Legal Framework of Regulation of Banks: Jaiib/DBF Paper 3 (Module A) Unit-1

Legal Framework of Regulation of Banks: Jaiib/DBF Paper 3 (Module A) Unit-1

Dear bankers,

As we all know that  is Operational Aspects of Loan Accounts for JAIIB Exam. JAIIB exam conducted twice in a year. So, here we are providing the Legal Framework of Regulation of Banks (Unit-1), Regulations and Compliance (Module A), Legal & Regulatory Aspects of Banking -Paper 3.

♦Business of Banking

  • Banking: Banking is defined in section 5(b) of the Banking Regulation Act as the acceptance of deposits of money from the public for the purpose of lending or investment.
  • Deposits Withdrawable by cheque: Under section 49A of the Banking Regulation Act, no organization other than a bank is authorized to accept deposits withdrawable by Cheque.
  • Acceptance of Deposits by Non-banking entities: The Reserve Bank of India (the Bank), having considered it necessary in the public interest and being satisfied that for the purpose of enabling the Bank to regulate the credit system to the advantage of the country, it is necessary to give the directions set out below, hereby, in exercise of the powers conferred by sections 45J, 45JA, 45K, 45L and 45MA of the Reserve Bank of India Act, 1934 (Act 2 of 1934) (the RBI Act) and of all the powers enabling it in this behalf, and in supersession of the earlier directions contained in Notification No.DFC.118/DG (SPT)-98 dated January 31, 1998 issues the following Non-Banking Financial Companies Acceptance of Public Deposits (Reserve Bank) Directions, 2016 (the Directions) applicable to every non-banking financial company hereinafter specified.
  • Licence for Banking:  In India, it is necessary to have a licence from the RBI under Section 22 of the Banking Regulation Act for commencing or carrying on the business of banking.
  • Permitted Business: Main business of banks is acceptance of deposits and lending, the banks have now spread their wings far and wide into many allied and even unrelated activities. The forms of business permissible under section 6(1) of the Banking Regulation Act, apart from banking business,
  1. Borrowing,  raising or taking up of money
  2. Lending or advancing of money either against security or without security
  3. Drawing, making, accepting, discounting, buying, selling, collecting and dealing in bills of exchange.
  4. Granting and issuing of letter of credit
  5. Buying and selling of foreign exchange and foreign bank notes
  6. Negotiating of loans and advances
  7. Providing of safe deposit
  8. Undertake and execute trust ETC, ETC
  • Prohibited Business: Section 8 of the Banking Regulation Act prohibits a banking company from engaging directly or indirectly in trading activities and undertaking trading risk. Buying or selling or bartering of goods directly or indirectly is prohibited.

♦Constitution of Banks

Banks in India fall under one of the following categories:

  • Body corporate constituted under a special statute;
  • Company registered under Companies Act, 1956 / foreign company
  • Cooperative Society registered under a central and state enactment on cooperative societies.

Public sector bank

A Public Sector bank is one in which, the Government of India holds a majority stake. These banks are constituted under special statue. The State Bank of India was constituted under The State Bank of India Act, 1955. The six subsidiaries of State Bank of India were constituted under the State Bank of India (Subsidiary Banks) Act, 1959. The government further nationalized 14 commercial banks through Banking Companies (Acquisition and Transfer of Undertakings) Ordinance, 1969 on 19th July 1969. It later nationalized six more commercial banks through Banking Companies (Acquisition and Transfer of Undertakings) Act, 1980 on 15th April 1980. The State Banks (Repeal and Amendment) Bill 2017 merges five associate banks of SBI and Bharatiya Mahila Bank with SBI.

Banking Companies

A banking company, as defined in section 5(c) of the Banking Regulation Act is a company which transacts the business of banking. Such company may be a company constituted under section 3 of the Companies Act, 1956 or incorporated under the Companies Act, 2013 or foreign company within the meaning of section 591 (u/s 379 of companies Act, 2013) of that Act. All the private sector banks are banking companies. These banks are governed by the Companies Act, 1956 or Companies Act 2013 in respect of their constitution and by the Banking regulation Act.

