Tag Archives: RBI

RBI on Processing of e-mandate on cards for recurring transactions

Reserve Bank of India (“RBI”) vide its notification on August 21 2019 has permitted the processing of e-mandate on cards for recurring transactions (“Notification”). RBI has put in place various safety measures for card payments including the requirement of additional factor of authentication (AFA), especially for ‘card-not-present’ transactions. With this view in mind RBI earlier in 2011 notified that recurring transactions based on the standing instruction given to the merchant was to be brought within the ambit of AFA.

Keeping abreast with the changing payment needs RBI has permitted e-mandate on cards for recurring transactions with AFA during e-mandate registration, modification and revocation, and also for the first transaction and subsequent successive transactions.

APPLICABILITY:

This Notification shall become effective from 1st September 2019, and shall be applicable to all types of cards i.e. debit, credit, pre-paid instruments (PPI) including wallets. Further, the e-mandate arrangement shall be only for recurring transactions and not for a one-time payment. Kindly note that the maximum limit for a transaction under this arrangement is INR2000/- and no charges are levied on the cardholder for availing the e-mandate facility.

CONDITIONS TO BE FULFILLED FOR PROCESSING E-MANDATE ON CARDS FOR RECURRING TRANSACTIONS:

  1. Registration of card details for e-mandate– The cardholder who wishes to opt for the e-mandating facility shall undertake a one-time registration with AFA validation by the issuer. Further, the registration shall only be complete after all the requisite information is obtained by the issuer. Kindly note that the cardholder at the time of registration is given an option to provide the e-mandate for either a pre-specified value of recurring transactions or a variable value; in case of the latter, the cardholder shall clearly specify the maximum value of the recurring transaction (currently INR2000/- per transaction).
  2. Processing of the first transaction and subsequent recurring transactions- AFA validation shall be performed for processing the first transaction in the e-mandate based recurring transaction. Kindly note the AFA validation may be combined if the first transaction is being performed along with the registration of e-mandate. Further, any subsequent recurring transaction shall be only performed for those cards which have been successfully registered and for which the first transaction has been authenticated and authorised. Kindly note that the subsequent transitions may be performed without AFA.
  3. Pre-transaction notification- To mitigate the risk the issuer shall send a pre-transaction notification at least 24 hours to the cardholder. It is at the time of registering for the e-mandate on the card, the cardholder shall be given the option for receiving the notification through SMS, email, etc. In addition, the cardholder is also given a facility to change the mode of receiving the notification. Kindly note that the pre-transaction notification shall inform the cardholder about the name of the merchant, transaction amount, date/time of debit, reference number, and reason for debit. The same information shall be notified for a post-transaction notification. Finally, at the time of a receipt of a pre-transaction notification, the cardholder shall be provided with an option to opt-out of that particular transaction or the e-mandate. Any such opt-out shall require an AFA validation by the issuer.
  4. Withdrawal of e-mandate- The cardholder shall be given an online facility to withdraw any e-mandate at any point of time by the issuer. However, the exception to this will be a pipeline transaction for which a pre-transaction notification has been communicated to the cardholder and the debit has not been communicated to the cardholder. After an e-mandate is withdrawn the acquirer shall ensure that the merchants on-boarded by them delete all the details including the payment instrument information.
  5. Dispute resolution and grievance redressal- The issuer shall put in place an appropriate redress system with a clear turnaround time for lodging and resolving the grievances put forward by the cardholder. Further, the card network shall make arrangements to separately identify chargebacks and disputes in respect of e-mandates based recurring payments. Also, it is the responsibility of the acquired to ensure that the merchants fulfil the compliance as laid down in this Notification.

Source: https://www.rbi.org.in/Scripts/NotificationUser.aspx?Id=11668&Mode=0

New Procedure for filing Annual Return on Foreign Liabilities & Assets

Reserve Bank of India (“RBI”) vide its Circular No.37 dated June 28, 2019, discontinued the existing practice of submission of annual returns on Foreign Liabilities and Assets (FLA) through email to RBI by July 15 of every year.  RBI has provided a web-portal interface https://flair.rbi.org.in to the reporting entities to get an RBI provided login-name and password, using which the entities are required to report inward and outward foreign affiliate trade statistics (FATS).

Since 2012, RBI had mandated filing of the annual return FLA for all Indian companies which have received any foreign investment or has made overseas investment. The procedure for submission of the form was by sending an email to the RBI by July 15th every year attaching a duly filled form in soft copy.

The details sought in the revised Foreign Liabilities and Assets Information Reporting (FLAIR) system include, information on first year of receipt of foreign direct investment/overseas direct investment, disinvestment, and other financial details on fiscal year basis.

 

Source: https://rbidocs.rbi.org.in/rdocs/notification/PDFs/NT226CBAA4706347E46429D5034B4671A6F60.PDF

Opportunities and Challenges for AIFs in India’s first IFSC, GIFT City, Gujarat.

