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Transfer of factoring receivables exempted from MHP 

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Qasim Saif | finserv@vinodkothari.com

What is the exemption provided by the RBI?

  • The Reserve Bank of India (RBI) on 28th December, 2023 issued a circular amending the Master Direction on Transfer of Loan Exposures (MD-TLE) to exempt the Minimum Holding Period (MHP) requirement in case of transfer of receivables arising from factoring business.
  • The circular further prescribes eligibility for exemption, providing that:
    • The residual maturity of the receivables at the time of transfer should not exceed 90 days; and 
    • Proper credit appraisal of the drawee should have been conducted by the transferee as provided under clause 10 and 35 of MD-TLE
  • It shall further be noted that, factoring business, can only be undertaken by eligible regulated entities, hence the transferee’s in case of transfer of factoring receivables can be only be entities eligible for factoring business which are:
    • NBFC-Factors 
    • NBFC-ICC having specific licence for carrying out factoring business; and 
    • Entities identified under section 5 of the Factoring Regulation Act, 2011, viz. banks, and body corporates established under an Act of Parliament or State Legislature, or a Government Company
  • Before the specific amendment, a view could have been taken that factoring of receivables not being a loan, did not fall within the ambit of MD-TLE. The amendment has in a way clarified two things:
    • Transfer of factoring receivables shall be covered under the MD-TLE; 
    • The MHP requirement shall not be applicable in case the residual maturity of receivables is less than 90 days.
    • In case the residual maturity is more than 90 days, the MHP shall be applicable along with all other provisions of the MD-TLE

Intent behind exemption from Minimum Holding Period requirement

  • In accordance with MD-TLE any transfer of economic interest in a loan account/pool by regulated entities could only be undertaken after a prescribed period of 3 months in case of loans with tenure less than 2 years and 6 months in case of other loans has elapsed. The intent being to restrict REs from originating loans with the sole intent to transfer the same.
  • The primary intent behind this amendment is to foster and enhance the secondary market operations associated with receivables acquired through ‘factoring business’. By exempting the MHP requirement for eligible transferors, RBI aims to encourage greater liquidity within the factoring industry.

Anticipated impact of the amendment

  • Promoting an active secondary market would attract more participants, specifically the secondary market would help REs to work on their core competencies, such as eligible NBFCs may be able to originate assets in their specific niche which can be then transferred to banks or other large NBFCss for utilising their low-cost pool of funds.
  • Factoring business in India has been an underperformer, removal of such bottlenecks shall help REs optimising their business and in turn facilitating easier working capital finance for MSMEs.

Conclusion

  • To provide a little thrust to lagging factoring business in India, RBI has exempted transfer of factoring receivables from the requirement of MHP  under the MD-TLE 
  • The said move can assist in larger participation and increased liquidity in the factoring industry.

Embracing a Wider Scope for TReDS

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Transfer of Factoring Units to come under the purview of TLE in lieu of the regulator’s move to enhance TReDs Platform

– Anita Baid, Vice President | finserv@vinodkothari.com

The concept of Trade Receivables Discounting System (TReDS) was introduced by RBI to enable discounting of invoices of MSME sellers against large corporates, including government departments and public sector undertakings, through an auction mechanism to ensure prompt realisation of trade receivables at competitive market rates. 

TReDS transactions fall under the umbrella of “factoring business.” Factoring is a financial practice where a company sells its trade receivables, or outstanding invoices, to a third party at a discount in exchange for immediate cash. TReDS platforms provide a digital infrastructure for facilitating such transactions, enabling efficient invoice discounting and promoting liquidity for MSMEs.(Our FAQs on TReDS and the India Factoring Report 2023 can be read here and here)

In a move to further strengthen the TReDS and promote smoother financial transactions, the RBI has announced significant enhancements to the TReDS guidelines. These enhancements are in line with the announcement made by RBI in the Statement on Developmental and Regulatory Policies dated February 8, 2023, to address certain challenges faced by financiers while bidding for low-rated buyers’ payables on TReDS platforms. (Our article on the same can be read here)

This article intends to discuss the RBI notification dated June 7, 2023 on Expanding the Scope of Trade Receivables Discounting System, introducing the said enhancements.

