Legal & Regulatory Aspects of Micro Finance in India & Need for a Regulator

Group 5

Introduction to Micro Finance

What is Micro Finance? History of Micro Finance Why Micro Finance?

Demand for Credit in India

Four segments of Population needing Credit
Small and Medium Income Farmers who live barely above Poverty Line Small Marginal farmers including Artisans, Domestic Servants, Weavers , Vendors Landless farmers working on seasonal basis, Labourers , Miners , Forest Labourers Women working in all of the above 3 sectors

Gaps in System
India home to almost 1/3rd of the worlds poor Central government & state government poverty alleviation programs currently active in India About 1/2 of the Indian population-no savings bank account, deprived of banking services. Lack of services to fulfil their financial needs E.g. building of assets and protection against risk.

Salient Features of Micro Finance

Borrowers are from the low income group Loans are of small amount micro loans

Short duration loans

Loans are offered without collaterals

High frequency of repayment

Loans are generally taken for income generation purpose

Microfinance trend in India

Microfinance trend in India

Commercial Banks

Other Banks

Types Of Microfinance

Microfinance

MFI

SHG

JLG

Micro Finance Institutions in India

Micro Finance Institutions

Department of Full-Service Banks Advantage of Regulation
Unified Regulation System
Legal forms of MFI in India

Self-Help Groups
SGHs is a small group of rural poor, who voluntarily come forward to form a group for improvement of social and economic status of the members. Homogenous group of about 15 to 20 members Regular savings are done by the members

The capital collected is used for lending

Conditions required for membership of SGHs

Members should be between the age group of 21-60 years. From one family only one person can become a member of an SHG. The group normally consist of either only men or women.

Members should be homogenous i.e. should have same social and financial background.

Joint liability group(JLG)

Joint Liability Group (JLG) is a group of individuals coming together to borrow from the financial institution. Informal group comprising 4-10 individuals. For the purpose of availing bank loan against mutual guarantee. JLG members to engage in similar type of economic activities either in Farm & Non farm sector. Simple management with little or no financial administration within the group.

Joint liability group(JLG)

One person in that group is appointed as leader of the group. Each person is responsible for the loan taken by any member of the group. If any one person in the group defaults then other group members will have to pay for that. On defaulting, the member will not be able to take loan in future.

Financing to JLG(Region wise)

Financing to JLG(Region wise)

JLG SHG Difference

FACTORS Group size

JLG 4-10 members

SHG 05-20 members per SHG Only very poor members

Type of members

Exclusively of Farmers, Oral Lessees, Share croppers, artisans, entrepreneurs A Credit Group - Savings optional

Savings

Savings-cumCredit Groups

JLG-SHG Difference
Loans Either Singly or Jointly by JLG by financing bank Only to SHG by financing bank No such upper limit since linked to total savings etc. Of group Group Bank A/c of SHG

Maximum Restricted to Rs.50,000/- per Individual loan amount (both under Model A or B)

SB A/c

JLG members to be encouraged to open INDIVIDUAL No Frill Accounts To serve as a conduit for technology transfer, facilitate access to market information, carry out activities like soil testing, training, health camps to its members

Others

May attempt, no such bar.

Channels in Micro Finance

SHG-Bank Linkage Program (SBLP)
Bank-led NABARD, 1992

Women encouraged to form groups

Members contribute savings Provide bank loan for income generation purpose

Members meet periodically

SHG Banking Linkage Programme

Channels in Micro Finance

Micro Finance institutions (MFI)
Lend through the concept of Joint Liability Group (JLG) 5-10 members Avail loan either individually or through group Mutual Guarantee

MFIs Types
Investor Pool of Funds Intermediary Bank Micro Finance Institution Microentrepreneur

