What are Payments Banks and Small Banks ?

What are Payments Banks and Small Banks

In order to expedite financial inclusion, Finance Minister Arun Jaitley in his last budget speech (July,2014) had said that RBI will create a framework for licensing Payments Banks / Small Banks and other differentiated banks.

These local area banks, payment banks and Small Banks are expected to meet credit and remittance needs of small businesses, unorganized sector, low income households, farmers and migrant work force.

RBI (Reserve Bank of India) had already issued guidelines for licensing Payments Banks. RBI has received around 72 applications for setting up Small Banks and 41 applications for Payments Banks. (The last date to submit application for  license was 2nd Feb,2015)

The applicants, who include Telecom companies (like Bharti – Airtel), Big conglomerates (Birla group, Reliance & Future group), Mobile wallet providers, Pre-paid card firms like ITzCash, Department of posts (India Post), Micro Finance companies, Non-Banking Finance Companies (NBFCs) and several others. (State Bank of India is teaming up with Reliance & Bharti with Kotak Mahindra Bank).

So, what are these Payment Banks / Small Banks? Why do these companies want to set up Banks? What are the guidelines given by RBI? What are the benefits of setting up Payments Banks and Small Banks?

Latest News (19-Aug-2015) : RBI grants in-principle nod to 11 companies for Payments Bank licence. Name of the applicants that have received nods are – 1) National Securities Depository Limited (NSDL), 2) Reliance Industries, 3) Aditya Birla Nuvo, 4) Airtel M Commerce, 5) Department of Posts, 6) Fino Paytech, 7) Tech Mahindra, 8) Vodafone m-pesa, 9) Cholamandalam Distribution services, 10) Paytm and 11) Sun Pharma.

Latest News (16-Sep-2015) : RBI grants in-principle nod to 10 Small Banks’ applicants. The selected Applicants are as below :

  1. Au Financiers (India) Limited, Jaipur
  2. Capital Local Area Bank Limited, Jalandhar
  3. Disha Microfin Private Limited, Ahmedabad
  4. Equitas Holdings P Limited, Chennai
  5. ESAF Microfinance and Investments Private Limited, Chennai
  6. Janalakshmi Financial Services Private Limited, Bengaluru 
  7. RGVN (North East) Microfinance Limited, Guwahati
  8. Suryoday Micro Finance Private Limited, Navi Mumbai
  9. Ujjivan Financial Services Private Limited, Bengaluru
  10. Utkarsh Micro Finance Private Limited, Varanasi

Latest News (01-July-2016) : Chennai based Equitas holdings will be the first Small Finance Bank in India. RBI has issued final approval & license to Equitas to launch a Small Finance Bank.

Latest News (23-Nov-2016) : India’s first Payment Bank to go Live – Airtel launches India’s first Payment bank services with 7.25% interest on savings accounts in Rajasthan (Pilot project). Airtel mobile number will be the bank account number. Personal Accidental Insurance of Rs 1 Lac with every Savings Account will be provided.

What is the main objective of a Payments Bank?

Let us consider an example – You pay salary to your Car driver in cash because he does not have a bank account. Individuals like him generally send money to his family members (who might be residing in his native place, a small village) through known people or he may use Money-order facility to remit the cash. But, more and more people like him are becoming mobile phone savvy. The payments Banks applicants will look to unbanked people like your car driver as low-hanging fruit to harvest as their first customers.

(India has around 90 crore mobile users and out of which around 70 crore are active users. The total no of mobile subscribers in rural areas are 38 crore)

Don’t get surprised if your neighborhood supermarket or even your mobile phone can soon be doubled up as a Bank.

So, the main objective of Payments Banks is to increase financial inclusion (to get more people into the banking system) by providing Small Savings Accounts, Payment or remittance services to low income households / labour, small businesses etc.,

Payments banks will provide basic banking services to people who currently do not have a bank account, including millions of migrant workers. Almost half of India’s population is unbanked.

These banks will aim at providing high volume-low value transactions in deposits and Payments / remittance services in a secured technology-enabled environment.               

What is the main objective of a Small Bank?Small Banks Payments Banks Big Banks

The main purpose of the small banks will be to provide a whole suite of basic banking products such as bank deposits and supply of credit, but in a limited area of operation. The objective for these Small Banks is to increase financial inclusion by provision of savings vehicles to under-served and unserved sections of the population, supply of credit to small farmers, micro and small industries, and other unorganized sector entities through high technology-low cost operations.

RBI’s guidelines for Payments Banks

  • Eligibility criteria of Applicants – Prepaid payment instruments issuers, Professionals, NBFCs, Telecom companies, Supermarket Chains, Corporates etc.,
  • The Payments Banks would be required to use the word ‘Payments’ in its name to differentiate it from other banks.
  • The minimum capital requirement is Rs 100 crore
  • What is the scope of activity? – Payments Banks can offer Deposits (only current/saving accounts), issue ATM / Debit cards, payments and remittances services and can also act as Distributor of Third party products (can cross sell insurance, mutual funds etc.,)
  • They would initially be restricted to holding a maximum balance / deposit of Rs 100,000 per customer. (Based on performance, the RBI could enhance this limit)
  • They cannot issue Credit Cards.
  • Payment Bank can not undertake Lending activities. They should not offer loans.
  • How safe is your money in a Payments Bank? – A Payments bank will be required to invest 75% of its demand deposits balances in Government Securities (G-Sec) & Treasury Bills. They have to meet Cash Reserve Ratio (CRR) and Statutory Liquidity Ratio requirements set by RBI. A maximum of 25% of its deposits will have to be held in current and fixed deposits with other scheduled commercial banks.

