment in the economy usually plummets.
Depositing money in a bank with a recent history of stress, a dicey reputation for governance, known problems in the loan book or a precarious GNPA and capital adequacy position exposes you to the risk of RBI directions, which can deprive you of access to your money for temporary periods.
What is the main thrust on which a sound financial institution is built? It certainly is on in its safe asset keeping credibility. However, with the mounting NPAs, investor trust and confidence has drastically eroded. This increase in the systemic level in India’s banking sector (and the debt market) is certainly causing increased stress, and investors may find their money wiped out for no fault of their own.
Talking about liability management, high NPAs frequently provide an impetus to the banks to lower their interest rates on deposits thereby lowering the rate at which your investment in Fixed Deposits grows. Thus, in order to maintain their NPAs, the interest rates on loans and advances rise. This invariably increases the cost of borrowing thereby discouraging people from taking out loans and thus reducing the flow of money in the market. This way, investors are not only deprived of their expected returns but also find the value of their investments eroded. Thus, the high burgeoning NPA crisis of a country can rattle its financial banking system and it can certainly prove to be a hurdle to its growth.
With the RBI conducting asset quality reviews across banks, better NPA recognition has become the need of the hour to ensure that the problem is addressed well in time rather than stretched or swept under the carpet. The extent of bad loans is yet to surface. Loan moratoriums and rescheduling have kept NPAs at bay. Many corporates have suffered severely, but nobody knows what exactly is happening. The real damage shall being to surface over the next few quarters, as vaccine campaigns have ramped up and with COVID (hopefully) gone away, corporates shall begin to disclose their annual results and banks compelled to label their problem loans as NPAs.
With the growth of loans in the economy, once the moratorium is lifted and repayments start coming to banks, NPAs would significantly rise. In this aspect, RBI has asked banks to do provisioning, buffers and raise capital, in order to be a resilient organization. Such a conservative approach coupled with a strong legal framework is likely to pass on the benefits to investors like you and me.





The Rise Of New Age Banks: Marrying NBFC’s with Fintech Companies

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Consolidation in the banking industry is inevitable. Leading up to 2020, radically transformed Bank models have emerged. A glimpse ahead shows an emphasis on innovative technologies to vastly facilitate banking – inclusive banking through new types of Bank models, non-traditional alliances to make banking affordable, Fintech capabilities to make banking customer-centric. Banking in the future will leverage the geographic reach and financial know-how of NBFCs by joining hands with Fintech companies disrupting services with AI, Blockchain and cybersecurity tools.

The bad loans history of Indian banks goes long back. In a recent development, another bank will be rescued due to its bad management programme, but interestingly, not by the government this time, but by the NBFC sector. In recent developments uncovered, BharatPe and Centrum would rescue the significantly distressed PMC bank. As SFB would acquire assets and liabilities of PMC bank, both the promoters are now permitted to start a small finance bank (SFB) in an equal ownership joint venture. RBI’s in-principle approval is a validation of Centrum’s experience in financial services and BharatPe’s digital expertise essential for setting up a new age bank. If this succeeds, it will be the first SFB in 6 years.

The bank’s gross NPA of 3.76% and net NPA of 2.19% was discovered by 2019. The reason for default in payments and bankruptcy, yet again, remains the same: financial irregularities and misreporting of loans. History bears testimony to the fact that the majority of Indian banks have treaded on the road of bankruptcy with their ill-suited loans that are handed out without thorough inspection of the credibility of the borrower. 

In the case of PMC, the bank had erroneously handed out loans to bankrupt real estate developer HDIL. Despite restrictions on withdrawals of cash and investigation of accounting lapses, RBI’s recent approval demonstrates an open runway for growth for institutions that adhere to regulations and rise out of ashes like a phoenix. However, like all the other times, this time to RBI used its underperforming problem-solving mechanism to counter the problem and dissolved the board and took the administration of the bank under its purview. The quantum of loans to a single borrower was against banking guidelines. 

Amidst all the other rhetoric, what will acquisition mean for different stakeholders? At the outset, the acquisition will revamp the structure. PMC bank would change from a cooperative bank to a small finance bank. Though, it is to be noted that the existing loan and deposit accounts of PMC shall continue as it is, additionally the existing staff and branches shall be retained. However, some existing assets, loans portfolio of around 1000 crore, of Centrum would be part of the proposed small finance bank.