We are pleased to share with you an article that our Founder Sharda Balaji along with our Associate Avaneesh Satyang contributed to the 2nd volume, Issue 2 of the KNOWLEDGEex Magazine released by Indian Association of Alternative Investment Funds (IAAIF). 

Introduction to IFSC and GIFT City

India has been witnessing a high growth in the investment funds domain, ranging from fund-raising activity to active investments by funds, and also an adaptive and dynamic regulatory environment conducive to the witnessed growth. The formation of most of these funds however have been concentrated to the well-known financial hubs such as Hong Kong, Mauritius, Singapore, etc. The success of theses financial hubs is generally attributed to the regulatory, tax and other business-conducive financial service centres. The International Financial Service Centre (IFSC), is India’s attempt to create an avenue into financial globalisation.

An IFSC allows overseas financial institutions and overseas branches/subsidiaries of Indian financial institutions to operate within India and cater to customers outside the jurisdictions of India. This is achieved only when the IFSC provide favourable regulatory regimes and business environment to investors and financial institutions.

Provisions for the setting up and regulations of an IFSC were thus introduced in the Special Economic Zone Act, 2005, and in 2015, Gujarat International Finance Tec-City (GIFT City) came into being to facilitate such financial services within the geographical territory of India, which would otherwise have been carried on abroad or through offshore branches/subsidiaries of Indian financial institutions.

As an IFSC, GIFT City is regulated under specific regulations and guidelines by India’s major financial sector regulators, i.e. the Reserve Bank of India (RBI), the Securities Exchange Board of India (SEBI), and the Insurance Regulatory and Development Authority of India (IRDA). This is because of the major identified thrust areas for IFSCs in India, which would need regulation as follows:

  • Banking and Forex: to be regulated by the RBI
  • Capital Markets: to be regulated by SEBI
  • Insurance: to be regulated by IRDA

Why consider AIFs in GIFT City?

GIFT City as a facilitator of international business has already set a firm initial footing in the above identified thrusts areas with more than 150 units licensed by the financial regulators already operating in GIFT City. The banking units at GIFT City are working well with transactions of more than USD 16 Billion having taken place. In the insurance sectors, the IRDA has licensed entities engaged in insurance business. And for the Capital markets, both National Stock Exchange (NSE) and Bombay Stock Exchange (BSE) are operating out of GIFT City, and several SEBI licensed companies are offering IFSC products from GIFT City.

Setting up of Alternative Investment Funds (AIFs) in GIFT City, being the species of private pooled funds recognized in India, becomes another important step in commencing the third stage of proliferation of financial and capital market activities.

It is to be noted that the authorities at GIFT City and the SEBI are fully aware that India has a big market for India-focused offshore feeder funds which are set-up outside India. Keeping in mind the premise offered by IFSC as fully capital account convertible, i.e. providing full exemption from FEMA norms for transactions from and to the IFSC, emerges as an important alternative to offshore feeder funds. For all transactional and regulatory aspects, an AIF operating from GIFT City, is an offshore AIF.

Thus, to assess the viability of setting up AIFs in GIFT City as opposed to an offshore fund will require an analysis on Regulatory (fund formation, registration, tax considerations, etc.) as well as Operational (ease of conducting business, etc.).

Regulatory Regime for AIFs in GIFT City

Soon after the introduction of GIFT City, SEBI promulgated its SEBI (International Financial Services Centres) Guidelines, 2015 (SEBI Guidelines) on March 27, 2015. The SEBI Guidelines permits only ‘recognized entities’ registered with SEBI or registered/recognized with foreign regulators, to set-up units in IFSC, in this regards AIFs operating in IFSCs are treated as recognized financial institutions.

Further operational and regulatory clarifications for stakeholders waiting to set up AIFs in GIFT City, the circular titled ‘Operating Guidelines for Alternative Investment Funds in International Financial Services Centres’ dated 26 November, 2018 (AIFs in IFSC Guidelines) by SEBI, provided much needed clarity on several aspects with respects to setting up and operation of AIFs in GIFT City.