Co-operative bank

A Cooperative bank is essentially a cooperative Society. There are two types of Co-operative banks: Multi-state cooperative society and State Cooperative society. Multi-state cooperative societies are registered under the cooperative society’s act of the Centre. State cooperative societies are registered under the state cooperative act. The Banking laws (Application to Co-operative Societies) Act, 1956 extended certain provisions of the Banking Regulation Act and Reserve Bank of India Act to the Co-operative banking sector.

♦Reserve Bank of India Act 1934

The Reserve Bank of India Act 1934 is an Act to constitute a Reserve Bank of India (RBI) and provide the central bank (RBI) with various powers to act as the central bank of India. RBI Act 1934.

There are total 61 Sections in the RBI Act 1934.

Some important sections are listed below:

  • Section 3: Establishment and incorporation of Reserve Bank.
  • Section 4: Capital of the Bank. The capital of the Bank shall be five crores of rupees.
  • Section 6: Establishment of Offices, branches and agencies
  • Section 8: The composition of central board of Reserve Bank of India
  • Section 17: The business that RBI can carry out
  • Section 18: Provides for direct discount of bills of exchange and promissory notes
  • Section 20: Obligation of the Bank to transact Government business.
  • Section 21: Bank to have the right to transact Government business in India.
  • Section 21A: Bank to transact Government business of States on agreement.
  • Section 22: Right to issue bank notes.
  • Section 24: Denominations of notes. (1) Subject to the provisions of sub-section (2), bank notes shall be of the denominational values of two rupees, five rupees, ten rupees, twenty rupees, fifty rupees, one hundred rupees, five hundred rupees, one thousand rupees, five thousand rupees and ten thousand rupees or of such other denominational values, not exceeding ten thousand rupees.
  • Section 27: Re-issue of notes. The Bank shall not re-issue bank notes which are torn, defaced or excessively soiled.
  • Section 26 (1): Defines legal tender of notes
  • Section 26(2): Withdrawal of legal tender of notes
  • Section 42: Cash reserves of scheduled banks to be kept with the Bank.
  • Section 45(U): Defines repo, reverse repo, derivative, money market instruments and securities.

♦Banking Regulation Act, 1949

The Banking Regulation Act 1949 is a legislation in India that regulates all banking firms in India. Initially, the law was applicable only to banking companies. But, 1965 it was amended to make it applicable to cooperative banks and to introduce other changes.

There are total 55 Sections in the Banking Regulation Act, 1949. Some important sections are listed below:

  • Section 18: Cash reserve
  • Section 17: Reserve fund
  • Section 8: Prohibition on trading
  • Section 9: Disposal of Non Banking assets
  • Section 6: Business allowed for a banking company
  • Section 10BB: Power of Reserve Bank to appoint [chairman of the Board of directors appointed on a whole-time basis or a managing director] of a banking company.
  • Section 11: Requirement as to minimum paid-up capital and reserves
  • Section 12:  Regulation of paid-up capital, subscribed capital and authorised capital and voting rights of shareholders
  • Section 21: Power of Reserve Bank to control advances by banking companies
  • Section 21A: Rates of interest charged by banking companies
  • Section 22(1): Licensing of banking companies
  • Section 23: Restrictions on opening of new, and transfer of existing, places of business
  • Section 29: Accounts and balance-sheet
  • Section 30: Auditing of Banking Company
  • Section 36AE : Power of Central Government to acquire undertakings of banking companies in certain cases
  • Section 44A: Procedure for amalgamation of banking companies.
  1. Amalgamation of two banking companies is under the provisions of Section 44A of the Banking Regulation Act, 1949.
  2. Amalgamation of a banking company with a non-banking company is governed by sections 391 to 394 of the Companies Act, 1956.
  • Section 47A: Power of Reserve Bank to impose penalty
  • Section 49A: Restriction on acceptance of deposits withdrawable by cheque.

♦RBI as a Central Bank and Regulator of Banks

The Reserve Bank was constituted under Section 3 of the RBI Act, 1934 for taking over the management of currency from the central government and carrying on the business of banking in accordance with the provisions of the Act.

The Major powers of the RBI in the different roles as regulator and supervisor can be summed up as under:

  • Power to issue banking licence
  • Power of appointment and removal of banking boards/ Personnel
  • Power to regulate the business of banks
  • Power to gives directions
  • Power to inspect and supervise banks
  • Power regarding audit of banks
  • Power to collect, collate and furnish credit information
  • Power to impose penalties

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