Caution! You may lose money if go for high-interest FDs offered by NBFCs

By: | Updated: December 10, 2018 1:52 PM

NBFCs offer services like two-wheeler loans, consumer durable loans, gold loans, vehicle finance and loan against property and enjoy a much larger share than the public sector banks.

Non Banking Finance Companies, NBFC, fixed deposits, company FDs, FD interest rates, NBFC crisis, liquidity crisis, NPAs, two-wheeler loans, consumer durable loans, gold loans, vehicle finance, loan against property, IL&FS fiasco, IL&FS crisis, Reserve Bank of India, RBI, asset securitisation norms, FD interest, principal amount, capital, FD investment, bankruptcyAn NBFC is not a bank, but is engaged in similar activities of a bank with the exception that they can’t accept demand deposit through savings accounts.

You may get excited by the prospect of getting high rate of interest on investments made in company deposits offered by the Non Banking Finance Companies. While the interest rates on bank fixed deposits (FDs) vary from 6-7 per cent, the rate on NBFC company deposits remains up to 9 per cent. However, your endeavour to earn those extra 2 per cent return may end up losing the principal amount owing to the present liquidity crisis that the NBFCs are facing.

What is an NBFC?

In simple terms, an NBFC is not a bank, but is engaged in similar activities of a bank with the exception that they can’t accept demand deposit through savings accounts. NBFCs offer services like two-wheeler loans, consumer durable loans, gold loans, vehicle finance and loan against property and enjoy a much larger share than the public sector banks. In the absence of scheduled commercial banks in every corner of rural India, NBFCs, due to their highly localised presence, thrive on strong rural demand and growing SME and MSME sectors.

What leads to the crisis?

Due to their inability to raise low-interest demand deposits from public, NBFCs depend on high-interest wholesale lending from banks and other institutions and company FDs of about 5-year tenure for their capital requirements, which push their cost of funds higher than that of banks.

A major mistake of NBFCs was to enter the real estate funding, where they ventured into long-term lending to builders along with underwriting loans with very long-term repayment tenures. As a result, they started borrowing heavily from banks, mutual funds and private placements to refinance the loans and to meet their capital requirement creating a financial mess.

The trouble escalated after the IL&FS fiasco, following which banks and mutual funds not only stopped refinancing the loans of NBFCs, but also stopped the disbursal of sanctioned loans to them, fearing a spill-over impact of the IL&FS default.

Be cautious

With the real estate sector itself in crisis with 75 per cent of the available credit have already been exhausted, of which, about 50 per cent share is of NBFCs that stands at nearly Rs 4 lakh crore in FY2018 and the NPAs of banks at Rs 10 lakh crore in the March quarter of 2018, it seems extremely difficult for NBFCs to secure further loans. So, under desperation to raise money, cash-crunched NBFCs may make their FDs more attractive to lure retail customers.

Although the government and the Reserve Bank of India have come to their rescue through steps like relaxing asset securitisation norms to enhance liquidity position of the debt-trapped NBFCs, but you should remain cautious while investing in company deposits of such organisations as in case of bankruptcy, you may lose your capital.

However, it would be wrong to assume that investing in the FDs of all NBFCs is risky. You need to take all the precautions if you want to take the risk. So, you may go for the FDs of only those NBFCs, which are highly rated.

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