  1. Continued applicability of the SEBI (AIF) Regulations, 2012 – the AIFs in IFSC Guidelines work under the broad ambit of the SEBI (AIF) Regulations, 2012 (the AIF Regulations). Thus, all provisions of the AIF Regulations and the circulars issued thereunder, will also apply to AIFs set-up in GIFT City, and also to the investment managers, sponsors, and investors. This would include periodic reporting, event-based reporting, adherence to disclosure norms to SEBI.
  2. AIFs in IFSC are considered offshore entities – RBI, in its Foreign Exchange Management (International Financial Services Centres) Regulations, 2015 dated 02 March, 2015 has stated that any financial institution or branch of a financial institution set up in the IFSC and permitted/recognised as such by a regulatory authority shall be treated as a person resident outside India. Therefore, under FEMA, the transactions with Indian residents or making investments in Indian securities would require compliance with FEMA norms.
  3. No separate registration process – The conditions as applicable to domestic AIFs for registration with SEBI, will continue to apply to AIFs in GIFT City as well.
  4. Operating Currency – AIFs operating in IFSCs can accept money only in foreign currency.
  5. Eligible Investors – A person resident outside India, NRIs, Indian institutional investor permitted under FEMA invest funds offshore, Indian resident having net worth of at-least USD 1 Million during the preceding financial year (subject to limits under Limited Remittance Scheme of RBI). It would be beneficial if the guidelines clarify, whether investment by Indian residents into the AIF set up in GIFT City, which further invests into Indian companies, is considered as round-tripping.
  6. Investible Securities – AIFs in GIFT City can only invest in securities that are; listed in IFSC; issued by companies incorporated in IFSCs; or issued by companies incorporated in India or companies belonging to a foreign jurisdiction.
  7. Investment Route – Earlier, such AIFs in IFSCs could only invest in India through the FPI route. Now, such AIFs may invest in India through the FDI or Foreign Venture Capital Investor (FVCI) route as well.

Following is an encapsulation of other conditions applicable to AIFs operating in IFSCs:

Minimum Corpus of AIF at least USD 3 Million.
Minimum investment value by any one investor at least USD 150,000 [for employees/directors of AIFs, minimum value of investment is USD 40,000].
Continuing interest of the Manager/Sponsor at least 2.5% of the corpus or USD 750,000, whichever is lower (such interest cannot be through waiver of management fees). For Cat-III AIFs, the continuing interest shall be at-least 5% of the corpus or USD 1.5 Million, whichever is lower.
Sponsor/Manager of an existing AIF in India may act as Sponsor/Manager of AIF operating in IFSC only by setting up a branch in the IFSC or incorporating a company or LLP in the IFSC.
Appointment of Custodian for Securities Sponsor/Manager of Cat-I and II AIFs are required to appoint a custodian registered with SEBI for safekeeping of securities, if the corpus of the AIF is more than USD 70 Million.

Appointment of custodian is mandatory for all Cat-III AIFs operating in IFSCs.

Application and Registration fees
Application Fee : USD 1,500
Registration fee for Cat-I AIF (other than Angel Funds) : USD 7,500
Registration fee for Cat-II AIF : USD 15,000
Registration fee for Cat-III AIF : USD 22,500
Registration fee for Angel Funds : USD 3,000
Scheme Fee for AIFs : USD 1,500

Following are the special conditions as applicable to Angel Funds operating in IFSCs:

Minimum Corpus USD 750,000
Criteria for becoming an ‘angel investor’ (a) Individual investor to have net tangible assets of at least USD 300,000 (excluding value of principle residence).

(b) body corporate to have net worth of at least USD 1.5 Million.

Minimum investment value for ‘angel investor’ Investment from an angel investor should not be less than USD 40,000 (up to a maximum period of 5 years)
Investible entities Angel funds to invest in Venture Capital Undertakings (VCUs) as defined in Reg. 19(F)(1)(a) of the SEBI (AIF) Regulations, 2012. Also;

– Turnover of venture capital undertaking (VCU, is the company which receives the investment by the AIF) must be less than USD 3.75 Million

– VCU must not be promoted/sponsored/related to industrial group with group turnover more than USD 45 Million

Investment caps on Angel Funds Minimum investment by Angel fund in VCU – USD 40,000. Maximum investment – USD 1.5 Million

 

Continuing interest of Manager/Sponsor 2.5% of the corpus of fund or USD 80,000 whichever is lower (such interest cannot be through waiver of management fees)

Key Takeaways from the Regulatory Perspective

Key Opportunities:

  • The regulatory provisions applicable to AIFs in IFSCs do offer a viable alternative to offshore feeder funds, and can act as a feeder fund for an Indian AIF.
  • Other offshore funds investing in India which traditionally operate out of other countries like Mauritius, Singapore, etc. may deliberate on the option.
  • Indian overseas fund managers looking to set up funds for investing outside India, may find it easier to raise capital from overseas investors and Indian investors simultaneously. Indian offshore fund managers can also use AIFs in GIFT City as feeder fund to invest funds offshore.
  • Costs for setting up the fund appear to be much lower in comparison to setting up an offshore fund.
  • As a deemed overseas fund, conditions on overseas investments by AIF prescribed by SEBI in October 2015 such as overall investment limit (USD 750 million), specific SEBI approvals, and other conditions shall not apply.

Key Challenges:

  • There is lack of clarity with respect to AIFs in IFSCs being able to invest in securities listed on overseas stock exchange.
  • Although, investment under FDI, FVCI or FPI route is allowed for AIFs in IFSCs, it has not been specified whether such AIFs would require separate licenses to invest as FPIs or FVCIs. Ideally, as a recognised AIF, they must be granted FPI/FVCI status as well.
  • New Investment managers of AIF in IFSCs must necessarily be incorporated in the IFSC, this might add to the cost of setting up the fund. Ideally, if the IFSC truly aims to attract global funds, management by offshore managers should also be allowed.
  • With respect to Angel Funds, it appears that angel funds in IFSCs can only invest in Indian entities.