Talking about the Shareholders and members of the PMC Bank, according to reports there are more than 50,000 members of PMC bank. Since this transition is part of a rescue operation by RBI and the bank has a significant negative net-worth, post this transition, members are expected to lose their invested money. Having talked about shareholders, one cannot leave behind the depositors of the PMC Bank. Given the present circumstances, the bigger and humungous amounts would get their principal amount back. However, it is to be noted that there might be some haircut in interest earned or some cap on withdrawal limits to defer complete withdrawal. Given the present credit crunch, the RBI shall truly work to safeguard the interest of depositors.

With NBFCs growing twice the speed of banks, RBI increased its vigilance over the NBFC segment in light of the IL&FS and DHFL fiasco. In times where NBFCs can become banks, thanks to Section 22(1) of the Banking Regulation Act, 1949, a prudential regulatory framework for NBFCs looking to transform into banks should be implemented. This would help mitigate spill-over of systemic risks inflicting NBFCs from further rupturing the banking system. Access to public deposits is a salivating factor for NBFCs hit by a liquidity crunch during the pandemic, however, serious fine-tuning and deliberation is required for the treatment of PMC’s depositors, mostly consisting of individuals, religious trusts and institutions, in the absence of a final revival plan.

From a macro-economic standpoint, it goes without saying that NBFCs looking to convert into banks will be required to maintain a higher Cash Reserve Ratio and Statutory Liquidity Ratio pursuant to RBI’s conversion guidelines. Post conversion, NBFCs will also enjoy some decline in the benefits of regulating in an unregulated field with focused disclosures, however, from a shareholder’s perspective, higher transparency and accountability is likely to instil a sense of confidence in such new-age banks. From a macro-economic standpoint, share prices of such newly formed banks will bear the brunt of changes in banking regulations, RBI circulars and underlying risks directly applicable to banks.

With NBFCs like Centrum looking to tie up Fintechs is aiming to tap a large consumer segment that doesn’t have access to credit or can’t access credit at a good interest rate. Given the boundary that banks operate within, Fintechs and the shadow financing institutions are filling the gap by innovating and using multiple data points to lend by exploiting the digital potential. While some classes believe that Fintechs are parasites riding on the network of the banking system and gaining valuations, however it goes without saying that inter alia, RBI must ramp up its monitoring game as marriages of convenience between NBFCs and Fin-techs are expected to witness a notable rise.

How Indian authorities, yet again, failed to make a difference in its NPA crisis approach?

