Investing in stock markets is the favourite investment avenue of most of the investors.
There are several companies which have the main business activity of trading in securities listed on the stock exchange and many more are being formed.
My friend Ajay also plans to start one.
“Kruti, I want to incorporate a company where the capital of the promoters will be used to trade in shares on the stock exchange. That will be the only business of the company. I am not sure what should I register my company as – a PMS or just a normal company. Can you please guide me?”
“Sure Ajay. Financial activities come under the purview of either the Reserve Bank of India (RBI) or the Securities and Exchange Board of India (SEBI).
I guess most of your company’s income will come from this investment / trading activity, right?”
Ajay confirmed.
“So, your company will be treated as NBFC. Have you heard the concept of NBFC (Non-Banking Financial Company)?” I asked.
“Yes, I have” said Ajay. “But you see we are not going to accept deposits or lend to other people. As I said, trading with promoter capital is the only business we will have. You still think we need to register as NBFC?”
“Well, let me take you through the NBFC world so that you understand the applicability to your case too.”
All that you need to know about an NBFC.
An NBFC is a company, registered under the Companies Act, 1956 or the Companies Act, 2013 and carrying on any financial activity.
So, an individual or an institution or a firm or a trust or a society cannot register as an NBFC.
Similarly, if an individual or an institution or a firm or a trust or a society is carrying on activities of similar to NBFCs, it will not be considered as NBFCs.
It has not been specified anywhere whether an LLP, carrying on any financial activity, will also come under the purview of NBFC.
Criteria to be checked for any company to be NBFC
There are three criteria that you should check to know whether your company is an NBFC or not.
- Whether the activities of the company come under NBFC activities
- Whether the financial assets constitute more than 50 per cent of the total assets, and
- Whether the income from financial assets constitute more than 50 per cent of the gross income.
A company will be considered as an NBFC only when it fulfils all the above criteria.
Now let us take up the first criteria and see which activities are considered as NBFC activities.
A company will be considered as an NBFC if is involved in activities of:
- Giving loans and advances
- Acquisition of shares, stocks, debentures, bonds, government securities or securities or marketable nature
- Delivery of goods under hire purchase agreement
- Chit business
- Receiving or accepting deposits under any scheme or arrangement or in any other manner
- Mortgage guarantee companies
So, NBFC is a company which is into lending or investing or collecting monies under any scheme or arrangement.
To invert this, a company will NOT be considered as an NBFC if its main business is:
- agricultural activity
- industrial activity
- purchase and sale of goods / services other than securities
- sale/purchase/construction of immovable property
Hence any company which is mainly involved in, say, agricultural activity and also has financial activity on a small scale, will not be considered as NBFC.
Some of the examples of NBFCs are L&T Finance Ltd., Aditya Birla Finance Ltd., Shriram Transport Finance Company Ltd., Housing Development Finance Corporation Ltd. (HDFC Ltd), Reliance Capital Ltd., etc.
Although, the activities of an NBFC are of financial nature, the following companies will also NOT be considered as NBFCs:
- Alternative Investment Funds (AIF)
- Merchant Banking companies
- Stock-broking companies
- Insurance Company holding a valid Certificate of Registration issued by IRDA
- Nidhi companies
- Chit companies as defined in clause (b) of Section 2 of the Chit Funds Act, 1982
- Housing Finance Companies regulated by National Housing Bank,
- Stock Exchange
- Mutual Fund Company / Asset Management Companies
The reason for the exemption for such companies is that they are regulated either by SEBI or other regulators or other acts.
Hence, such companies need not get registered as NBFCs.
How are NBFCs governed?
NBFCs are governed by RBI under the Reserve Bank of India (RBI) Act, 1934. Any company, which carries on the business of NBFC has to get registered with RBI under section 45-IA of the RBI Act, 1934.
What is the minimum capital requirement to apply for NBFC license?
NBFC needs to have minimum net owned funds of Rs. 2 crores to get registered with RBI.
‘Owned Fund’ means aggregate of the paid-up equity capital, preference shares which are compulsorily convertible into equity, free reserves, balance in share premium account and capital reserves representing surplus arising out of sale proceeds of asset, excluding reserves created by revaluation of asset, after deducting accumulated balance of loss, deferred revenue expenditure and other intangible assets.
‘Net Owned Fund’ is the amount as arrived at above, minus the amount of investments of such company in shares of its subsidiaries, companies in the same group and all other NBFCs and the book value of debentures, bonds, outstanding loans and advances including hire purchase and lease finance made to and deposits with subsidiaries and companies in the same group, to the extent it exceeds 10% of the owned fund.
