INTRODUCTION
Regulatory developments in the fintech sector are being rolled out at a pace like never before. June 2023 started off with the Reserve Bank of India ("RBI") robustly responding to the industry's call for clarity on Default Loss Guarantee ("DLG"), alongside other proposals involving expansion in the scope of e-RUPI vouchers and issuance and use of RuPay cards for international payments.
Despite the funding winter looming in the market, the fintech sector has seen funding of nearly USD 2.1 billion being raised in the March-June 2023 quarter - the highest among start-ups in other sectors, similar to 2019-2020 levels.1 Although, given the dynamic nature of the fintech landscape as well as persistent oversight and intervention from financial regulators in the country, the industry could potentially witness a slowdown in the coming months.
This newsletter highlights key developments, announcements, measures as well as other developments in the Indian FinTech space from June 01, 2023, to June 30, 2023.
RECENT LEGAL & REGULATORY DEVELOPMENTS
RBI issues the much-awaited guidelines on the DLG model
On June 8, 2023, the RBI released the 'Guidelines on Default Loss Guarantee in Digital Lending'2 ("DLG Guidelines") to govern the DLG model. The DLG model for the very first time recognises and permits regulated entities ("REs") to enter into arrangements with lending service providers ("LSPs") or other REs, under which the latter guarantees to compensate the RE, loss due to default (up to a certain percentage) of the loans provided by the RE.
While the latest development comes as a respite to fintech companies who were requesting RBI to allow DLG models, there are certain guardrails that the RBI has put in the DLG Guidelines.
The most significant among these is prescribing an overall 5% (five percent) limit on the DLG cover that a third-party can provide on the total loan portfolio, which means most of the credit risk will continue to remain with the RE. Further, the DLG amount cannot be set off against the underlying individual loans and REs are required to invoke the DLG within a maximum overdue period of 120 (one hundred and twenty) days, unless paid by the borrower before invocation. Other safeguards under the DLG guidelines require REs to have a board-approved policy for DLG arrangements, providing an eligibility criterion for the third party, fees payable by the RE (if any), and process for monitoring and reviewing DLG arrangements, among others.
You can find our article analysing the DLG Guidelines here.
RBI releases the 'Draft Master Directions on Cyber Resilience and Digital Payment Security Controls for Payment System Operators'
On June 02, 2023, the RBI released the draft 'Master Directions on Cyber Resilience and Digital Payment Security Controls for Payment System Operators' ("Draft Directions") inviting feedback and comments from stakeholders by June 30, 2023.3
The Draft Directions are proposed to apply to all authorised non-bank Payment System Operators ("PSOs") and aim to identify, manage, monitor, and improve safety and security of the payment systems operated by PSOs in order to help them avoid any cyber and technology related risks arising from partnerships with unregulated entities. The Draft Directions accordingly provide a framework for information security and emphasize on cyber resilience to secure digital payment transactions. In this regard, PSOs are required to formulate a board approved information security policy and implement a cyber crisis management plan to detect, contain, respond to, and recover from cyber threats and attacks.
The Draft Directions also propose that PSOs must put in place a board approved incident response mechanism, with provisions to notify its senior management, relevant employees and regulatory and supervisory authorities about cyber incidents. Any cyber security incident is required to be reported to Indian Computer Emergency Response Team (CERT-In).
IndusLaw was involved in the stakeholder consultation process on the Draft Directions and has provided stakeholder comments to the RBI.
RBI expands the scope of Trade Receivables Discounting System
On June 07, 2023, the RBI expanded the scope of the Trade Receivables Discounting System ("TReDS")4 as prescribed under the Guidelines for the Trade Receivables Discounting System, 2014 ("Guidelines") (updated as on July 02, 2018).5 TReDS is a type of a 'payment system' that enables Micro, Small and Medium Enterprises ("MSMEs") to finance or discount their trade receivables through different financiers. Earlier, on February 08, 2023, the RBI had announced in the Statement on Developmental and Regulatory Policies, to make certain enhancements to the Guidelines, which had been issued to MSMEs in converting their trade receivables to liquid funds.
RBI has now proposed to expand the scope of the Guidelines to further facilitate operation of the TReDS by permitting all entities and institutions, allowed to undertake factoring business under the Factoring Regulation Act, 2011, to participate as financiers. TReDS are now also permitted to have insurance facility and secondary market operations on their platforms. Apart from this, the other requirements of TReDS will remain the same. This move by the RBI will improve the cash flow of MSMEs by enabling financing by a wider range of financiers, ultimately boosting the growth of the MSME industry.