RBI’s guidelines for Small Banks

  • Eligibility – Professionals with 10 years of experience in banking / finance / Micro Finance Institutions.
  • The minimum capital requirement is Rs 100 crore (minimum paid-up equity capital).
  • Local focus and ability to serve smaller customers will be a key criterion in licensing such banks.
  • The bank shall primarily undertake basic banking activities of accepting deposits and lending to small farmers, small businesses, micro and small industries, and unorganized sector entities. It cannot set up subsidiaries to undertake non-banking financial services activities. After the initial stabilization period of five years, and after a review, the RBI may liberalize the scope of activities for Small Banks.
  • The area of operations would normally be restricted to few districts (near-by) of a state. However, if necessary, it would be allowed to expand its area of operations beyond contiguous districts in one or more states with reasonable geographical proximity.
  • Small Banks have to meet RBI’s norms and regulations regarding risk management. They have to meet CRR and SLR requirements, like any other commercial bank.
  • The maximum loan size and investment limit exposure to single/group borrowers/issuers would be restricted to 15 per cent of capital funds.
  • For the first three years, 25 per cent of branches should be in unbanked rural areas.
  • Of the loans issued by Small Banks, 75% should be to the so-called priority sector which includes agriculture and small businesses. And half the loan portfolio of the banks should be loans and advances of up to Rs.25 lakh to micro finance businesses.
  • A robust risk management framework should be followed and the banks would be subject to all prudential norms and regulations that are set by RBI. (These norms are similar to the ones that are applicable to the existing commercial banks, like maintaining CRR & SLR etc.,)

Why do we need Payments Banks & Small Banks? (Advantages / Benefits / Challenges)

  • As discussed above , payments bank allow you to only open savings and current accounts. But doesn’t a normal bank allow you to do that even now? Yeah, but the difference is a payments bank can now be your mobile service provider, supermarket chain or a non-banking finance company. (Bharti Airtel, with 20 crore subscribers, has nearly the same number of customers as State Bank of india. The transactions done through mobile wallets have tripled over the last two years to Rs 2,750 crore.)
  • Payment banks may make handling cash a lot easier. For example, you can transfer money using your mobile phone to another bank or to another mobile phone holder and also receive amounts through your device. Or you can transfer the amount to point-of-sale terminals at large retailers and take out cash.
  • Payment banks will pay interest rate on savings accounts. (Rates are not yet specified by RBI)
  • The deposits are covered by the DICGC (Deposit Insurance & Credit Guarantee Corporation), like your Bank Fixed Deposits. (Read my article to understand more about Deposit Insurance)
  • Payments Banks will be regulated by RBI.

Payments Banks cannot lend money (A bank generally earns a spread on the money it lends out from the money it takes in as a deposit). So, to make money and be profitable, they have to charge its customers for the transactions that are executed through them. Will low-income households, who are the main targets of these Payments Banks accept the charges (or reduced remittances)? I believe, competition can dramatically reduce transaction costs over a period of time. This will be a volume based business. The RBI has recommended the payment banks to invest extensively in technology so that all transactions go through seamlessly and at low cost.

(The $7.69 billion Indian e-commerce industry is expected to grow to $17.52 billion by 2017 and around 70% of the business is based on the cash-on-delivery model. This may change in future after the entrance of Payment Banks)

The basic tenets for a successful payment bank will be : ‘high quality – low cost of delivery’, regular education / incentivize and encourage its customers to do cash-less transactions, and a robust technological framework. Essentially the cost of transactions, for a payment bank, needs to be significantly lower of a traditional branch-based banking model.

Many people in rural areas lend or deposit their hard-earned monies with money lenders and financiers. Chit funds are also very popular. The main reason for all these things is that they do not have access to banks. Small Banks can change this scenario. (The rural branches of Indian banks have declined from 54% of total branches in 1994 to 37% in 2013)

Also, we need more intense competition in the Indian Banking sector. Recently, RBI had cut the key policy rates. But, bank customers have not yet benefited from these interest rate cuts. Most of the banks have not yet passed on the benefits to its customers. However, they are fast enough to reduce deposits rates though.

Currently the below mentioned Small Finance Banks and Payment Banks has started banking operations:

Small Finance Banks

  • Ujjivan Small Finance Bank.
  • Janalakshmi Small Finance Bank.
  • Equitas Small Finance Bank.
  • A U Small Finance Bank.
  • Capital Small Finance Bank.
  • ESAF Small Finance Bank.
  • Utkarsh Small Finance Bank.
  • Suryoday Small Finance Bank.
  • Fincare Small Finance Bank.

