Understanding RBI’s Four-Layer Framework for NBFCs

The Reserve Bank of India (RBI) has established a four-layered regulatory framework for Non-Banking Financial Company (NBFCs) to enhance risk management, ensure financial stability, and address systemic risks. These layers—Base, Middle, Upper, and Top—categorize NBFCs based on their size, activity, and potential impact on the financial system. 

The Base Layer comprises smaller NBFCs with minimal regulatory requirements, such as non-deposit-taking NBFCs with assets below ₹1,000 crores. The Middle Layer includes larger non-deposit-taking NBFCs and all deposit-taking NBFCs that must follow stricter guidelines on governance, risk assessment, and capital adequacy. The Upper Layer consists of systemically significant NBFCs identified by the RBI as crucial to the financial ecosystem. 

These entities are subjected to more robust supervision and additional compliance measures, including enhanced capital requirements and frequent reporting. The Top Layer, although currently empty, is reserved for NBFCs exhibiting extreme risk factors. If an NBFC from the Upper Layer demonstrates higher risk exposure, the RBI may classify it into the Top Layer, subjecting it to the most stringent oversight and regulatory intervention. 

This layered approach enables the RBI to adopt a risk-based regulatory model, focusing more on entities with higher potential risks while offering lighter compliance for smaller, low-risk NBFCs. By tailoring regulations to different NBFC categories, the RBI aims to ensure that NBFCs operate within a secure framework while supporting India’s evolving financial landscape. 

This classification also improves transparency, promotes stronger governance practices, and ensures better protection for customers and investors. Companies must align with these guidelines to avoid penalties and ensure long-term business sustainability. The four-layer structure reflects the RBI’s ongoing commitment to strengthen the NBFC sector and safeguard the country’s financial stability.

what are the 4 layers of nbfc as per rbi guideline - vakilkaro

Introduction

The Reserve Bank of India (RBI) introduced a revised regulatory framework for Non-Banking Financial Companies (NBFCs) in India, which divides NBFCs into four distinct layers—Base Layer, Middle Layer, Upper Layer, and Top Layer. These layers were introduced as part of RBI’s scale-based regulation (SBR) to improve the financial stability of NBFCs and align their supervision with the size, risk, and complexity of operations.

This comprehensive blog will explain each layer, the classification criteria, the key regulations applicable, and how these layers impact the NBFC sector.

The Reserve Bank of India (RBI) has introduced a Scale-Based Regulation (SBR) framework, classifying Non-Banking Financial Companies (NBFCs) into four layers: Base Layer, Middle Layer, Upper Layer, and Top Layer. These layers are designed to regulate NBFCs based on their size, risk, and complexity.

  1. Base Layer: Small NBFCs with minimal operations, subject to lighter regulatory norms.
  2. Middle Layer: Medium-sized NBFCs with more complex operations, requiring stricter compliance.
  3. Upper Layer: Large NBFCs with significant national impact, facing rigorous regulatory standards.
  4. Top Layer: Systemically important NBFCs with major economic influence, under the strictest supervision.

This classification helps ensure financial stability and allows the RBI to apply differentiated regulations, making it easier for smaller NBFCs to grow while maintaining stricter oversight for larger, more complex institutions.

Introduction to RBI’s Scale-Based Regulation for NBFCs

The RBI introduced the scale-based regulation framework for NBFCs in October 2021 to strengthen their governance and risk management. Given the diverse nature of NBFCs—ranging from microfinance institutions and asset finance companies to housing finance and infrastructure finance companies—RBI recognized that a one-size-fits-all approach to regulation would be ineffective. The new framework ensures that larger and riskier NBFCs are subject to stricter regulations compared to smaller ones.

The framework classifies NBFCs into four layers:

  1. Base Layer (NBFC-BL)
  2. Middle Layer (NBFC-ML)
  3. Upper Layer (NBFC-UL)
  4. Top Layer (NBFC-TL)

Each layer has specific criteria, and the regulatory requirements increase as you move up the layers.

1. Base Layer (NBFC-BL)

The Base Layer represents the smallest NBFCs that pose minimal risk to the financial system. These NBFCs are subject to relatively lighter regulation compared to others.

NBFCs under Base Layer:

  • NBFC-P2P (Peer-to-Peer Lending Platforms)
  • NBFC-AA (Account Aggregators)
  • NBFCs not accepting or accessing public funds
  • Non-deposit-taking NBFCs with an asset size below ₹1,000 crore

Key Regulations for the Base Layer:

  • Minimum Net Owned Funds (NOF): ₹2 Crore
  • Leverage Ratio: Limited to 7 times the capital
  • Basic Corporate Governance: Board structure, risk management policies, and internal audits
  • Adherence to Fair Practices Code

While these NBFCs have simpler compliance requirements, they are still expected to maintain basic risk management practices to ensure stability and protect customer interests.

WHAT ARE THE 4 LAYERS OF NBFC AS PER RBI GUIDELINES

2. Middle Layer (NBFC-ML)

The Middle Layer comprises NBFCs that have a moderate level of risk. These NBFCs are more significant in terms of size and complexity compared to those in the Base Layer.