Key Development: Proposed Unified Authority for regulating all financial services in IFSCs in India

Cognizant that the dynamic nature of the business conducted in IFSC requires immense inter-regulatory co-ordination, the Central Government has acted on the need for having a unified financial regulator for IFSCs in India to provide world class regulatory environment to financial market participants. Thus, the International Financial Services Centres Authority Bill, 2019 (the Bill) was introduced in the Rajya Sabha on 12 February 2019 by the Finance Minister providing for the establishment of an authority to develop and regulate the financial services market in the IFSCs. This is an important development, as the presence of a unified and dedicated International Financial Services Centres Authority (the Authority) is proposed to play a significant role towards the IFSCs ultimate goal of ease of doing business.

Under the Bill, all powers relating to regulation of financial products, services, and institutions in IFSCs, which were previously exercised by the respective regulators will be exercised by the Authority. As per the Government’s rationale, the Authority will be responsible for providing world-class regulatory environment to market participants from an ease of doing business perspective.

Tax and Operational Considerations for AIFs in GIFT City

Under Sections 10(23FBA) and 115UB of the Income Tax Act, 1961 (the IT Act), Category I and II AIFs are accorded tax pass-through status with respect to AIF’s income other than business income, thereby tax being chargeable in the hands of the investors. These provisions are extended to AIFs in IFSCs as well, as they continue to be tax residents in India despite being non-residents under FEMA.

There are several beneficial provisions available for IFSC units, however, since they are not AIF specific, which leads to ambiguities regarding the availability of such incentives to AIFs in IFSCs. Nevertheless, the beneficial provisions for IFSC units under the IT Act are as follows:

  1. Tax holiday under Section 80LA – Any unit set-up in an IFSC shall not be taxed in relation to income from business as follows in two blocks. First block of 5 years in which 100% of the income beginning with the year in which the permission or registration was obtained is exempt from income tax, and; Second block of 5 years in which 50% of income is exempt for the next 5 consecutive years.
  2. Lower rates of Minimum Alternate Tax (MAT) and Alternate Minimum Tax (AMT) – MAT and AMT in case of a unit located in an IFSC and deriving its income solely in convertible foreign exchange shall be charged at a lower rate of 9% as opposed to the general 18.5%.
  3. Exemption from Dividend Distribution Tax (DDT) – A unit located in an IFSC and deriving its income solely in convertible foreign exchange, being a company, is exempted from paying DDT at the time of distributing dividend.
  4. Gains from certain securities transferred by non-residents not considered as capital gains – Any transfer of derivatives, global depository receipts, or rupee denominated bonds of Indian companies by a non-resident on a stock-exchange in an IFSC is exempt from tax on capital gains.
  5. Exemption from Securities Transaction Tax (STT) – A transaction undertaken on recognised stock exchange in an IFSC shall be exempt from STT.
  6. Exemption from Goods and Services Tax (GST) – All supplies made to and made by units in SEZs are exempt from GST applicability.

Apart from the tax considerations, units in IFSCs also being subject to the Special Economic Zones Act, 2005 as SEZ Units might face other problems. This argument stems from the fact that the SEZs were originally conceived as special designated zones for manufacture and export-oriented industries, and thus SEZ Units are subject to certain conditions which might prove difficult for non-export-oriented business to satisfy. For example, in the recent Special Economic Zones (2nd Amendment) Rules, 2019 dated 07 March, 2019, Rule 53 of the Special Economic Zones Rules, 2006 was substituted to mandate a positive net foreign exchange earning by SEZ Units calculated cumulatively for a period of five years from the commencement of production. IFSC units specialize in financial services and products, might find it very difficult to meet the net foreign exchange earning criteria set by the government.

Key Opportunities

  • The tax holiday is a big benefit for investment managers established in the IFSC, management fee and other income will be exempt.
  • Other exemptions with respect to MAT and AMT for non-market players, and DDT and STT exemptions make GIFT City an attractive destination.

Key Challenges

  • There is dearth of clarity in taxation of income of AIFs in IFSCs on many fronts, such as will the tax holiday be available to AIFs in IFSCs with no business income, whether investors in AIFs will be required to obtain PAN and file tax returns in India in case of tax pass-through being available, etc.
  • There is a need to harmonize the provisions as applicable to SEZ Units with respect to IFSC Units requiring necessary carve outs and exemptions to be created.
  • Unless a unified regulator is in place, the problem of multiplicity and overlapping of authority will continue to diminish the growth of AIFs in IFSCs as viable alternatives to offshore funds.

