IFSC banking units (IBUs) were in news recently and can be important for your upcoming exams. In this article we will discuss about International Financial Services Centres (IFSCs), banking units that come up in such centres and also look into RBI’s framework for regulating IBUs.

On October 27, 2015, Yes
Bank started operations from its IFSC banking unit at the Gujarat International
Finance Tec-City (GIFT), which is India’s first IFSC.  While Yes Bank is the first to start business
at GIFT City, the RBI has granted approval to four other banks, namely State
Bank of India, IndusInd Bank, Federal Bank and IDBI Bank, to commence IBU
operations soon.

What is an IFSC?

An IFSC deals with flow
of money, provides financial products and services to across-the-border customers.
Though this financial hub is established within the country, the regulations that
apply to it are flexible and different from the rest of the country. GIFT City will
target 8-10 percent of financial services and its core activities would include
offshore banking, insurance, assurance and reinsurance, regional financial
exchanges and back offices.

Need and advantages

India’s financial regulatory
structure is deemed to be less conducive for foreign investment, thereby
resulting in revenue loss as a huge amount of trading in rupee goes out of the
country. Moreover, in the absence of an IFSC, global financial services business
is lost to countries like Singapore, London and Dubai as they have solid and reasonable
financial regulations.

Hence, the need for an
IFSC that will facilitate growth of the financial sector by containing the
revenue in India, enable foreign entities to invest in Indian firms, generate
employment for millions, among other advantages.

Establishment of GIFT
City is expected to increase the revenue by capturing approximately Rs.1,334
crore per day or Rs.2 lakh crore per year worth of trading in rupee derivatives
that currently goes to other countries.

Eligibility criteria for IBUs

As per the RBI, Indian
banks permitted to deal in foreign exchange and foreign banks that already have
an Indian presence can set up one IBU in centres such as GIFT City. The parent
banks needs to have set up a minimum capital of $20 million. However, IBUs are
exempt from maintaining CRR and SLR with the central bank and from priority sector
lending. While they can raise funds only from NRIs, funds can be deployed for both
resident Indians and NRIs.

Gamut of services

–
IBUs can undertake transactions with
non-resident entities.

–
All transactions shall be in currencies other than
the Indian rupee.

–
They can deal with wholly-owned subsidiaries and
joint ventures of Indian companies registered overseas.

–
IBUs can have borrowed funds in foreign currency,
which have original maturity of over a year.

–
They are not empowered to open current or
savings account or issue bearer instruments/cheques. All payment transaction must
be undertaken through bank transfers.

–
With approval of their board of directors, IBUs
can deal in structured products and derivatives.

–
IBUs can factor export receivables so as to enable
exporters to improve cash flow and meet capital requirements.

Other regulatory norms

– IBUs need to take
prudential regulations like adopting credit risk management policy, liquidity and
interest rate risk management policies as laid down by the RBI.

– They have to follow KYC
norms rigorously as part of anti-money laundering measures and cannot carry out
cash transactions.

– They would have to
maintain nostro accounts (an account maintained in a foreign country by a
domestic bank denominated in that country’s currency) with correspondent banks
which would be distinct from nostro accounts maintained by other branches of
that foreign bank in India.

– Deposits of IBUs will not
be applicable for insurance by the DICGC. Further, the RBI will neither act as
the lender of the last resort for IBUs nor will it provide financial support to IBUs. The parent bank has to provide any kind of monetary support.

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