India: Key Aspects Of The Revised Regulatory Framework For Housing Finance Companies

A housing finance company ("HFC") is another form of a non-banking financial company ("NBFC") which primarily is engaged in the business of providing finance for housing. With the growth of major HFCs in India providing housing loans to home buyers, the housing finance sector has experienced unprecedented growth from being a government provided service to private players entering the housing finance market to provide such services.

The provisions for the regulation of HFCs are provided under the National Housing Bank Act, 1987 ("NHB Act") with the National Housing Bank ("NHB") being the regulatory authority for HFCs. In order to avoid dual regulation, certain exemptions were granted to HFCs from the provisions of Chapter IIIB (Provisions relating to Non-Banking Institutions receiving Deposits and Financial Institutions) of the Reserve Bank of India Act, 1934 ("RBI Act") vide notification dated 18 June 1997.

In 2019, the NHB Act was amended and certain powers for regulation of HFCs were conferred with the Reserve Bank of India ("RBI") pursuant to such amendments. As a result thereof, the exemptions granted to HFCs under the RBI Act were withdrawn and the provisions of Chapter IIIB (except Section 45-IA (Requirement of Registration and Net Owned Fund)) of the RBI Act were made applicable to all HFCs vide a notification dated 19 November 2019 issued by the RBI. On 18 November 2020, the RBI issued another notification (which supersedes earlier notification dated 19 November 2019) to exempt HFCs from the provisions of Sections 45-IA (Requirement of Registration and Net Owned Fund), 45-IB (Maintenance of Percentage of Assets) and 45-IC (Reserve Fund).

The RBI undertook a review of the regulations applicable to the HFCs and proposed certain changes in the regulatory framework for HFCs. On 17 June 2020, the RBI issued a draft framework and invited public comments thereon.

Revised Regulatory Framework for HFCs

On 22 October 2020, the RBI issued the revised regulatory framework ("Revised Framework")¹ for HFCs. Set out below are the key aspects of the Revised Framework:

Definition of HFC

Under the Revised Framework, a HFC has been defined to mean a non-banking financial company engaged in the housing finance business and which fulfils the following conditions:

(a) Its financial assets (in the business of providing finance for housing) constitute not less than 60% of its total assets; and

(b) Out of the total assets (netted off by intangible assets), not less than 50% should be by way of housing financing for individuals.

Transition time for existing HFCs to fulfil the asset based criteria

The Revised Framework has allowed a transition time till 31 March 2024 to the existing registered HFCs to fulfil the asset based criteria as set out above in case such HFCs proposed to continue the business as HFCs:

The existing HFCs, which do not fulfil the assets based criteria, would need to submit to the RBI a Board approved plan within 3 (three) months including a roadmap to fulfil the above-mentioned criteria and timeline for transition. In case a HFC is unable to fulfil the above criteria as per the timeline, such HFC shall be treated as NBFC – Investment and Credit Companies ("NBFC-ICC") and would be required to apply to the RBI for conversion of its certificate of registration ("CoR") from HFC to NBFC-ICC.

Definition of Housing Finance

In general, the term 'housing finance' can be treated as providing finance for residential housing purposes and should ideally not include finance for non-residential purposes like commercial real estate, etc. However, there was no formal definition of the term 'housing finance'.

The Revised Framework has set forth a clear definition of housing finance. As per the definition, the term 'Housing finance' means financing, for purchase/ construction/ reconstruction/ renovation/ repairs of residential dwelling units which would include (a) loans to individuals or group of individuals including co-operative societies for construction/ purchase of new dwelling units, (b) loans to individuals or group of individuals for purchase of old dwelling units, (c) loans to individuals or group of individuals for purchasing old/ new dwelling units by mortgaging existing dwelling units, (d) lending to builders for construction of residential dwelling units,(e) loans to corporates/ government agencies for employee housing, etc.

All other loans including loans given for furnishing dwelling units, loans against mortgage of property for any purpose other than buying/ construction of a new dwelling unit/s or renovation of the existing dwelling unit/s, would be treated as non-housing loans and would not fall under the definition of 'Housing Finance'.