Payment Bank

  • Paytm Payment Bank.
  • Airtel Payment Bank.
  • India Post Payment Bank.
  • Fino Payment Bank.

RBI has not said how many licenses it will issue in each category (Payment Banks & Small Banks). We need to wait and see how many will get the license. RBI is expected to be liberal in issuing the licenses.

Do you think Payments banks and Small Finance Banks in the Private Sector will be successful? Do you agree that ‘ease of use & convenience’ may work in favor of  Payment Banks? Will they intensify competition in the Indian Banking Sector? Do share your views.

(Image courtesy of [Stuart Miles] / FreeDigitalPhotos.net) (Read my article “RBI cuts Interest rates – Impact on your Home Loan.”)

About The Author

  • Amol says:

    Dear sir

    Small finance bank third party product cross selling kar sakte hai ???

    Cross sell ke liye customer ka CRN mandatory ???

  • Josh says:

    What is the need for small finance bank? If it aims for financial inclusion, other PSU banks could start their branches instead of starting SFB in those rural areas? Also,there are RRB’s…So what’s the need?

  • Smita says:

    ‘Payment Bank’ is considered as NBFC or Bank for Income tax purpose?? pls explain with reason

    • Sreekanth Reddy says:

      Dear Smita..I believe that Payment Banks are treated as Banks and not NBFCs. One of the reasons – NBFCs are not part of payment settlement system whereas Payment banks are.

  • Pawan says:

    The RBI guidelines dated 27 Nov 2014 under scope of activities for small finance bank says there will not be any restriction in the area of operations however your article suggests otherwise. kindly explain

    • Dear Pawan.. Yes, you are correct.

      “However, if necessary, it would be allowed to expand its area of operations beyond contiguous districts in one or more states with reasonable geographical proximity.”

  • Priya says:

    Is differentiated banks and niche banks are one and the same?

  • ranjit says:

    which type of deposit accept by payment & small bank

    • Dear Ranjit,
      Small banks can accept all types of deposits like a commercial bank ( savings, current, fixed deposits, recurring deposits etc) .
      Payment banks can take deposits only on current & savings account. They cannot offer credit cards, NRI account, & time deposits( FD & RD).

  • jasleen kaur says:

    This article is really very informative

  • vinothini says:

    in small and payment banks, the domestic investors share is?
    can u tel me d ans for dis

  • sundareshjp says:

    s may b am late in reading this simple that i search to read,it’s informative,
    my queation is wat abt outsourcing the service isn’t it good one than complicating their business,why they need it.cant psu do that bit by expansion in rural area.

  • Shijin says:

    Whether it is worth for the organization in transforming from NBFCs or MFI to SFB? If it is yes, how they could earn benefit from SFB?

  • prince kumar says:

    can you tell me the difference between payment bank and small bank and mudra bank and regional rural bank.

    • Dear Prince,
      About payment banks & small banks, kindly go through above article.
      MUDRA bank is refinancing institution and helps small business owners to get loans. Read my article : ‘About mudra bank’.
      Regional Rural Banks are local level banking organizations operating in different States of India. They have been created with a view to serve primarily the rural areas of India with basic banking and financial services.

  • Chandan Bhunia says:

    In some of the other article I read that, the payment bank and small bank will be tied up with the
    Commercial bank. I think this way the competition in acquiring small bank and payment bank by the Giant Bank
    will less the transaction cost (payment bank) and increase the interest rate of saving account (both payment and small bank).
    What do you think this rate will be fixed by RBI or will be defined by the parent bank? What will its merits and demerits?

    • Dear Chandan,
      Interest rates are dependent on various factors, however the introduction of payment banks / small banks will definitely augurs well for the customers.

  • Nikitha says:

    Recently SBI has launched an app by name “buddy” which also provides transactions through the phones. Is the way in which payment banks provide transactions through mobiles is synonymous with it?


    Your article is very informative.
    Are these Payment Banks will become a threat to small/medium sized private sector bank’s CASA deposit?
    Viewers share your comments.

      Good competition is always desirable in any industry. Customer will be treated as KING. Existing banks have to definitely be on their toes now, especially the PSUs.

      • Akash Srivastava says:

        Dear Sreekanth,
        I disagree that PSU Banks will be on toes with the competition with Payment Banks as all government scheme are run by PSUs only not the private sector bank. also with the introduction of PM Jan Dhan Yojna and financial Inclusion program lot of Unbanked households are already under the fold of PSUs and It is a fact as already you mentioned above about apps like SBI’s app BUDDY , I don’t think that other PSU will not come out with similar features. and by this way they are not going to get there share in the business model as of Payment Banks. I think you already got the news that out of 11 licence given by RBI , 5 companies are now not interested in the idea of Payment Bank.

  • shiva prasad konduru says:

    Very good information thanks

  • M.R.Ayanthaya says:

    Thanks . The article on PAYMENT BANKS and SMALL BANKS are worth reading and informative. Implementation is likely to take inclusive Banking to greater level apart from revolutionizing Banking in India.

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