Non-Profit
Public Trust Societies Section 25 Companies

Mutual Benefit
Self-Help Groups & Federation Co-operative Societies

For Profit Non-Banking Financial Corporation

Trusts

Public trusts are established in accordance with the respective State regulations Private trusts are established under the Indian Trusts Act 18-Process of registration is not hindered by the lack of initial capital They enjoy tax benefits as they are exempt for taxation if they are registered under C of the Income Tax Act In order to accept foreign grants the institution needs to be registered under the FCRA

Client Outreach Comparison

Comparison SHG-MFI

Reasons for existence of separate institutions:

High Transaction Cost Absence of Collateral Loan for Short duration Higher frequency of repayment, higher rate of default

Models in Micro Finance

Self Help Group

Cooperative

Delivery Model

Federated Self-help Group

Grameen Bank

Self-Help Group
Evolved in the NGO sector. Almost 90% of the SHGs in India have female members. Small group of 20 persons formed democratically & elects its own members.

Essential Features:- members belonging to same social strata & sharing common ideology.

Self-Help Group

Pool their savings and then use it among themselves.

The rules and norms pertaining to finance or other matters are made by the group.

NGO supporting the group links them to banks for more financial assistance.

Federated Self-Help Groups

Federation of SHGs bring together several SHGs. More than 1000 members. Three tier structure:Apex Body (Topmost Unit) 10-15 members, they form the link between thee SHGs & NGO 2 SHG members meet regularly

Cluster (Middle Tier)

SHG (Basic Unit)

Examples of Federated SHG:PRADAN, Chaitanya and SEWA.

Grameen Bank Model

Significant Features: Low transaction costs. Repayment of loans in small and short interval. Quick loan sanctions. Loans are provided for all purposes like housing loans, sanitation loans, supplementary loans etc.

Co-operative Model
Owned by the members who use its services. Members can be from different sections of same communities like agriculture, retail, wholesale etc. The organization which has been vastly successful in co-operative form in India is Sahavikasa or Co-operative Development Foundation (CDF).

CDFs
Found in 1975 by group of individuals. It relies on the well known Credit Union model involving a savings first strategy. Legislation In Andhra Pradesh known as Mutually- Aided Societies Act (MACS).

The act helps the CDF to register the thrift groups promoted by CDF under it.

Working of Micro Finance Institutions

Types of Financial Institutions

Companies of Apex Development Financial Institutions, Commercial Banks, Regional rural Banks, & Co-operatives Banks providing micro finance services in addition to their general banking activities

Formal Banks

Types of Financial Institutions Informal/NonBanks Informal institutions that undertake micro finance services as a part of their main activity

Hierarchy of MFI

Working of Micro Finance Institutions

Working of Micro Finance Institutions

Little or no collateral High default risk Individuals divided in groups of 5

Field officer appointed

Working Method
Choosing a village

Introduce mission, methodology and services offered

Interested women gather (age 18-59 years) Groups of 5 5 day training program Meet weekly in village centre

Environment Analysis
Internal
High transaction cost
Lack of access to funding Loan collection method

External
Increased competition Uneven population Challenges before the MFI Quality of SHG Deserving poor are still not reached Micro finance outreach in 7 poorest states of India Low depth of outreach Unregulated microfinance institutions

Fraud

Challenges
Financial illiteracy
Inability to generate sufficient funds Dropouts and Migration of group members Multiple Lending and Over-Indebtedness.

Loan default
Low Outreach High Interest Rate Negligence of urban poor Low education level Language barrier

Cluster formation fight to grab established market.

Client Retention

Late payments
Geographic factors Debt managements

FDI in Micro finance

Acceptance of Foreign Contribution Foreign Direct Investment FIPB

 LEGAL ASPECTS

THE MICRO FINANCE INSTITUTIONS (DEVELOPMENT AND REGULATION) BILL, 2012

Definition
To provide for development and regulation of the micro finance institutions for the purpose of facilitating access to credit, thrift and other micro finance services to the rural and urban poor and certain disadvantaged sections of the people and promoting financial inclusion through such institutions and for matters connected therewith or incidental thereto.

