The Business of Factoring basically involves buying invoices or company debts in a credit event. The first piece of legislation to regulate this business was enacted as the Factoring Act 2011 ("Act 2011")1, which defines Factoring Business as "the business of acquisition of receivables of assignor by accepting assignment of such receivables or financing, whether by way of making loans or advances or in any other manner against the security interest over any receivables".
Only certain authorised entities can initiate to carry out the business of factoring in India, namely -
- Non Banking Financial Company - Factor ("NBFC - Factor")
- Non Banking Financial Investment and Credit Company ("NBFC - ICC")
- Entity mentioned under section 52 of the Act
Under section 5, any financial institution is necessitated to register with the Reserve Bank of India and adhere to prudential Regulations. Along with registration, they must register every factoring transaction with the Central Registry and adhere to prudential regulations. These entities primarily deal with the factoring business only, and other credit facilities extended by banks against the security of receivables are not to be considered factoring.3 Eligible entities granted a Certificate of Registration ("CoR") shall commence factoring business within six months from the date of such grant.
The Factoring Regulation (Amendment) Bill 2020 was introduced to broaden the scope of entities covered under the legislation and engage more factoring businesses. Finally, the Registration of Factors (Reserve Bank) Regulations, 2022 ("Regulations, 2022")4 were introduced by the RBI to make some specific regulations pertaining to the grant of CoR to companies that propose to conduct factoring business. The Act itself acknowledges some major areas of concern responsible for the low penetration of factoring in India, such as high stamp duty, insufficient/unclear legislations, clarity of roles of parties in a transaction, and so on.
Of particular interest are the changes between the Act 2011 and the Regulations 2022, can be noted as follows;
Definitions
The Act defines receivables as the sum owed to an individual under a contract, whether currently due, expected in the future, or contingent upon the use of services or facilities. However, the amendment proposes a modification, narrowing the scope to money owed by a debtor specifically for tolls or utilising services or facilities.
The Act also defined assignment as the transfer of an assignor's interest in receivables to a factor, either wholly or partially. In contrast, the proposed amendment adds clarity, explicitly stating that this transfer can involve partial interests in the receivable dues.
While the Act characterises factoring business as involving the acquisition of receivables through assignment or financing via loans, the amendment refines this definition to emphasise acquisition through assignment for consideration, primarily for collection or financing purposes.
Registrations
The Act 2011 prescribes that only when a company is registered with the RBI it can engage in factoring. For any NBFC, intending to engage in factoring, shall require -
- financial assets in the factoring business, and
- income from the factoring business should both be more than 50% (of the gross assets/net income) or more than a threshold as notified by the RBI.
The Regulations 2022 bring flexibility to these thresholds to engage in factoring.
The 'factors' under the Act are required to register the details of every transaction of assignment of receivables in their favour, and such details shall be furnished with the central registry under the Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest ("SARFAESI") Act, 2002 within 30 days. The Regulations of 2022, ease the timeline for 30 days, and provide the manner of registration, payment free for late registration and other miscellaneous regulations.
Trade Receivables Factoring
The Trade Receivables Discounting System ("TreDS"), acts as a platform for facilitating financing or discounting trade receivables of Micro, Small, and Medium Enterprises ("MSMEs") via multiple financiers.In the financing or discounting process through TReDS, the steps involve the creation of a Factoring Unit ("FU"), which represents invoices or bills of exchange, documenting the sale of goods or services by MSME sellers to buyers on the TReDS platform.
The Regulations 2022 lays down that details regarding transactions should be furnished with the Central Registry by the concerned TReDS, on behalf of the factor when trade receivables are financed through TreDS. RBI already had issued Guidelines for the Trade Receivables Discounting System in 20185. The Regulation empowers the Reserve Bank to further make guidelines, among other things, for the manner of filing of transaction details with the Central registry for transactions done through the TreDS.
In light of the current state of the factoring industry and its performance, the introduction of additional registration requirements intend to boost up the start up sector by enhancing the access of working capital of entities. Realising this objective through the Regulations 2022, is still unclear on the part of RBI. 6
Although, the regulations have broadened the scope of eligibility, the same shall not be applicable unless the entity undertakes factoring business of trade receivables as its primary business activity and that at least 50% of its gross income should be derived from it. This can turn out to be a significant obstacle to the industry's expansion. The sector already faced challenges in establishing its presence, and these new prerequisites could exacerbate its struggles.
Footnotes
1. The Factoring Regulation Act 2011, Act no. 12 of 2012 - https://lddashboard.legislative.gov.in/sites/default/files/A2012-12.pdf
2. Section 5 of Factoring regulation Act - Recruitment for registration as a factor not to apply to bank or Statutory corporation or Government company.—Nothing contained in section 3 shall apply to a bank or any corporation established under an Act of Parliament or State Legislature, or a Government Company as defined under section 617 of the Companies Act, 1956 (1 of 1956)
3. Factors' Registration Regulations: Going back to Square-one? - Vinod Kothari Consultants, Jan 18, 2022 - https://vinodkothari.com/2022/01/factors-registration-regulations-going-back-to-square-one/
4. RBI Notification No. DOR.FIN.080/CGM(JPS) – 2022 - Registration of Factors (Reserve Bank) Regulations, January 14 2022 - https://rbi.org.in/Scripts/NotificationUser.aspx?Id=12222&Mode=0"
5. RBI Press Release - Guidelines for the Trade Receivables Discounting System (TReDS) July2,2018 https://m.rbi.org.in/Scripts/bs_viewcontent.aspx?Id=3504
6. NBFC Investment and Credit Company - can now Factor - Nishith Desai Associates - Feb 4, 2022 - https://www.nishithdesai.com/SectionCategory/33/Research%20and%20Articles/12/49/49/5284/2.html
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