Incorporation in India Must For Foreign Banks

The Reserve Bank of India has sent to the finance ministry a draft of its discussion paper on conversion of foreign bank branches into wholly-owned subsidiaries. The draft is understood to recommend compulsory local incorporation, coupled with increased market access for foreign banks.

According to sources close to the central bank, a draft has been sent to the ministry because licensing foreign banks is also a bilateral issue. For instance, RBI’s decision to grant additional branch permission for DBS was a fallout of the India-Singapore trade agreement, which resulted in ICICI Bank and SBI getting local bank status in Singapore. The discussion paper is expected to be made public once the finance ministry provides its comments.

The central bank is also likely to define foreign banks that incorporate locally as banks that are managed and controlled by international institutions. This is to differentiate between banks such as ICICI Bank and HDFC Bank, where majority shares (over 70%) are owned by foreigners. “There is no way that the central bank will define HDFC and ICICI Bank as foreign-owned . The issue of management control will likely be raised to distinguish them from other banks.

Sources said it was unlikely that there would be any major resistance if RBI insists that foreign banks incorporate locally . After the global financial crisis, regulators the world over are asking banks to incorporate locally to ensure that local businesses are not hurt if there is another international crisis. Bankers point out that in case of banks present in India, such protection is already there.

“Even branches of foreign banks are required to maintain capital locally and meet prudential guidelines on capital adequacy and exposure limit. For most banks in India, incorporating locally would mean changing the legal structure by transferring assets from the international entity to a local company ,” said a banker. However, foreign banks have made a representation with RBI for a special dispensation to ensure that there is no tax liability arising out of a change in legal structure.

All large foreign banks that are present in India have said they would incorporate locally if they were forced to do so. This is because post-crisis , India is described as a market of strategic importance for most multinationals. Most banks are betting on emerging markets like India to generate lending opportunities.

Meeting financial inclusion targets is likely to be one of the criteria for greater market access. For most foreign banks, their present cost structure does not allow them to engage in very low value business . However, given the size of the market , most banks have indicated that once there is scale, they can come up with technology solutions that will enable them to engage in financial inclusion.