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The second wave of the COVID-19 pandemic ushered in an era of disintegrating companies, arduous acquisition battles, and heated arguments in courtrooms. While most companies struggled to stay afloat, those with deep pockets jumped onto the acquisition and organic growth bandwagon. A giant that swore by this mindset was the Piramal Group whose resolution plan for Rs 37,250 for debt-ridden Dewan Housing Finance Limited (DHFL) received a conditional nod from the Nation Company Law Tribunal (NCLT), which subsequently received pompous and overwhelming approval from 94% creditors.
Despite being one of India’s largest mortgage lenders, DHFL’s tainted history of unwise financial handlings led towards it being the first financial services company to be notified for insolvency resolution under Section 227 of the Insolvency and Bankruptcy Code, 2016 by the Reserve Bank of India. The case itself poses as an exception, as the corporate insolvency resolution process under the Insolvency and Bankruptcy Code by the Reserve Bank of India is not applicable to financial service providers or banks. Therefore, the government’s action for the insolvency proceedings of financial service providers to enable the insolvency process of DHFL, which had defaulted on payment obligations, comes across an exception to the Code.
The NPA crisis in India is an archaic evil eating into the mighty edifice of India’s banking sector. However, the government’s sheepishly reluctant attitude to deal with the burgeoning crisis is indeed one of the factors that have led to the digging of the grave of the mighty financial sector of India. Statistically, India’s bad debts amount to 11% of the total lending, whereas corporate bad debts constitute 56% of the total bad debts of nationalized banks.
With another financial unit succumbing to the NPA crisis owing to governance concerns and payment defaults, India’s financial monitoring framework is ripe for reform and to nurse its post-pandemic financial system to health. The official perspective seems to maintain that the government looked after the vulnerable small and midsize firms during the pandemic. This, according to the official authorities, has been done by guaranteeing fresh bank loans and mortgages under RBI. Consequently, this belligerent view has been supported by the low take-up rate for the RBI’s one-time restructuring offer. Given low consumer confidence and crippled economic growth due to partial lockdowns, the NPA crisis is doomed to materialize sooner or later. According to the authorities, the NPA crisis can be dealt with later but how exactly is the question? Given, the DHFL insolvency, the financial system is doomed to fail given its failure to combat the NPA crisis.
Papering over an economy-wide solvency problem by flooding the financial system with high liquidity is not only risky but also fatal for financial stability. It is to be noted, that the same strategy of incessant capitalization of the financial sector by the Indian authorities has time and again proved to be a concocted measure in vain, as NPAs of the financial sectors have never plummeted in recent history. Even if they have, it is due to the practice of writing off loans from the accounting books in order to clean the financial records of the organization. But it is also something that the monetary authorities want to continue indefinitely which does little to help the bankrupt organizations. Alternatives, however, in the case of India are scarce. This is due to the fact that India doesn’t have good tools to deal with insolvency. The 2016 bankruptcy law, had been reeling under the pressure even before the pandemic had struck. Liquidation, the outcome in most bankruptcy cases, has led to creditors recovering only 15%. This gross inefficiency can be scrutinized when compared with the global average of 80%.
Given all the detestable conditionalities against the government’s liquidity approach, the government extended the same regime to failing shadow banks. Dewan Housing Finance Corp., as aforementioned, is a mortgage lender whose controlling shareholders are currently in judicial custody on charges of accounting fraud and misappropriation of funds. Talking about the archaic process adopted by the Indian authorities to settle DHFL, has left the suitors groaning about how shabbily the process was being run. With how the acrimonious contest shaped up, it’s certain that when the buyers control the reins, it will have to go through a lengthy legal challenge and will turn out expensive for creditors.
Clearly, due to all the aforementioned reasons, the task at hand is much more than filling the hole left by the $2.5 billion alleged fraud by Dewan’s former owners. With the government’s pro spending budget and increase in expenditure due to the vaccination campaign, bankruptcy in the financial sector is likely to wreak havoc on monetary and political goals of the Indian authorities with the DHFL precedent.

Bad banks: India’s pursuit to mitigate its NPA crisis

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With the banking sector crippling in the wake of COVID-19 induced depressionary forces, plans to place toxic assets in one or more bad banks has gained steam in recent weeks. Fundamentally, a Bad Bank purchases distressed assets from banks to eliminate toxic assets in their balance sheets and restore liquidity in the market. On account of the pandemic, India’s NPA crisis is all set to be exacerbated, where millions might not be able to uphold their end of the bargain. Taking into consideration, the need to restructure the financial sector in India, Budget 2021-22 announced that the Centre will set up an ARC, commonly referred to as a bad bank, to resolve the issue.
Make no mistake, the Insolvency and Bankruptcy Code (IBC) and Asset Reconstruction Company (ARC) are two differentiable concepts. IBC aims towards the resolution and reorganization of insolvent companies, whereas ARCs are set up for clearing up NPAs. Thus, ARCs primarily deal with recovery, while the IBC seeks a resolution. Thus, ARC serves as a damage control policy rather than a damage prevention mechanism.
Given India’s deteriorating financial health, a preventive mechanism is the need of the hour. Given, Vijay Mallya’s felony to 17 banks, owing them 90 billion, which had sent shock waves throughout the market, Indian authorities should be cracking down on “bad boy billionaires” in order to restore financial discipline in the economy. Consequently, a preventive mechanism presents itself as an unadorned opportunity to usher India out of its bad bank crisis.
Shell companies, which are emphatically used by the corporate leaders to garb their revenues and clandestine corporate affairs, need to be rooted out from their core. The inefficiency to track such shell companies is what renders the government’s pursuit to counter defaulting banks, useless. It is to be noted that operating a shell company in India is not illegal. With the shell company as a front, all transactions are shown on paper as legitimate business transactions, thereby turning black money into white. In this process, the business person also avoids paying tax on the laundered money.
It might come as a shock to many, but India does not have a concrete definition of shell companies. Shell companies are not defined in any law or act. This emphatically shows India’s reluctant attitude towards reviving its economy’s financial health. 