Observations:

There certainly are numerous benefits for setting up an AIF in GIFT City. With the proposed unified regulator, ease of doing business, it holds many promises.

However, it is to be noted that many grey areas especially with respect to taxation of AIFs in IFSCs need to be clarified and resolved to understand the true effects of such provisions on AIFs as mentioned above. The determining criteria would be clarity to the tax incentives available for AIFs in IFSCs. How well does GIFT City perform, will determine the success of AIFs in IFSCs, too.

RBI opens Rupee Interest Rate Derivatives market to Non-Residents for hedging and trading in India

The Reserve Bank of India (“RBI”) on 27 March 2019, announced that a Non-Resident[1] shall be given access to the Rupee Interest Rate Derivative (“IRD”) market in India vide the notification of Non-resident Participation in Rupee Interest Rate Derivatives Market (Reserve Bank) Directions, 2019 (the “Directions”) with immediate effect which applies to Rupee IRD transactions undertaken on recognized stock exchanges, electronic trading platforms (“ETP”) and Over the Counter (“OTC”) markets.

Permissible activities under the Directions:

Under the Directions, a Non-Resident can undertake transactions in Rupee IRD markets for the following purposes:

1.Hedging their exposure to interest rate risk by using any permitted IRD product transacted on recognized stock exchanges, ETPs or OTC market, subject to the following condition

  • IRD transaction must conform to the provisions of Section 45(V) of the RBI Act, 1934 and FEMA, 1999, and any rules, regulations and directions issued thereunder;
  • Market-makers must ensure that the transactions by Non-Resident are being carried out for the purpose of hedging by calling for any relevant information from the Non-Resident, who will be obliged to provide the same

2. For purposes other than hedging of interest rate risk, i.e. Trading by;

  • Non-Residents other than individuals, for undertaking Overnight Indexed Swaps (“OIS”) transactions subject to condition of conducting it only through a market-maker in India by way of a back-to-back arrangement through a foreign counterpart of the market-maker in a back-to-back arrangement meaning that the Non-Resident shall undertake the transaction with a foreign counterpart of the market-maker and the foreign counterpart, in turn, immediately shall enter into an off-setting transaction with the market-maker in India. All rupee interest rate derivatives transactions, globally, of related entities of the market-maker must also be accounted for in the books of the market-maker.

OIS transactions by NRs for purposes other than hedging interest rate risk shall be subject to the overall limit as well. This shall be in the form of a Price Value of a Basis Point (“PVBP”) of all outstanding OIS positions undertaken by all Non-Residents which shall not exceed INR 3.50 billion. The PVBP of all outstanding OIS positions for any single Non-Resident shall not exceed 10% of the overall PVBP cap. The Clearing Corporation of India Ltd. (“CCIL”) shall publish methodology for calculation of PVBP, monitor and publish utilization of PVBP limit on a daily basis.

  • Foreign Portfolio Investors (“FPI”) collectively may also transact Interest Rate Future (”IRF”) up to INR 50 billion in terms of RBI’s circular titled “Separate limit of IRFs for FPIs” dated 01 March 2018.

Payments and Reporting:

All payments related to IRD transactions of a Non-Resident may be routed through a Rupee account or a vostro account. Market-makes shall also ensure that Non-Resident clients are from an FATF compliant country and that the clients comply with KYC requirements as prescribed under the RBI’s KYC Master Direction as amended from time to time. It is to be noted that this may required Non-Resident to acquire a Permanent Account Number (PAN) to quote in IRD transaction instruments.

All OTC rupee IRD transactions are to be reported by market-makers and ETPs to the trade repository of CCIL, clearly indicating whether trade is for hedging or other purposes. Trade details, including particulars of NR client for OIS transactions under the back-to-back arrangement is to be reported by market-makers to the trade repository of CCIL. Additionally, cross-border remittances arising out of transactions in Rupee IRD shall be reported by banks to RBI at monthly interval.

References:

[1] A ‘Non-Resident’ under the Directions means person resident outside India as defined in section 2(w) of Foreign Exchange Management Act, 1999.

2. https://www.rbi.org.in/Scripts/BS_CircularIndexDisplay.aspx?Id=11512

Draft Enabling Framework for Regulatory Sandbox

In July 2016 the Reserve Bank of India (RBI) had setup an inter-regulatory Working Group to look into and report on various aspects relating to fintech. One of the key recommendations of the Working Group was the introduction of an appropriate framework for a regulatory sandbox. Thus on 24th April 2019, the RBI has come out with a Draft Enabling Framework for Regulatory Sandbox (“Draft Framework”).

