Co-operative banks in India form the backbone for delivery of credit to rural areas. They belong to their members, so the customers are also owners. Access to credit in rural areas was the key reason behind the advent of the co-operative movement in India which offers short term credit and long term credit structures. Short term credit institutions follow a 3 tier structure, with primary agricultural credit societies ("PACS") at the village level, district central cooperative banks ("DCCBs") at intermediary district level and state cooperative banks ("SCBs") at State level. Long term cooperative credit institutions operate through 2 tiers, one at the State level known as state cooperative agriculture and rural development banks ("SCARDBs") and at the sub-district level as primary cooperative agriculture and rural development banks ("PCARDBs"). In addition, there are the urban cooperative banks ("UCBs") operating in urban and semi-urban areas.
In India, co-operative banks are registered under the relevant States cooperative societies act and controlled by State government through the Registrar of Cooperative Societies in relation to incorporation, registration, management, audit and liquidation. They are regulated by the Reserve Bank of India ("RBI") under the Banking Regulation Act, 1949 ("BR Act") and the Banking Regulation (Co-operative Societies) Rules, 1966. National Bank for Agriculture & Rural Development ("NABARD") has concurrent powers to inspect SCBs and DCCBs. PACS are only under the purview of NABARD. Consequently, there is multiplicity of governance.
The PMC Crisis
Cooperative banks in India have historically faced major issues on governance, management, sound capital base, technology, risk management and fraud. Most recently and high profile, is Punjab and Maharashtra Co-operative Bank ("PMC Bank"), a co-operative bank operating in 7 states with total advances amounting to ?8,300 crore as at 31 March 2019. PMC Bank allegedly colluded with Housing Development & Infrastructure Limited Group ("HDIL") promoters, providing ?6,700 crore loans to HDIL which amounted to 73% of its total loan book and which breach RBI single borrower norms. Loans were not repaid and PMC Bank hid the loan default from the RBI by creating separate books of accounts. Allegations include forgery, cheating and criminal conspiracy. The Economic Offences Wing ("EOW") registered criminal complaint against PMC Bank and the Enforcement Directorate filed charge sheets against HDIL promoters, Rakesh Wadhawan and Sarang Wadhawan under the Prevention of Money Laundering Act, 2002.
RBI appointed an administrator along and a 3-member advisory committee for speedier resolution. RBI further imposed restrictions on routine transactions of PMC Bank such as restrictions on: (i) extending any new loans or making any investments, except in government securities; (ii) incurring any liability or accepting fresh deposits; (iii) disbursing or agreeing to advance any payment whether in discharge of its liabilities and obligations or otherwise; (iv) any compromise or arrangement or sale, transfer or disposition of its properties or assets; (v) depositors withdrawal limit of ?1000, which subsequently over 3 months increased to ?50,000 per withdrawal. PMC Bank was allowed to pay salaries and rent and renew customer term deposits on maturity. The restrictions disabled customers from withdrawing their life savings which, in addition to the corporate fraud, led public outcry.
This sets out the context for the Banking Regulation Amendment Bill, 2020 described below.
The Banking Regulation Amendment Bill, 2020 (the "Bill")
The Bill seeks to enforce stricter banking regulation by RBI on cooperative banks while administrative issues are still guided by the Registrar of Cooperative Societies. The "Statement of Objects and Reasons" makes clear the legislative intent to bring cooperative banks on par with regulation and developments in the Indian banking sector and to have better management, increased professionalism, access to capital, improve governance and protect depositors interests. Major highlights of the Bill include:
- Inclusion of a non-obstante provision so that the BR Act as amended by the Bill, is the primary law governing cooperative banks in India.
- The Bill inserts provisions providing power to High Courts to decide all claims in respect of cooperative banks. This includes suspension of a cooperative society's business or staying commencement or continuance of all actions and proceedings (supported by an RBI report).
- Amendments to ensure the BR Act is not applicable to PACS and co-operative societies whose primary object and principal business is providing of long term finance for agricultural developments, if it does not use as part of its name, or in connection with its business, the words “bank”, “banker” or “banking” and does not act as drawee of cheques.
- Ability to issue: (i) equity shares, preference shares or special shares; and (ii) unsecured debentures or other similar securities of at least 10 years maturity, to any member or any other person residing within its operational area by a public issue or private placement and with prior RBI approval.
- No person can demand payment towards surrender of shares. Reduction of share capital is permitted only as specified by RBI.
- RBI can supersede the board of directors for up to 5 years, but in the case of a co-operative bank registered with the Registrar of Cooperative Societies of a State, RBI will consult with the State Government before issuing orders on superceding the board of directors.
- RBI can now exempt cooperative banks from certain provisions of the BR Act through notification. The time period and conditions for exemption will be specified.
- BR Act provisions made applicable on amalgamation of cooperative banks and restrictions on compromise or arrangement between cooperative bank and creditors.
- Additional RBI new powers include:
- ensuring the board of directors includes persons with professional experience to undertake their role;
- power to appoint the chairman, managing director and any additional directors and prior RBI approval is required to amend provisions on appointment of managing director or any other director;
- higher levels of information reporting such as submission of: (a) returns of assets and liabilities every quarter for not less than 75% of its demand and time liabilities in India; and (b) balance sheets and accounts to the Registrar of Cooperative Societies;
- similar to banks, in the public interest, banking policy interest or for preventing banking company affairs being conducted in a manner detrimental to depositors, to: (a) require a board meeting to be held on any matter; (b) require any officer to co-operate with an RBI officer; (c) depute any RBI officer to attend or speak at any board meeting and report back to RBI on proceedings; (d) depute any RBI officer to observe conduct of the affairs, offices or branches and report back; and (e) make changes in management;
- acting as an intermediary for amalgamations, if requested by the parties;
- application for winding up of a co-operative bank (based on specified grounds) to the High Court with RBI being the official liquidator in any liquidation proceedings;
- application of special provisions for speedy disposal of winding up proceedings;
- accounts to be submitted to RBI within 3 months as opposed to 6 months; and
- RBI consent required for change of name or in the by-laws of a cooperative bank.
The reforms under the Bill will lead to less State Government interference and will lead to upskill in management and professionalism in the ability to run cooperative banks. There will be more focus on the board and management and detailed reviews of capital requirements and capital raising for cooperative banks. As there are prospectus requirements for listed share offerings and as cooperatives look at capital raisings in public markets, this will lead to more detailed transparency and disclosure on the financial condition and operations of cooperative banks in India. High Courts now have powers concerning winding up proceedings of cooperative banks in certain cases, which was earlier vested with the Registrar of Cooperative Societies. Entities will be incentivized to raise their standards to be more robust due to higher level of scrutiny. We expect a further regulations by RBI on management and regulation of the cooperative banks more in line with banks regulation. The strength of RBI, will ensure cooperative banks avoid a PMC like crisis in the future.
Originally published 16 July, 2020
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