Have all the countries not defined shell companies in any law or act? No, the US has defined shell companies under their Securities Act. The US Securities Act defines shell companies as – “Securities Act Rule 405 and Exchange Act Rule 12b-2 define a Shell Company as a company, other than an asset-backed issuer, with no or nominal operations; and either: >no or nominal assets>assets consisting of cash and cash equivalents; or >assets consisting of any amount of cash and cash equivalents and nominal other assets.”

How ARCs or Bad banks won’t solve India’s burgeoning NPA problem?

It is no news that one of the worst victims of the ongoing economic crisis in India is the country’s already wounded financial sector. As per various reports, with businesses struggling to survive, bad loans are expected to rise, denting Indian banks’ health. But as a law of nature, someone’s loss is another’s gain. Here the only organization smelling opportunity is ARCs. As it can be expected, given the current state of the Indian economy, ARCs demand in India going forward is all set to rise as the economic slump will eventually lead to a surge in non-performing assets (NPAs).
Even the global players are smelling an opportunity. Canada-based asset management firm Brookfield is reportedly going to set an ARC in India. But does that imply that ARCs are devoid of problems? Certainly not. The economic crisis, which provides them with a huge opportunity, has also adversely impacted their business of raising capital to recover money.
As aforementioned, raising capital for acquiring more assets is one of the biggest challenges faced by ARCs. Initially, ARCs had a fee-based business model. Banks had to pay ARCs a fee to handle their bad loans, but with the introduction of the 5:95 rule by the Reserve Bank of India (RBI), the easy business became difficult. Under the 5:95 rule, if ARC was buying a stressed asset, it had to invest a minimum of 5% of the acquisition price. Later, the woes of ARCs were exacerbated under Raghuram Rajan, when this ratio was increased to 15%. This certainly led to ARCs having more skin in the game.
Secondly, given the current economic slump, ARCs probability to recover bad loans has plummeted adversely as people are unable to pay back their liability. The ability to pay has also been adversely impacted by the operational difficulties that are being faced by the borrowers due to the lockdown. Thus, more time is being asked to repay their dues. Additionally, some of the asset sales, which were in the process of getting completed, have been postponed due to the pandemic. Similarly, IBC cases have been delayed as the National Company Law Tribunals (NCLTs) are not fully functional. Thus, raising capital for acquiring more assets is one of the biggest drawbacks and challenges for bad loans.
As the financial crisis continues, the need to remove troubled assets from financial institutions’ balance sheets has become critical. Confidence in our banking and the financial system requires confidence in our financial institutions and the ongoing reporting of losses and write-downs continuously hampers progress. Therefore, it is imperative to see the situation as-is wherein ARCs and Bad Banks may provide incremental improvements but is unlikely to dramatically restore balance sheets. Indian financial structure additionally needs the option of restructuring of stressed assets and IBC and a preventive measure to treat the root cause of the problem, which is segregation of troubled assets and timely risk management.

Post-Pandemic Banking: A way toward Bank Nationalization?

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As the pandemic continues to ravage lives and livelihoods, one unintended victim shall be the Indian banking industry. In the newfangled language of the virus, those with co-morbidities will suffer. This includes financial institutions – banking and non-banking.
In the economic sense, public sector banks (PSBs) which entered the pandemic quite fragile are likely to be severely hit. The reason being, the knock-on effects from worst-hit sectors during the pandemic will flow directly to banks and NBFCs further exacerbating the non-performing assets (NPAs) problem. Therefore, during such testing times, the Indian government has provided reliefs to stimulate the sluggish economy and prevent economic disasters.
In the past year, the Reserve Bank of India (RBI) had allowed moratoriums, which will pile up and create a negative impact over the course of this year and the next. Fortunately, RBI permitted a one-time restructuring of loans to companies in the distressed sectors to iron out this problem. Furthermore, RBI can loosen its prudential norms to a pre-1992 era and not recognize bad loans – a move that is likely to allow banks to operate at a slower pace of credit in the economy, given government ownership prevents runs on banks. Alternatively, recapitalization of the banks by an extremely cash-strapped government can be considered by RBI. However, both options are tough and the gravity of the crisis cannot be washed away.
One result of a distressed economy and failing monetary reliefs indicates that the government may be required to play a significant role in the fate of many banks. When the government does intercede, the topic of nationalizing banks often arises soon after, and the subject stirs lively debates.
After having observed just over 50 years of the majority of the Indian Banks having been nationalized, a debate between the erstwhile stance and a recent privatization-led regime has arisen. Whilst bank nationalization stood for energizing priority sectors, the crumbling and debilitated functionaries and MSMEs that were, and to a great extent, still are, in desperate need of well-regulated credit, the recent view on privatization of these banks has opted for a rather capitalism driven approach.