Before we proceed with the details regarding the Draft Framework it is important to understand the concept of a regulatory sandbox.  Regulatory sandbox (RS) refers to live testing of new products or services in a controlled/ tested regulatory environment for which the regulators may permit certain relaxation in the regulations only for the limited purpose of testing. The RS allows the entities to test their product in a controlled environment before a wider-scale launch. Thus the RS at its core is a formal regulatory programme for market participants to test new products, services, business models with customers in a live environment subject to certain safeguards and oversights.  Further, RBI in its Working Group Paper also discussed the concept of an ‘innovation hub’ which provides support, advice or guidance to regulated or unregulated firms in navigating the regulatory framework or identifying the legal issues.

Eligibility criteria of an applicant

The Draft Framework lays down the eligibility criteria for participating in the RS. The target applicants for entry in the RS are fintech firms which meet the prescribed conditions of a start-up by the Government. The focus of the RS is to encourage innovation where (a) there is an absence of regulations, (b) there is a need to temporarily ease the regulations for the proposed innovation, and (c) the proposed innovation shows promise of easing the delivery of financial services.

The RS shall begin the testing process with 10-12 selected entities through a comprehensive selection process which has been detailed under the ‘Fit and Proper criteria for selection of participants in the RS’. The entities should satisfy the following conditions: (a)  the entity should be a company incorporated and registered in India and should be “Start up” , (b) the entity should have a minimum net worth of Rs 50 lakhs as per its latest audited balance sheet, (c) the promoters/ directors of the entity should be fit and proper and a declaration should be made to that effect, (d) the conduct of the bank accounts as well as the entity’s promoters/directors should be satisfactory, (e) a satisfactory CIBIL or equivalent credit score of the promoters/directors of the entity is required, (f) applicant should showcase that their product/services and ready for deployment in the broader market, (g) entity should demonstrate arrangements to ensure compliance with regulations on consumer data protection and privacy, and (h) the entity should have adequate safeguards related to the IT system to ensure safety of data and records.

The fintech solution proposed by the applicant should highlight the existing gap in the financial system and demonstrate that there is a regulatory barrier that prevents the deployment of the product/service. Additionally, the applicant should clearly define the test scenarios and the expected outcomes from the sandbox experimentation and an acceptable exit and transition strategy in case the fintech driven solutions are discontinued or deployed on a broader scale after exiting the RS. To this effect, the applicant is required to share the result of the proof of concept/ testing of use cases including any relevant prior experiences before getting admission into RS for testing.

Design features of the RS

The RS may run a few cohorts i.e. end-to-end sandbox process, with a limited number of entities in each cohort testing their products in a stipulated time. The RS shall be based on different subjects focusing on areas such as financial inclusion, payments, digital KYC, etc. Though these cohorts may run for varying time period but it should ordinarily be completed within 6 months.

The innovative products/services which could be considered for testing under RS would include retail payments, money transfer services, market places lending, digital KYC, financial advisory services, smart contract, cybersecurity products, etc. On the other hand, the innovative technology which could be considered for testing under RS would include data analytics, API services, applications using block chain, AI and machine learning applications and mobile technology applications.

Regulatory requirements for RS applicant and exclusions from RS

The regulatory requirements which shall be mandatorily adhered to by the applicant are: (a) customer privacy and data protection, (b) security of transactions, (c) KYC/ AML/ CFT requirements, (d) secure storage of and access to payment data of stakeholders, and (e) statutory requirements.

However, an entity would not be suitable for RS if the proposed financial service is similar to a product/service/technology which already is being offered in India unless the applicant can show that either a different technology is gainfully applied or the same technology is being used in a more effective and efficient manner. Accordingly, the Draft Regulations have put together an indicative negative list of products/ services/ technology which may not be accepted for testing. The list includes businesses related to credit registries, credit information, crypto-currency, initial coin offerings and chain marketing services.

Extending or Exiting the RS

In case the sandbox entity requires an extension of the sandbox period it shall apply to the RBI within one (1) month before the expiration of the sandbox period. Further, RBI at its discretion can discontinue the RS testing for an entity if it does not achieve the intended purpose or if the entity is unable to comply with the relevant regulatory requirements.  The sandbox entity may exit from the RS on its own by informing the RBI one week in advance.

Boundary conditions, transparency, and consumer protection

A sandbox must have a well-defined space and duration for the proposed financial services to be launched and the boundary conditions for the RS shall include the start and end date of RS, target customer type, limit the number of customers involved, transaction ceiling, and cap on customer. Further, the RBI shall communicate the entire RS process including the launch, theme of the cohort, entry and exit criteria on its website to ensure transparency. And as stated earlier before discontinuing/ exiting from the RS, the sandbox entity shall ensure that it meets all the existing obligations towards its customers and entering into an RS does not limit the liability of the entity towards its customers.