RBI releases framework for 'Compromise Settlements and Technical Write-offs'
Over the years, the RBI has issued various instructions to REs regarding compromise settlements in respect of stressed accounts, including the Prudential Framework for Resolution of Stressed Assets dated June 07, 2019.6
On June 08, 2023, the RBI released a supplementary regulatory framework for compromise settlements and technical write-offs applicable to all REs7 ("Supplementary Framework") followed by some frequently asked questions thereon.8 It is important to note that the Supplementary Framework does not prescribe any debt threshold to trigger its applicability.
The Supplementary Framework provides a clear definition of 'compromise settlements' and 'technical write-offs' and has mandated REs to put in place board-approved policies for delegation of powers for approval and proposals to undertake compromise settlements in respect of debtors classified as fraud or wilful defaulters. The Supplementary Framework inter alia also outlines the pre-conditions and process for undertaking such settlements and write-offs, along with a mechanism for reporting to the supervisory body.
RBI publishes report of the Committee for Review of Customer Service Standards in RBI Regulated Entities
On June 05, 2023, the RBI released a report prepared by the committee formed for reviewing customer service standards for REs ("Committee"), inviting comments and feedback from stakeholders by July 07, 2023.9
The Committee was set up by the RBI in May 2022 to evaluate and review the quality of customer service, examine evolving needs, identify global best practices, and suggest measures for improvement in processes and standards.10
In the report, the Committee has made observations with respect to lack of uniformity among REs in classifying customer complaints and has urged the RBI to establish a clear definition of what constitutes a complaint under the Internal Grievance Redress mechanism, as well as recommended to strengthen regulation for overall customer protection in the financial sector. The Committee has also identified certain gaps as well as lack of enforcement action against REs failing to meet customer service requirements. Accordingly, it has urged REs to leverage technology for better delivery of customer services and has proposed penal action against REs which fail to meet the customer service standards, while also providing incentives to REs making systemic improvements.
SEBI amends the Anti-Money Laundering/ Combating the Financing of Terrorism Guidelines for Securities Market Intermediaries
On June 16, 2023, the Securities and Exchange Board of India ("SEBI") issued a circular amending the Guidelines on Anti-Money Laundering ("AML") Standards and Combating the Financing of Terrorism ("CFT") Obligations of Securities Market Intermediaries ("Guidelines") under the Prevention of Money-laundering Act, 2002 and rules framed there under, to 'further enhance the effectiveness of the AML/CFT framework.'11
The circular emphasizes the key changes made to the Guidelines, which includes modification to the definition of a 'group', addition of requirements regarding issuance of statement of policies and procedure to deal with money laundering and terrorism financing by securities market intermediaries ("Intermediaries") to reflect the current regulatory requirements. Further, the Intermediaries have been directed to register the details of clients which are non-profit organizations, on the Digital Advancement of Rural Post Office for a new India (DARPAN) Portal of NITI Aayog and maintain the record of such registration for 5 (five) years, after such business relationship with the client comes to an end or closing of the client's account, whichever is later. The Guidelines have further directed Intermediaries and stock exchanges to leverage technological innovations for effective implementation of name screening.
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Footnotes
1. https://inc42.com/buzz/winter-gloom-investors-shiver-indian-startup-funding-falls-5-4-bn-h1-2023/
2. https://www.rbi.org.in/Scripts/NotificationUser.aspx?Id=12514&Mode=0
3. https://www.rbi.org.in/Scripts/bs_viewcontent.aspx?Id=4267
4. https://rbi.org.in/Scripts/NotificationUser.aspx?Id=12510&Mode=0
5. https://www.rbi.org.in/Scripts/bs_viewcontent.aspx?Id=3504
6. https://www.rbi.org.in/Scripts/NotificationUser.aspx?Id=11580&Mode=0
7. https://rbi.org.in/Scripts/NotificationUser.aspx?Id=12513&Mode=0
8. https://www.rbi.org.in/Scripts/FAQView.aspx?Id=160
9. https://www.rbi.org.in/Scripts/PublicationReportDetails.aspx?UrlPage=&ID=1232
10. https://www.rbi.org.in/Scripts/BS_PressReleaseDisplay.aspx?prid=53750
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