The emergence of the school of thought that re-privatization of PSBs finds its roots in the ideologies that are rooted in advocacy for freely flowing competition in the marketplace, where individuals fend for their own selves, where they adapt, survive and overcome, or succumb to marketplace fiends and secede to stronger competition. To such a school of thought, governmental aid comes a as bail-out option, aimed at keeping the proverbial ‘ailing and wounded animal’ alive rather than putting it out of its misery.
However, amidst all the hue and cry between the two, the intent behind the Indira Gandhi government of 1964 should once again be taken into consideration, which so feebly hangs between the two. The concept of wiping out NPAs and Bad Assets from the economy not only warrants efficient working of recovery mechanism under the SARFAESI, I&B Code, and the RDDBFI but also deems the establishment of institutions such as Bad Banks as necessary.
In essence, the revitalization of the nationalization led movement would require the functioning of Bad Banks, wherein procurement of NPAs stressed assets and bad loans would further the intent behind the revitalization of the erstwhile intent, while also maintaining a quasi-capitalistic mechanism of banking institutions being run, that emulate the recent privatization led ideologies. Furthermore, since the procurement of banks of illiquid assets with credit risks is done, the banks earn hefty incentives from the government in the form of credit-provisioning subsidies and liquidity-increasing tools. Thus a healthy synergy between the banks, the public they’re targeting and the government, to encourage such banks, may be seen as vital for a reinvigorated credit facilitation system and the Indian economy at large.

Single Securities Code: Combination of financial laws

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Multiple pieces of law governing the banking industry have created more uncertainty than legislators could have imagined. The Minister Of finance created a Single Securities Code to address this issue. SEBI Act 1992, Depositories Act 1996, Securities Contracts (Regulation) Act 1956, and Government Securities Act 2006 were presented as a complete framework for the four most essential legislation relating to the financial industry.

Whereas SEBI, as the market regulator, is responsible for enforcing these laws, courts have been forced to interpret the impact of these laws on one another in the past, making things more confusing. Also, the implementation of several legislations for each facet of the capital market often leads to duplication and conflict as was also visible in dematerialized shares; wherein experts had to refer to various acts to ensure regulatory compliance.

Indeed, a common code would enhance the operational efficiencies in terms of bringing down the turnaround time in matters of regulatory approvals. It may even offer the investor community at large and market intermediaries improved clarity in terms of the legalities of certain matters as, firstly, it will avoid a conflicting scenario. Moreover, it will improve administrative efficiency, making it easier to regulate trading and reducing the need for SEBI to stretch its claws across securities and commodities markets.

Additionally, over time, it is past time for harsh laws to be repealed and replaced with a contemporary framework that results in a slim code. That is quite similar to the present environment. Thereby, the unification of four laws into one would not only make the laws more cohesive but also suitable for the present times as some were introduced as early as 1956. This would also allow the policymakers to address all the current ambiguities within the regulatory framework and introduce provisions that may be presently missing. 

A single rule would also provide tremendous operational efficiency to the regulator, who is currently overburdened with the responsibility of regulating many types of assets, including equity, commodities, currency, interest rate, and stock exchanges. That gives a mercantilism platform for government and private sector bonds as well. Moreover, unification of the securities market code would mean that Government Securities augment the credibility of the government’s borrowings and the foreign capital flow in the country. Therefore, a comprehensive code if enforced will make compliances transparent, efficient, and enforcement of regulations simpler, thereby, reduce litigation. It would also enable the revamping of the Securities Contract Regulation Act streamlining multiple laws, guidelines, ordinances, and regulations.