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Ushering the new-age TReDS Platform

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– Anirudh Grover, Executive | finserv@vinodkothari.com

Receivables or debtors though from the face of it is considered as a positive thing for businesses, however when you lift the tag of positivity one can assess the true color of trade receivables. This essentially means that despite it being classified as an asset it may not be helping the business when required. For instance, ABC Ltd has 1 lakh recorded as debtors in its financials however these debtors are of no substantial use unless it is converted into liquid forms of funds. This in essence is the reason why TReDS was introduced, RBI vide Guidelines for the Trade Discounting System (TReDS) opined that the scheme for setting up and operating the institutional mechanism for facilitating the financing of trade receivables of MSMEs from Corporate and other buyers, including Government Departments and Public Sector Undertakings (PSUs), through multiple financiers is known as TReDS.

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2022 in retrospect: Regulatory activity in the financial sector

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– Vinod Kothari | finserv@vinodkothari.com

It has been a brisk year in terms of activity – a busy regulator kept  all regulated entities busier. This year marked the initiation of a new SBR framework for NBFCs – hence there was a lot of buzz in terms of understanding the new regulatory framework. The names of 16 Upper layer entities were declared by the RBI – consisting of 5 HFCs, 10 NBFC-ICCs, one CIC[1]. As is the design, UL entities are treated at par with banks in terms of regulatory intensity –hence, there is a LEF (large exposure framework), differential provisioning norms in case of  standard assets, CET-1 capital requirement, mandatory listing etc.

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The Pious Intent of Promoting Factoring

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Preserve of a select few?  

Over the last two years, the regulatory developments vis-à-vis factoring, and more specifically, ‘who can be a factor’ has been a to-and-fro ride. With widening of the scope of entities eligible for factoring to its effective roll back vide the Registration of Factors (Reserve Bank) Regulations, 2022 (‘Registration Regulations’), the factoring market found itself stuck in ambiguity arising because of the disparity between the Factoring Regulation (Amendment) Act, 2021 (‘Amendment Act’) and the Registration Regulations. Ironically enough, only days after the notification of Registration Regulations, the Economic Survey 2021-22 was released, which held a rather positive outlook as regards the factoring market, in view of the reliefs provided vide the Amendment Act.

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Factors’ Registration Regulations: Going back to Square-one?

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– Megha Mittal

mittal@vinodkothari.com

On 14th January, 2022, the Reserve Bank of India (‘RBI’) notified the Registration of Factors (Reserve Bank) Regulations, 2022[1] (‘Registration Regulations’) laying down the manner of granting Certificate of Registration (‘CoR’) to companies which propose to do factoring business. Applicable with immediate effect, this may essentially seem like an undoing of the Factoring Regulation (Amendment) Act, 2021. One of the several objectives of the said Amendment was to allay a doubt, arising from the existing language of the Factoring Act, that entities either had to be principally into factoring business, or not do factoring at all. The RBI’s Regulations almost lead to the very result – either an entity has a Certificate of Registration (COR) as a factor, or it does not do factoring at all.

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Basics of Factoring in India

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– Megha Mittal, Associate ( mittal@vinodkothari.com )
Factoring as an age-old concept has stood the test of time as it enabled businesses to resolve the cash flow issues, rendered liquidity, facilitated uninterrupted services and cushioned businesses against the lag in the billing cycles. Also the merit of the product lies in the simplicity of the concept which is well understood and accepted. 
The principles of factoring work broadly on the seller selling the receivables of a debtor to a specialised financial intermediary called a factor. The sale of the receivables happens at a discount and transfers the ownership of the receivables to the factor who shall on purchase of receivables, collect the dues from the debtor instead of the seller doing so, enabling the seller to receive upfront funds from the factor.  This allows companies to release the working capital required for holding receivables. 

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Factoring Law Amendments backed by Standing Committee

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-Megha Mittal 

[finserv@vinodkothari.com]

In the backdrop of the expanding transaction volumes, and with a view to address the still prevalent delays in payments to sellers, especially MSMEs, the Factoring Regulation (Amendment) Bill, 2020 (‘Amendment Bill’) was introduced in September, 2020, so as to create a broader and deeper liquid market for trade receivables.

The proposed amendments have been reviewed and endorsed by the Standing Committee of Finance chaired by Shri. Jayant Sinha, along with some key recommendations and suggestions to meet the objectives as stated above.  In this article, we discuss the observations and recommendations of the Standing Committee Report  in light of the Amendment Bill.

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Fractured Factoring: Amendments may give a push to a potent trade finance solution

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Our other write-ups on Factoring:

Growth of factoring services in India

 

Export Factoring in India

 

http://vinodkothari.com/wp-content/uploads/2017/03/FAQs_on_factoring_by_RBI-1.pdf

http://vinodkothari.com/wp-content/uploads/2017/03/Export_Factoring.pdf

Impact of GST on factoring transactions

Factoring Business: Business Threshold lowered