Sandbox process and stages

The end to end sandbox process, including the test of the products/ services shall be overseen by the FinTech Unit (FTU) at RBI, and the stages involved in the RS are as follows:

  • Stage 1: Preliminary Screening (4 weeks) – FTU shall ensure that the applicant clearly understands the objectives and principles of the RS, and it is in this phase the application received by the FTU are evaluated and shortlisted who meet the eligibility criteria.
  • Stage 2: Testing Design (3 weeks) – In this phase which lasts for 3 weeks the FTU finalizes the test design through an iterative engagement with the applicant and shall identify the outcome metrics for evaluating the evidence of risk or benefits.
  • Stage 3: Application Assessment (3weeks) – In this phase the FTU vets the test design and proposes regulatory modifications if any.
  • Stage 4: Testing (12 weeks) – The testing may last for a maximum tenure for 12 weeks. In this phase, the FTU generates empirical evidence to assess the test conducted.
  • Stage 5: Evaluation (4 weeks) – The final evaluation of the outcome of testing the products/ services/ technology is confirmed in this phase by RBI. The FTU shall assess the outcome report and decide whether the product/service is viable and acceptable under RS.  

Statutory and legal issues

If the applicant is allowed by the FTU into the RS, the entity would be provided by appropriate regulatory support by RBI in the form of relaxation of specific regulatory requirements during the duration of the RS. However, RBI shall not bear any liability arising from the RS process and any liability arising from the experiment has to be borne by the entity alone. Further, the sandbox entity should ensure that on exiting from the RS or on the completion of the RS process, the sandbox entity should fully comply with all the relevant regulatory requirements.

Source:

1.https://m.rbi.org.in/scripts/PublicationReportDetails.aspx?UrlPage=&ID=920#A_2

2.Report of the Working Group on FinTech and Digital Banking- https://www.rbi.org.in/Scripts/PublicationReportDetails.aspx?UrlPage=&ID=892

Relaxations to FPIs and Companies under bankruptcy wrt ECB

Regulatory update: RBI’s Bi-Monthly Monetary Policy Statement grants important relaxations to FPIs and Companies under bankruptcy with respect to ECB

The Reserve Bank of India (RBI) on 7 February 2019 has issued its Sixth Bi-monthly Monetary Policy Statement (Monetary Policy Statement), for the current fiscal year 2018-19. The key relaxations announced for foreign investors are as follows:

  1. Relaxation to FPIs investing under the debt route:

Under the extant framework for FPI investment in corporate debt, the RBI’s A.P. (DIR Series) Circular No. 31 dated June 15, 2018 restricted an FPI from having more than 20% exposure of its total corporate bond portfolio, in the corporate debt market in a single corporate (including exposure to entities related to the corporate). Imposed with the aim of incentivizing FPIs to maintain a diverse portfolio of assets, existing FPIs were also given an exemption from this requirement till end of March 2019 to adjust their portfolios. However, the market feedback according to the RBI indicated that FPIs have been constrained by the earlier requirements, and relaxations were needed.

Accordingly, in order to encourage investment in the Indian corporate debt market, the RBI vide the Monetary Policy Statement, removed the abovementioned restriction and has declared that all FPIs shall henceforth again be permitted to invest any portion of its corporate bond portfolio in a single borrower entity. The Monetary Policy Statement indicates that RBI would issue a circular in this regard by mid-February 2019 to make it official.

The Monetary Policy Statement however did not provide any relaxation on the following key restrictions imposed vide the aforementioned A.P. (DIR Series) Circular No. 31 dated June 15, 2018:

  1. Investment by a single FPI or a group of related FPIs shall not exceed 50% of the issue size of a corporate bond; and
  2. At any point of time, a FPI’s investments in corporate / government bonds maturing within one year shall not exceed 20% of the FPI’s total portfolio in corporate / government bonds.
  1. Relaxation ECB framework norms on end-use restrictions for companies under bankruptcy:

Under the extant External Commercial Borrowing (ECB) framework, any borrowing proceeds from an ECB could not be utilized for repayment or for on-lending for repayment of domestic rupee loans. However, cognizant of the prospect that resolution applicants under Corporate Insolvency Resolution Process (CIRP) under Insolvency and Bankruptcy Code (IBC), 2016 might find it attractive to borrow abroad to repay the existing lenders, the RBI has decided to relax the end-use restrictions for resolution applicants under the CIRP.

Further under A.P. (DIR Series) Circular No. 18 also dated 7 February 2019 the resolution applicants, who are otherwise eligible borrowers, have been allowed to raise ECBs from recognised lenders, except the branches/ overseas subsidiaries of Indian banks, for repayment of Rupee term loans of the target company under the approval route.

Sources:

  1. Sixth Bi-monthly Monetary Policy Statement for the current fiscal year 2018-19: https://rbi.org.in/Scripts/BS_PressReleaseDisplay.aspx?prid=46237
  2. P. (DIR Series) Circular No. 18 date February 07, 2019: https://www.rbi.org.in/scripts/NotificationUser.aspx?Id=11472&Mode=0

Authorisation of New Retail Payment Systems : RBI’s Policy Paper

Reserve Bank of India (“RBI”) vide its press release on January 21, 2019 has invited comments on the Policy Paper on Authorisation of New Retail Payment Systems (“Policy Paper”). Earlier in June 26, 2018 RBI had released a Statement on Developmental and Regulatory Policies which aimed to minimize the concentration risk in retail payments systems and foster innovation and competition in the retail payments market. With this objective in mind RBI has placed this Policy Paper in public domain, inviting comments till February 20, 2019.