Nevertheless, SEBI acts as a watchdog to observe key aspects of the capital market transactions along with an enormous variety of investment vehicles like foreign investors and mutual funds. There is the likelihood that the consolidation of the legislations into a renewed Code, could elevate the position of SEBI from a watchdog to that of a Super Regulator.  This is significant considering that the Supreme Court in the matter of SEBI vs IRDAI battle over unit-linked insurance plans, issued a clarion decision back in 2010 towards a revamp of financial laws. Probably hinting at the formation of a super-regulator by the Central Government. More recently, regulatory overlaps appear to have arisen between SEBI and NFRA in penalizing quality lapses by auditors and audit corporations. 

The management and regulation of government securities presently lie with the Reserve Bank of India whereas trading of Government Securities along with other financial instruments on the stock exchanges is regulated by SEBI. Thereby, including the Government Securities Act under the same umbrella as the SEBI Act and Securities Contracts (Regulation) Act, 1956. Which is the regulative foothold of SEBI, poses potential overlap of powers between RBI and SEBI once again. However, while drafting a unified Code the clarification of regulatory jurisdiction of these agencies could be addressed and conquered.

 As a result, there are several overlapping laws and interpretations of many acts that require tweaking and modifications, which could be readily accomplished by enacting a Consolidated Code. That could also assist in the creation of contemporary financial legislation. In addition, it would provide ease of operations for businesses and enhance the confidence of investors leading to an overall flourishment of the securities market as well.

The imposition of tax on REIT/INVIT under The Finance Act, 2020: A Critical Evaluation

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Real Estate Investment Trusts and Infrastructure Investment Trusts are rapidly growing investment vehicles that allow developers to monetize revenue-generating real estate and infrastructure assets while also allowing unitholders to participate without owning the assets. The Indian real estate sector has long campaigned for the creation of “Real Estate Investment Trusts (hereinafter REITs)” and “Infrastructure Investment Trusts (IITs)” (hence InvITs). However these industry launches were originally permitted a few years ago, their popularity has waned because of the ambiguity surrounding the tax legality of all pass-through transfers. REIT may be defined as a sort of mutual fund that enables investors to invest in real estate.

A real estate investment trust (REIT) is a firm that receives money from interested investors and invests it in real estate projects. InvITs, on the other hand, vary from REITs in that the majority of willing investors often participate in capital investments with a long gestation period. They are collectively known as “Business Trusts,” and they have enormous potential to aid the government in accomplishing one of the country’s large infrastructure expansion goals while also encouraging the country’s commercial real estate market to improve.

Dividends (received by unitholders of REITs and InvITs) were not subject to tax prior to the approval of the Finance Bill tabled in Lok Sabha. The Finance Minister, Ms. Nirmala Sitharaman, released the Union Budget for the years 2020-2021 and requested several changes. For the fiscal year 2021, the Bill tabled in the Lok Sabha comprised many budgetary and taxation-related suggestions to change the Income-tax Act, 1961 (“Income-tax Act”).

Following the passage of the bill, the government decided to tax profits received by unitholders in REITs and InvITs, jeopardizing the developers’ and road-to-port the builders’ intentions to collect all money from such instruments. It may as well had been a tax policy enforced, but the dividend distribution tax was eliminated in Budget 2020-21, putting the burden of proof on the holders. Although tax-free SPVs and trusts will remain, unitholders of InvITs and REITs will no longer be exempt. They will also be subjected to be taxed at the applicable income tax rate for the dividend income under the finance act 2020.

Upon the bill’s ratification, there was some unanimity on the fairness of the taxation policy imposed on dividend unitholders, and some remained unaffected by the adjustment in the taxation policy since it was not a major problem and was not unreasonable given that the government had already decreased the corporate tax rate. The aim behind such imposition seems to be convincing as it was to apply one advantage – either exempt the dividends or offer a lower corporate tax rate to the SPVs. The imposition of tax responsibility on REITs and InvITs, like two sides of a coin, has its own set of benefits and downsides. The idea in the Union Budget to tax the profits obtained in the hands of unitholders/investors was developed after studying the chances of imposing the tax and taking into account the views addressed by real estate industry authorities.