Net owned fund ("NOF") requirement

The Revised Framework has increased the minimum NOF requirement for HFCs from earlier INR 100 million to INR 200 million. As per the Revised Framework, every company proposing to commence/carry on the housing finance business as its principal business shall be required to have a NOF of not less than INR 200 million.

Existing HFCs having NOF less than INR 200 million shall be required to achieve NOF of not less than INR 150 Million by 31 March 2022 and NOF of not less than INR 200 Million by 31 March 2023.

In case an existing HFC fails to achieve the prescribed level of NOF within the stipulated period, then registration of such HFC would be cancelled. In case such HFC proposes to be treated as NBFC-ICC, then it will be required to apply to the RBI conversion of its CoR from HFC to NBFC-ICC.

Exposure to the group companies engaged in real estate business

The Revised Framework seeks to curb the practice of double financing by the HFCs. Now, HFCs can either undertake exposure to the group company engaged in real estate business or they can lend to the retail individual home buyers in the projects of such group companies.

In case a HFC prefers to undertake exposure in group companies, then such exposure by way of lending and investing, directly or indirectly, cannot be more than 15% of owned fund for a single entity in the group and 25% of owned fund for all such group entities. Further, such exposure would need to be on arms' length basis.

Applicability of other directions/regulations issued by RBI

The Revised Framework has set forth a list of other regulations which would apply to all HFCs. Further, HFCs would also need to comply with master directions in relation to the monitoring of frauds in NBFCs, and information technology framework for the NBFC sector issued and amended by the RBI from time to time. Further, RBI has proposed that in order to achieve smooth transition, a harmonisation between the regulations of HFCs and NBFCs will be taken up in a phased manner in the next 2 (two) years. RBI is expected to issue a comprehensive master direction for HFCs covering all applicable instructions shortly. HFCs shall, however, continue to comply with all extant instructions issued by NHB, which are not covered in the Revised Framework.

Our thoughts

While the Revised Framework seeks to provide a comprehensive framework to regulate the HFCs, and has also provided clarity on the financing activities which would fall within the ambit of housing finance business, the restrictions introduced by the Revised Framework with respect to double financing by the HFCs could have an impact on the real estate sector which is already facing a liquidity crisis.

Further, there are certain aspects which could be burdensome for small HFCs. For instances, the Revised Framework requires existing HFCs to achieve a minimum NOF of INR 200 million. Earlier the HFCs were required to maintain a minimum NOF of INR 100 million. Small HFCs could face challenges in meeting this requirement and might have to surrender their CoR unless such small HFCs succeed in raising requisite funds so as to be able to meet the NOF criteria. At the same time, this could offer a great opportunity for the foreign players who are looking to invest in the Indian housing finance sector. The housing finance sector being regulated by the NHB and RBI, foreign direct investment is permitted upto 100% under automatic route in the HFCs. However prior regulatory approval will be required in case of substantial acquisition of shareholding of, or control over an HFC, or a change in management of an HFC (resulting in change in more than 30 per cent of the directors, excluding independent directors).

Another aspect is the qualifying assets thresholds for the principal business criteria of HFCs. Prior to the amendment in Section 29A of the NHB Act, a company applying for registration as HFC was required to have, as one of its main objects, transacting of the business of providing finance for housing (directly or indirectly). By virtue of the amendments in NHB Act, Section 29A of the NHB Act now uses the term 'principal business'. The Revised Framework has prescribed qualifying assets thresholds to determine the principal business criteria which would be applicable to the existing HFCs as well. The existing HFCs could face challenges in fulfilling the principal business criteria and in case they fail to fulfill the qualifying assets criteria by 31 March 2024, such HFCs would then have to apply to RBI for conversion as NBFC-ICC.

Footnote

1 Text of the relevant circular can be accessed at the following link:

https://www.rbi.org.in/Scripts/NotificationUser.aspx?Id=11988&Mode=0

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.