Other Definition

"Micro credit facilities" means any loan, advance, grant or any guarantee given or any other credit extended in cash or kind with or without security or guarantee

"Micro finance institution" means, (A) a society registered under the Societies Registration Act, 1860; or (B) a company registered under section 3 of the Companies Act, 1956; or (C) a trust established under any law for the time being in force; or (D) a body corporate; or (E) any other organization, as may be specified by the Reserve Bank

"Micro finance services" means any one or more of the following financial services provided by any micro finance institution, namely:

(A) micro credit facilities involving such amount, not exceeding in aggregate five lakh rupees for each individual and for such special purposes, as may be specified by the Reserve Bank from time to time, such higher amount, not exceeding ten lakh rupees, as may be prescribed; (B) collection of thrift;

(C) pension or insurance services;

(D) remittance of funds to individuals within India subject to prior approval of the Reserve Bank and such other terms and conditions, as may be specified by regulations;

(E) any other such services, as may be specified,

In such a manner as may be prescribed

 "Thrift" means money collected in any form other than in the form of current account or demand deposits, by a micro finance institution from members of self-help groups or any other group of individuals, by whatever name called, who are availing micro finance services provided by such micro finance institution in accordance with the regulations made by the Reserve Bank in this behalf.

Provisions & Features of the Draft Bill

To entrust to the National Bank the regulatory, supervisory, promotional and developmental role RBI only seeks to regulate & Develop the MFO Set up MFDC To lay down Policies & Procedures for registration & cancellations Defines the Functions of Regulator, Auditors, Ombudsman & Penalty provisions Set up institution of MFDEF

Role Expectations from Regulator

Promote growth of MF services Formulate Policies, evolve sector benchmarks & performance standards, Undertake registrations, procedures & cancellations

On-site & off-site Surveillance

Exercise Penal Powers

Legal Structure
NGO-MFIs, Cooperatives & Section 25 Companies NBFCs NBFC-MFIs

Limitations of Current Legal Structure

Recognizing MFI Players prior to 2010 Priority Sector Lending Register as NBFC-MFI: 75% of loan portfolio originated from income-generating activities 85% of total assets as Qualifying asset Margin Cap of 12% Interest Cap of 26%

Accepting deposits
Financing Restrictions Deposit Mobilization Access to Capital

Qualifying Asset
Borrowers household annual income does not exceed Rs. 60,000 or household annual income does not exceed Rs. 60,000 or Rs. 120,000 (rural and urban areas respectively)
Maximum loan size - Rs. 35,000 (first cycle) and Rs. 50,000 (subsequent cycles) Maximum borrower total indebtedness - Rs. 50,000 Minimum tenure - 24 months when loan exceeds Rs. 15,000 No prepayment penalties Repayable by weekly, fortnightly or monthly instalments, at borrowers choice No collateral

Limitations of Current Legal Structure

Policy Initiatives

Pricing of Products
Fair lending practices

MFI Self Regulation

State level Regulation

Over-indebtedness
Documentation & Transparency

Limitations of Current Legal Structure

Need For A Regulator

Need for a Regulator

Microfinance Institutions (MFIs) in India need a Regulator like NABARD or RBI
Reserve Bank of India regulates only those microfinance institutions which are registered with it as non-banking finance companies SEBI can monitor them, only if they get listed NABARD, presently has no such role

Malegam Committee Report

October 2010 Study the issues and concerns in microfinance sector Chairmanship of Shri Y H Malegam

Recommendations
NBFC-MFI will hold not less than 90% of its total assets in the form of qualifying assets

Limits of an annual family income of Rs.50,000 and an individual ceiling on loans to a single borrower of Rs.25,000
Not less than 75% of the loans given by the MFI should be for income-generating purposes Restriction on the other services to be provided by the MFI MFI can levy only three charges, namely,
(a) Processing fee (b) Interest and (c) Insurance charge.