 It would have a detrimental effect on the potential of InvITs and REITs, as a budget choice would go against the government’s immediate efforts. This was done to entice InvITs and REITs to give some tax certainty to long-term infrastructure developers. The introduction of the tax, on the other hand, contributes to the uncertainty among international/foreign investors who are skeptical of India’s tax regime’s stability and will be irreversibly hurt by the tax regime’s unpredictability. The government’s proposed/passed reforms, as well as the application of a tax on dividends earned by REIT and InvIT unitholders, seems to have a significant influence on the business trust’s future potential in one way or another. Nevertheless, the appeal of these structures remains unresolved following a comparative review of the revisions.

The New Legislation of Personal Guarantor’s Insolvency under IBC

By Corporate Law, Banking, Media Coverage No Comments

IBC 2016 was created to replace the old framework for insolvency and bankruptcy with single legislation. With the adoption of the IBC, the winding-up procedure was brought under the supervision of the National Company Law Tribunal, guaranteeing prompt and speedy action during the early phases of a firm’s financial default. The IBC’s primary goal is to help distressed corporate debtors.


As defined by Section 5(22) of the Code, a personal guarantor is an individual who is the surety under a contract of guarantee to the corporate debtor. While the provisions of the IBC pertaining to the insolvency resolution process of corporate debtors were implemented by the Central Government in 2016, the provisions of the IBC pertaining to the insolvency resolution process of corporate debtors were not. The provisions pertaining to Personal Guarantors to Corporate Debtors’ bankruptcy resolution procedure were not.

Prior to the Code’s creation, the Presidency Towns Insolvency Act of 1909 and the Provincial Insolvency Act of 1920 covered insolvency and bankruptcy for all persons, including personal guarantors.


The IBC shall apply to the personal guarantor of the corporate debtor as of 1.12.2019, according to a notice dated 15.11.2019. Section III of the IBC will only apply to personal guarantors, according to this notice. The Supreme Court in landmark judgment held that lenders can now initiate insolvency proceedings against promoters, managing directors, and chairpersons who issued personal guarantees on corporate loans if the borrower defaults.

Prior to the Notification concerning Section 60 of the Code, the Debt Recovery Tribunal had jurisdiction over insolvency and bankruptcy procedures against personal guarantors, whereas procedures against corporate debtors for the same default were either underway or became pending before an NCLT. 

This had the opposite effect, delaying the legal procedure and producing inaccuracies in estimating the amount to be recovered from the guarantors. To resolve this issue, Sections 60(2) and 60(3) of the Code were inserted, mandating that bankruptcy procedures against personal guarantors and corporate debtors be conducted by the same court, namely the NCLT.


  1. Consolidation of proceedings safeguards the debtors’ and guarantors’ interests by ensuring that the claim amounts issued to creditors do not overlap.
  2. For creditors, it allows for simultaneous actions before the same court, removing the burden of having to go to two separate forums to recover the same amount.
  3. The new legislation is likely to significantly reduce delays in the collection of creditors’ dues, as the Code mandates a time-bound approach.
  4. In addition to the SARFAESI Act, debt recovery suits, and other civil remedies, creditors now have another option for recovering their loans, resulting in a concentration of power in their hands.
  5. There appears to be no clear provision in Part III of the IBC, 2016 that allows an aggrieved personal guarantor to challenge the adjudicating authority’s decision.
  6. A pro-creditor insolvency framework presently applies to personal guarantors. Liabilities do not exclude guarantors. As a result, organizations must exercise prudence and prudence before issuing assurances in order to protect themselves from unanticipated events.


In Lalit Kumar Jain vs. Union of India, the Hon’ble Supreme Court confirmed the legality of the 2019 notice expanding the IBC rules to personal guarantors. The Court also concluded that approving a Corporate Debtor’s resolution plan did not free a Personal Guarantor of their responsibility to repay the Corporate Debtor’s debt owed to an independent contractor.

A distinctive aspect of loans supplied to MSMEs is that it is frequently backed by personal guarantees supplied by promoters (which account for around 29 percent of GDP). Promoters will be encouraged to employ the pre-packaged insolvency resolution procedure for MSMEs to get creditor-friendly outcomes and strengthen credit discipline across the loan market as a result of the decision.