Existing retail payment services and operators in India

RBI is the regulator for payment and settlements systems under the Payment and Settlement Systems Act, 2007 and it ensures that the payment systems operate in a secure and efficient manner with regard to banks as well as non-bank entities. Banks have been the traditional gateway to payment systems but with the demand for varied payment systems and technological changes, non-bank entities have been granted access to the payment systems. These non-bank entities have been competing with the banks by providing retail electronic payment services. As a result, RBI has been issuing guidelines for various payment systems and granting the non-bank entities to setup and operate payment systems. It is to be noted that RBI had granted permission to eighty- nine (89) non-bank entities to act as payment system operators.

Analysis of the current landscape w.r.t retail payment system operators

Though there are many payment systems such as card networks, Prepaid instrument issuers (PPIs), ATM networks, etc. there are only a handful of payment operators in India. As a result of which, there are concerns around concentration and competition and its impact on the current financial of the country. Therefore there are a number of issues which need attention. The issues for discussion are as follows:

  1. a single operator having multiple and varied retail payment systems versus diversification across multiple operators;
  2. payments systems managed by a single operator such as Unified Payments Interface (UPI), Immediate Payment Service (IMPS), Aadhaar Enabled Payment System (AePS) ,etc. versus multiple systems with similar product features being offered by multiple operators;
  3. availability of a window for licensing operators of a payment system on-tap; and
  4. reviewing the criteria of licensing to foster innovation and competition and to broad base potential applicants.

RBI has classified the payment systems as follows:

Serial Number. Basis of Classification Particulars
1. Number of operators 1.    Single operator for a single or multiple retail payments systems

·         NPCI- National Financial Switch (NFS), IMPS, BHIM Aadhaar Pay, National Electronic Toll Collection (NETC), etc.

·         Empays-IMT

 

2.    Multiple operators for similar payment services- to name a few:

·         ATM networks- 5

·         Card Payment Networks- 5

·         Prepaid Payment Instrument (PPI) issuers- 48 non-banks and 60 banks

 

2. Type of payment services Classification on the payment service based on the end user as under:

1.    Fund transfer and merchant payments systems- IMPS, UPI, PPI, Aadhaar based payments, etc.

2.    Card based payments- Card networks, ATM networks

3.    Bulk and repetitive payments, utility payments- NACH, BBPS

4.    Toll collection- NETC

5.    MSME receivables’ financing- TReDs

NPCI has become pivotal to the operation of many critical retails payments systems in the country. By October 2018, NPCI was accounting for almost 48% of the retail electronic payment transactions (excluding paper) in volume to 15% of the value of the retail electronic payment transactions.

The advantages of having concentrated system operations with few entities are as follows: (a) leads to standardisation with uniform and tested payment systems; (b) less pressure on capital and infrastructure; and (c) a unity of approach by the regulators. Whereas the disadvantages of having a single operator are as follows: (a) absence of redundancy and fall-back arrangements may impact continued availability; (b) inadequate competition may lead to complacency with no upgradation and improvement in the product; and (c) increase of the prices at which the services are being offered with reduction in quality of service.

The Policy Paper also discusses a multi-pronged action for a more appropriate level of retail payment systems and operators.

The pros of having multiple entities which provide similar payment services would be to increase the competition. However, this may require additional investments, creation of a suitable infrastructure, and this may be achieved over phases. Also, the feature of adding inter-operability in the new payment systems would incur huge costs.

Open and keep-on-tap window for making applications

There can be an open and keep-on-tap window for making applications by all the payment systems in place. This window would permit the receipt of applications for all payment systems and would prescribe for a specific “point of arrival” metric which would allow the entities who are unable to achieve the desired capacity and scale to have a defined-time line exit.

Liberal entry norms

The Policy calls for a liberal entry norm which would require reviewing the entry point capital (net worth) requirement and an analysis of the capability potential of the entities. Finally the Policy also recommends that all payment systems should have a physical presence in the country, an impeccable track record, and shall conform to the best overall standards including those pertaining to customer service and efficiency.

The Policy also makes it clear that there should be an alignment of regulatory framework to encourage enhanced participation of both bank and non-bank entities.

Further, Annexure III of this Policy Paper lays down the authorisation criteria for non-bank payment system operators which discusses the review possibility of the financials in terms of the reduction or revision of the net worth for payment systems such as WLAOs, BBPOUs, and TReDS.

Source: https://rbidocs.rbi.org.in/rdocs/PublicationReport/Pdfs/ANRPS21012019A8F5D4891BF84849837D7D611B7FFC58.PDF