Depending on the category of the NBFC, the minimum asset size and the minimum net owned funds requirement also change.
In your case, the minimum net owned funds of your company should be Rs. 2 crores.
The formula to calculate the net owned funds is provided in the application form itself.
What are the categories of NBFC?
NBFCs are categorised further based on the type of liabilities, their size and their activities.
Since the main activity of your company will trading in securities listed on stock exchange, your company will be categorised as Investment Company.
Now, I hope you understand why NBFC regulations apply to you.
“Yes, I do.” Ajay had a look of surprise.
Do you want to know the procedure to get registered as NBFC?
“Surely.”
Great, here is what you need to do, in brief.
How to make an application for registration of NBFC?
You have to apply online as well as submit a physical copy of the application along with the necessary documents to the Regional Office of the Reserve Bank of India.
- The application has to be submitted online on RBI’s website for COSMOS Application.
- Click on “Click here” for Company Registration on the login page.
- A window showing the Excel application form available for download would be displayed. You can then download the application form in excel format.
- Fill in the data and upload the application form (in excel format).
- After submission of the form you will get a Company Application Reference Number for the CoR application filed online.
- Then submit the hard copy of the application form (indicating the online Company Application Reference Number), along with the supporting documents, to the concerned Regional Office of RBI.
- You can check the status of the application from the above mentioned secure address, by putting the acknowledgement number.
Click here to access the application form and an indicative checklist of the documents required to be submitted along with the application.
That’s it. In due course, you will receive your approval and you can start your business. If your company is non-deposit taking NBFC, process is easier and quicker.
“Thank you for all the information Kruti. As you said, let us first start with incorporation of the company. Do we need to take approval from RBI before we incorporate the company?”
“No Ajay, we can approach RBI post incorporation. We need to make sure that we mention the details of the activity of the company clearly in the company incorporation form to indicate it as NBFC activity. I will send a checklist for incorporation of company in an email.”
“Sure Kruti, I look forward to it.”
Is your company into any financial activity? Do you want to register your company as NBFC? You can write to me at kruti@cskruti.com
Hi,
Nice blog and very helpful
Thanks for sharing
Hi Kruti, your above article is very informative and use to understand the basic principles governing NBFC. Could you pl. clarify, if Investment in an LLP as a partner would also be considered as Financial Asset for the purpose of 50-50 Test to determine if the company is NBFC??
Hi Anuj, in my view an investment in LLP by a company as a partner will not be considered as a financial asset unless the business of the company is such.
Such a wonderful document Kruti. thank you for putting everything in one place. I have a question
If the private limited company is investing in unlisted shares ( like startups ) and net worth less than 2 cr. Do they still need to register for NBFC ?
Thank you for your feedback, Venkat. The 50-50 rule for consideration of NBFC will still remain. Do you have any thoughts of registering the company with SEBI as AIF?
Hello Kruti Ma’am,
As in the above mentioned case Mr. Ajay wanted to incorporate a COMPANY where the capital of the promoters will be used to trade in shares on the stock exchange.
“It has not been specified anywhere whether an LLP, carrying on any financial activity, will also come under the purview of NBFC.”
Is above statement suggesting that an LLP can not be formed for the said activities or
Can we Incorporate LLP for the same purpose ?
Hi Harsh, in that case, you might not get an approve from MCA for business of an NBFC.
So it’s better to go for incorporation of Private Limited Company , right ?
What to do if funds to be pooled ( Proposed paid up share capital) is less than Rs. 2 Cr. and Raising Paid up capital (as you’ve mentioned in reply to the query by oldschoolfinance ) is not a viable option?
Is there any other way out ?
Hi Harsh, will have to check if there is any other way out.
Hi Kruti ,
Do we or Can we register as Portfolio Management services once we are registered as NBFC ?
Hi Uttam. In my view, yes you can.
So what happens if my company invests in direct equities but the net owned funds are below 2 cr? Is my company required to register as NBFC?
Hi. Is the investment in direct equity your main business? Does your company pass the 50:50 test? If yes, you need to register as NBFC.
Yes, main business activity is investing in direct equities. But how do we register as NBFC when this criterion is not met, “NBFC needs to have minimum net owned funds of Rs. 2 crores to get registered with RBI.”
You have to raise the net owned funds to Rs. 2 crores. One of the ways is to increase the paid up capital.