Despite being a good legislative attempt at efficiency, asset valuation maximization, and resolution process optimization, the new legislation fails to address the realities of the bankruptcy process. For instance, an ordinance dated 05.06.2020 halted the implementation of Sections 7, 9, and 10 of the IBC, 2016, which were intended to safeguard corporations against new insolvency actions, citing the COVID-19 epidemic as the rationale. 

However, relevant provisions of Part III of the IBC, 2016 dealing with individual/personal insolvency, including personal guarantors to corporate debtors, are not suspended in the same way, even though it is reasonable to assume that the economic slowdown caused by COVID-19 will affect both corporates and individual guarantors equally. This has led to the creditors having the option, even during a COVID-19 pandemic, to take action against personal guarantors but not against corporate debtors.

The need for paving a concrete path for SPACs

By Corporate Law, Banking No Comments

Due to the financial shortages that businesses are experiencing as a result of the epidemic, Special Purpose Acquisition Firms, or more accurately, blank cheque companies, might be a haven during these unusual circumstances, highlighting the need for regulation.

SPACs provide firms with a unique manner of public inclination and distinctive advantages over the traditional IPO measure. They provide greater market certainty in valuing equities, lower exchange charges, adaptable arrangements, greater access to the display, more solid brand worth, and market confidence in a substantially shorter period of time.

The limited market instability produced by the general shutdown is partly to blame for the surprise surge in energy prices. Despite the fact that several firms all around the world had postponed their IPOs due to the pandemic, SPACs have been approved to provide them with an exit strategy by supporting them in obtaining financing even during times of extreme volatility.

Indian corporations have been requesting approval for direct posting on foreign stock exchanges for quite some time, but India lacks a defined mechanism on the subject. In the meanwhile, many organizations have sought alternatives, and SPACs have emerged as a viable option. SEBI has recently formed a specialized advisory committee to look at the viability of SPACs in India.

It has prompted the board to produce a report on enabling SPACs alongside controlling norms to reduce the chances under existing legislation. Its recommendations for administrative income assortments through capital additions charges are also being looked upon.

SPACs frequently choose the newest, most distinctive, and futuristic enterprises in the technological and market arena as acquisition targets, allowing the major investor to be addressed directly, ensuring pricing certainty rather than market value volatility. Another advantage of starting a new firm in the early stages is that the costs associated with records and exposure are low, if not eliminated.

Abroad posting permits Indian new companies to get to bigger and more enhanced pools of capital and raise assets at lower costs, diminishing their expense of capital and making them more cutthroat. Abroad business sectors may help new companies accomplish more rewarding valuations as these business sectors have a more profound financial backer biological system that comprehends the dangers implied in a beginning up.

In particular, new firms seek high values based on expectations rather than beneficial history, making them unsuitable or unattractive candidates for an IPO on Indian stock exchanges. In any event, Nasdaq provides access to a larger and more current financial supporter base, as well as the ability to search for values.

Given how this interaction is performed, i.e., the SPAC support discovers the financial donors rather than target undertaking a wide book-building activity, it is reliant on forecasts. As a result, company entrepreneurs should reconsider a Nasdaq listing via SPAC.

The new USD 8 billion arrangement between India’s ReNew Power and Nasdaq listed SPAC RMG Acquisition Corporation II, for which Khaitan and Co went about as the Indian legitimate guidance to RMG II, is among the biggest ever postings including an Indian organization in the US through this course. Also, if the developing buzz around SPACs is any sign, this arrangement might just be trailed by a lot more sooner rather than later.

Investing in SPAC is not without risk, both for the backers and for the retail financial supporters. If the SPAC posts continue at their current rate, the required number of target companies by the end of 2021 might number in the thousands. In any case, there will surely be a limited number of worthwhile targets.

If the supporters are unable to identify a goal or if the investors refuse to approve the agreement, the supporters are left with no options. Furthermore, in the United States, retail financial supporters are allowed to cancel their offers and guarantee reductions even before they are purchased. In any event, such an option is unlikely to be available to Indian investors for a variety of reasons.

In the United States, posting through SPACs has become the norm. India, too, may join this current trend if it has a strong SPAC system. In the Indian economy, new enterprises have a huge duty to complete. A robust SPAC system will aid India in creating a stable startup environment. It will help the market conclusions and give new channels to capital development. That would lead to increased foreign inflows to help India in its journey towards expanding its economy.


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