Problems Of Multiple-lending, over borrowing, ghost borrowers and coercive methods of recovery
Borrower can be a member of only one Self-Help Group (SHG) or a Joint Liability Group (JLG) Not more than two MFIs can lend to a single borrower There should be a minimum period of moratorium between the disbursement of loan and the commencement of recovery The tenure of the loan must vary with its amount

A Credit Information Bureau has to be established

The primary responsibility for avoidance of coercive methods of recovery must lie with the MFI and its management

Role of RBI in Promoting MFI

Establishing financial literacy/credit counselling centres.
Technology adoptions. Establishing Financial Inclusion Fund (FIF) and Financial Inclusion Technology Fund (FITF). Establishing Microfinance Development and Equity Fund (MFDEF)

Role of NABARD in Promoting MFI

Support NGOs, RRBs, DCCBs, Farmers Clubs and Individual Rural Volunteers (IRVs) Role of a facilitator Research and Development (R & D) Fund was set up

Why NABARD should be Regulator

Conceived by the Committee to Review Arrangements for Institutional credit for Agriculture and Rural Development (CRAFICARD) Various Committees had assessed the supervisory role of NABARD NABARDs supervisory services Its pioneering role in financing, promotion and development of MF All India presence

Regulatory Targets in the MFI Business

That of a credit provider
Distributor of other financial products

Agency that promotes awareness about financial services

Obligations:
Truth and transparency
Adherence to fair collection practices Ensuring that the consumer is aware of all the alternatives

Current Scenario

National Rural Livelihood Mission

Earlier known as IRDP(Integrated Rural Development Programme) NRLM was started by Shri Atal Bihari Vajpayee In 1999 Objective of NRLM was to provide Self Employment and Organisation for the Poor Swarnajayanti Grameen Swarojgar Yojana was initiated for converting poor people into Clusters i.e., Self-Help Groups Aim of SGSY was to provide credit to poor and for promoting Enterprenuerial Skills

NRLM Key Features

Goal: Poverty elimination in rural areas through building and nurturing institutions of the poor, with a focus on women SHGs and their federations Target: Reaching 70 million rural poor households in the next 10 years Coverage: Phased coverage of villages in the country over a period of 10 years

NRLM Key Features

Comprehensive livelihoods promotion Overcoming shocksFood security credit, health risk fund, etc Strengthening existing livelihoodsAgriculture, livestock, NTFP, fishery, weaving, etc Skilling and placing youth from rural poor households Micro-enterprise development: EDP trainings, skilling, apprenticeship and handholding Risk management: Life, health, assets and livelihoods risks

MICRO-INSURANCE

Microfinance Institutions with Health Programmes

NRLM Outreach

NRLM Outreach(Cont)

SHG Banking Linkage Programme

SHG Saving Account

SHG Saving Account

Savings Growth in SHGs

SHG Dropout

MFI Response to New RBI Regulation

RBI guidelines are not clear Financial firms are cautious Uniform policy will be difficult for small MFIs Difficult for new start up to meet the demands Accountability of NBFCs loan s difficult Restrictions on margins and interest rates are too stringent

Village Financial Services Ltd.

The institution focuses its services in West Bengal and Bihar, reaching 2,22,357 clients Clients are limited to women, a maximum monthly income of Rs. 4000 in rural areas and Rs. 5000 in urban areas

Concerns
That repayment has dropped from 99% to 96-97% Borrowers delaying their repayment Extensive waiting periods Larger MFIs have additional funding sources but , smaller regional MFIs are experiencing the impact Funding cost were increased to 14-15% from 10-11% Increase in loan tenure will delay the payment

Arohan Financial Services Pvt. Ltd.

Arohan Financial Services Pvt. Ltd. is a NFBC operating in 23 districts across West Bengal, Assam, and Bihar. The institution has been in service since 2006, currently serving 2,14,059 clients. Arohan uses a joint lending group model, and it has Rs. 9 crore in outstanding loans as of March 2012.

