The committee set up to draft a Code on Resolution of Financial Firms ("Committee"), by the Ministry of Finance, Government of India, on September 28, 2016, released a draft bill – The Financial Resolution and Deposit Insurance Bill, 2016 (the "Draft Bill"), seeking comments from the public. The Draft Bill inter alia proposes to (a) provide speedy and efficient resolution of financial firms in distress, (b) establish a resolution corporation, (c) deposit insurance to consumers of certain categories of financial services, etc. While the Insolvency and Bankruptcy Code, 2016 provides for resolution and liquidation of non-financial firms, the Draft Bill proposes to establish a similar special resolution regime to deal with insolvency issues of banks, insurance firms, and other financial sector entities.
The salient features of the revised Circular are as follows:
- (i) Preamble and Objective : Consolidates existing laws relating to resolution of financial service providers in financial distress, such as banks (excluding eligible co-operative banks as defined under the Draft Bill), insurance companies, financial market infrastructures, payment systems, non-banking financial companies, systemically important financial institutions ("SIFIs") (collectively "covered service providers"), holding companies of covered service providers, non-regulated operational entities within a financial group or conglomerate of covered service providers, branch offices of body corporates incorporated outside India and carrying on the business of providing financial services in India, and any other financial service providers (excluding individuals and partnership firms), into a single legislation to enable the new authority ("Resolution Corporation") to maintain the systemic stability of the country.
- (ii) Resolution Corporation : The Draft Bill proposes for setting up the Resolution Corporation, with its head office at Mumbai comprising of representatives from financial sector regulators like, the Reserve Bank of India, the Securities and Exchange Board of India, the Insurance Regulatory and Development Authority of India and the Pension Fund Regulatory and Development Authority; representatives of the Central Government as well as two independent members.
- (iii) Powers and Functions : The Resolution Corporation is proposed to be empowered to (a) carry out speedy and efficient resolution of financial firms in distress in line with international best practices, (b) provide for deposit of insurance to consumers of certain categories of financial services, (c) monitor SIFIs, and (d) protect consumers of financial service providers and public funds to the extent possible. Special provisions in relation to resolution of central counterparties because of their unique status in the financial system have also been envisaged.
- (iv) Funds : Resolution Corporation to have (i) the Corporation Insurance Fund for payment of deposit insurance; (ii) the Corporation Resolution Fund for covering resolution fees; and (iii) the Corporation General Fund for administrative expenses of the Resolution Corporation. Covered service providers shall also be required to pay fees, as specified by the Resolution Corporation.
- (v) Systemically Important Financial Institutions : SIFIs are financial service providers whose failure might pose a risk to their consumers, the sector they operate in, as well as the overall financial stability of the country. Certain categories of financial service providers may be designated as SIFIs by the Central Government, in consultation with sectoral regulators. The criteria for designation of a financial service provider as a SIFI includes taking into consideration the size, complexity, nature and volume of transactions with other financial service providers and interconnectedness with other financial service providers. SIFIs once designated, are required to submit a resolution and restoration plan as approved by the sectoral regulator, within 90 (ninety) days of such designation, and such other information as may be specified by the Resolution Corporation, to monitor the safety, solvency and soundness of the SIFI. If the SIFI ceases to meet the criteria specified under the Draft Bill, the Central Government may de-designate such a SIFI by recording reasons in writing.
- (vi) Risk to viability :
- (a) The Resolution Corporation, in consultation with the concerned financial sector regulator(s) ("Appropriate Regulator") will specify objective criteria for classification of covered service providers into the five categories, namely, low, moderate, material, imminent and critical, after taking into account several features of covered service providers, including adequacy of capital, asset quality, leverage ratio, liquidity and capability of management.
- (b) Classification of a covered service provider as low, moderate or material, can be done by the Appropriate Regulator. Any difference in opinion between the Appropriate Regulator and the Resolution Corporation while classifying a covered service provider as "material", shall be resolved by a consultation process for final determination by the Resolution Corporation. Classification of a covered service provider as imminent or critical can be done by the Appropriate Regulator or the Resolution Corporation, as the case may be.
- (c) Classification of a central counterparty (i.e. an entity interposing itself between counterparties to contracts traded in one or more financial markets, becoming the buyer to every seller and vice versa, ensuring performance of open contracts, including system providers operating as central counterparties under the Payment and Settlement Systems Act, 2007 and clearing corporations as provided under the Securities Contract Regulation Act, 1956) as having "imminent risk to viability", can be done only by the Appropriate Regulator by recording reasons thereto with the Resolution Corporation within 15 (fifteen) days of such classification.
- (vii) Resolution and Restoration : If a covered service provider is classified as material or imminent risk to viability, as the case maybe, such covered service provider shall prepare and submit a restoration plan and resolution plan, to the sectoral regulator and the Resolution Corporation, respectively, within 30 (thirty) days of such classification. These plans are required to be periodically updated and all changes are required to be notified to the Resolution Corporation and the Appropriate Regulator.
A copy of every resolution plan submitted (by covered service providers) to the Resolution Corporation will be sent to the sectoral regulator and a copy of every restoration plan submitted (by covered service providers) to the sectoral regulator will be sent to the Resolution Corporation within 15 (fifteen) days of receipt thereof. The resolution and restoration plans are required to be updated every 6 (six) months.
- (viii) Methods of resolution : The Resolution Corporation may resolve a covered service provider by, inter alia, transferring the assets and liabilities of the covered service provider to another person, creating a bridge service provider as per the Draft Bill, merger/amalgamation, acquisition, liquidation, bail-in, or a combination of all or any of these methods.
- (ix) Timelines : The process of resolution (except liquidation under the Draft Bill), is required to be completed no later than 2 (two) years from the date on which the covered service provider is classified to be at critical risk to viability, with an extension of the time period by 1 (one) year by the Board of the Resolution Corporation. If the resolution of a covered service provider is not completed within the aforesaid timelines, the Resolution Corporation shall liquidate the covered service provider as per the provisions of the Draft Bill.
- (x) Stay on Termination Rights : Resolution Corporation is also empowered to temporarily stay the operation of any early termination rights in respect of contracts, if such rights are triggered solely due to entry of a covered service provider into resolution.
- (xi) Cross Border Resolution : The Central Government and the Resolution Corporation, with the prior approval of the Central Government, can enter into a memorandum of understanding with the governments and regulators of other countries and exchange information with them to give full effect to the provisions of the Draft Bill.
- (xii) Additionally, the Draft Bill also provides various tools for resolving a covered service provider, appointment of the Resolution Corporation as a receiver of the covered service provider and liquidation of the covered service provider.
The Draft Bill seeks to consolidate and amend several existing legislations dealing with insolvency/winding up of covered service providers in distress and aims to provide a comprehensive resolution framework applicable to various financial service providers, while safeguarding the interests of depositors of insured service providers by giving priority to such depositors (covered under deposit insurance) over other category of dues including, the cost of the Resolution Corporation, claim of other secured creditors, workmen's dues, etc.
An important feature of the Draft Bill is that it may be enforced in a foreign country, if the Indian government has entered into an agreement with such foreign country and its regulators.
The Draft Bill proposes major financial reforms, however, effective implementation will depend not only on strong legal and political backing and professional capabilities of the Resolution Corporation, but also on the leadership of the Resolution Corporation.
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