Concerns
Lack of regulation on interest rate caps Banks do not feel compelled to lend to MFIs because they are not a big ticket Borrowers dont understand. Who is RBI? What is regulation? They are losing confidence.

Trident Microfinance
Trident Microfinance is a NBFC, operating in Andhra Pradesh, Madhya Pradesh, and Uttar Pradesh since 2007 Trident utilizes a joint lending group operational model to serve 2, 54000 clients As of the end of March 2012, the NBFC had Rs. 150 crore in outstanding loans

Concern
Trident had 109 branches, which has since been reduced to 84 due to regulatory closure. The representative reported that the 26% interest rate cap is not encouraging. 12% margin cap proposed by RBI is unreasonable

Indebtedness cannot exceed Rs. 50,000

Highlights of the Budget

2012-2013 Proposed to provide 200 crore to enlarge the corpus to 300 crore of 'Women's SHG's Development Fund

To encourage micro enterprises, a credit linked subsidy programme namely Prime Minister's Employment
Objective of promoting market access of Micro and Small Enterprises

Highlights of the Budget

2013-2014 Benefits or preferences enjoyed by MSME to continue up to three years after they grow out of this category

Refinancing Capacity
Fund provided by India Microfinance equity fund Set up tool rooms, technology development centres

Case Study

Andhra Pradesh crisis(Krishna district)

Micro Finance Controversy Andhra Pradesh

COMPLAIN: Some Borrowers of the private MFIs in AP lodged complain against their alleged usurious interest rate and forced loan recovery practices. ACTION: Government side and Private MFIs in AP

The Andhra Pradesh Microfinance Institutions (Regulation of Money Lending) Act, 2010

Micro Finance Controversy Andhra Pradesh

ANALYSIS: Three allegations 1. Do private sector MFIs charge usurious interest rates? 2. Do MFIs (need to) employ coercive collection practices? 3. Are MFI clients being pushed to commit suicides CONCLUSION RESULT

Micro Finance Controversy SKS

IPO July, 2010 Motive- stock sale will help fuel the companys rapid growth, Impact- Forced SKS to increase interest rates, avoid riskier loans & enact policies contrary to the spirit of microfinance Critic offering big money people an opportunity to make money out of poor people Everyone at SKS made money SKS should operate where there are no SHGs

Micro Finance Controversy SKS

Crises1. 2. Suffered loss of 1300 crore in AP Shifted the registered office to Mumbai

The good part1. 2. 3. Helped SKS to expand and give more loans Serves more than 90000 villages Employs more than 21000 people

IPO good or bad- a fascinating debate

Global Trend In Microfinance

Number of Active Depositors (in Millions)

Number of Active Borrowers(In Millions)

Brazil Micro Finance

Brazil Microfinance
Supply of Financial Services Banking in Brazil for Lower Income Earners:
Consumer Credit Credit Cards Store Credit Supplier Credit Agiotas (Loan Sharks)

Brazil MF Today
Institutions associated with international microfinance networks Civil society organisations

Government initiatives
Private Banks

Brazil MF Criticism
Low penetration rate Hyperinflation period Government-subsidized credit programs

Lack of framework to support a full and effective microfinance system

Crowding out by the public sector

Way forward
What should financial regulation do? Consumer protection regulation for micro-credit

Consumer protection regulation for financial distribution

Conclusion
Frontline institutions Not seen success like counterparts in Latin America, Europe & Bangladesh Blind Adoption Difficult to regulate
Controversies

Criticised for interest rates Consumer protection, micro-prudential regulations & systematic risk

At present, focused on lending

Group 5
Nihar Manjrekar Milind Kudal Pooja Malde PG12093 PG12095 PG12096

Rohan Patel
Rushabh Desai Sargam Mehta Alisha Khimavat Nikon Bhatt Malay Shah Keshav Kriplani

PG12097
PG12098 PG12099 PG12106 PG12110 PG12111 PG12120