NBFCs under Middle Layer:

  • Deposit-taking NBFCs
  • Non-deposit-taking NBFCs with an asset size above ₹1,000 crore
  • Housing Finance Companies (HFCs)
  • Infrastructure Finance Companies (IFCs)
  • NBFC-MFIs (Microfinance Institutions)

Key Regulations for the Middle Layer:

  • Net Owned Funds: Higher NOF requirement compared to the Base Layer
  • Corporate Governance Standards: Mandatory formation of key committees—Audit Committee, Risk Management Committee, and Nomination and Remuneration Committee
  • Capital Adequacy Ratio (CAR): 15% minimum
  • Appointment of Statutory Auditors: Rotation of auditors every three years
  • Regulatory Filings and Disclosures: Quarterly and annual returns to the RBI

The Middle Layer is subject to stricter regulations, especially in areas like capital adequacy, risk management, and customer grievance redressal mechanisms.

3. Upper Layer (NBFC-UL)

The Upper Layer is the most significant category after the Top Layer, comprising NBFCs that pose systemic risks to the financial sector due to their large size, interconnectedness, and complexity. These NBFCs are identified based on certain parameters set by the RBI.

NBFCs under Upper Layer:

  • Identified annually by the RBI based on their size and systemic importance
  • Generally, large housing finance companies, infrastructure finance companies, and investment NBFCs

Key Regulations for the Upper Layer:

  • Higher Capital Requirements: Minimum CAR of 15%, with a focus on Tier I capital
  • Concentration Limits: Restrictions on exposure to single borrowers and groups
  • Mandatory Implementation of Core Banking Solutions (CBS): To ensure technological integration and reduce risks
  • Enhanced Disclosure Requirements: Comprehensive public disclosures on risk exposure, corporate governance, and capital adequacy
  • Risk Management Framework: Advanced risk management systems covering credit risk, operational risk, market risk, and liquidity risk

NBFCs in this layer are closely monitored by the RBI to prevent systemic risks and ensure that they adhere to best practices in corporate governance and financial management.

4. Top Layer (NBFC-TL)

The Top Layer is reserved for NBFCs that the RBI perceives as posing the highest risk to the financial system. While this layer may remain empty in normal circumstances, the RBI may place NBFCs in this layer if they exhibit risky behavior or pose potential threats.

NBFCs under Top Layer:

  • Selected from the Upper Layer if they show significant signs of risk
  • Generally, no NBFC is pre-classified in this layer; it is activated only under exceptional circumstances

Key Regulations for the Top Layer:

  • Stricter Capital Requirements: Higher minimum capital adequacy ratio
  • Frequent Inspections and Audits: Enhanced supervision by the RBI
  • Additional Restrictions on Business Operations: To mitigate risks and reduce systemic impact
  • Mandatory Corrective Actions: If any signs of financial instability are detected

The Top Layer acts as a buffer for the financial system, ensuring that any potential systemic risks are mitigated promptly.

Classification Criteria for NBFCs

The classification of NBFCs into these four layers is not random but based on several parameters, including:

  1. Asset Size: Total assets on the balance sheet
  2. Interconnectedness: The level of linkages with other financial institutions
  3. Complexity of Operations: Types of financial services offered and risk exposure
  4. Systemic Importance: Whether the failure of the NBFC could affect the broader financial system

Key Implications of the Four-Layered Framework

  1. Better Risk Management: The scale-based regulation ensures that larger NBFCs with higher risks are more closely monitored.
  2. Enhanced Governance: Stricter corporate governance norms improve accountability and transparency.
  3. Increased Compliance Costs: For NBFCs in the Middle, Upper, and Top Layers, compliance requirements can significantly increase operational costs.
  4. Improved Financial Stability: The framework strengthens the overall financial ecosystem by ensuring that NBFCs maintain adequate capital and adopt robust risk management practices.

Challenges of the Four-Layer Structure

  1. Increased Regulatory Burden: Compliance can be challenging, especially for NBFCs transitioning from the Base to Middle or Upper Layers.
  2. High Capital Requirements: Meeting the minimum capital adequacy ratio can strain smaller NBFCs.
  3. Technological Upgradation: The mandatory implementation of Core Banking Solutions for Upper Layer NBFCs requires significant investment in technology.
  4. Evolving Regulatory Landscape: Keeping up with changes in regulations and adapting to new requirements is a continuous challenge for NBFCs.

Conclusion

The RBI’s four-layer framework for NBFCs represents a significant step toward strengthening the sector’s stability and governance. By categorizing NBFCs into Base, Middle, Upper, and Top Layers, the RBI ensures that regulatory requirements are proportionate to the size, complexity, and risk associated with each entity. While this framework imposes additional compliance responsibilities on larger NBFCs, it also enhances their resilience and reduces systemic risks.

For NBFCs aiming for long-term success, it is essential to understand which layer they fall under and implement the necessary governance and risk management practices. Adopting a proactive approach to compliance and risk management will help NBFCs navigate these regulations and thrive in India’s dynamic financial sector.

Why Choose VakilKaro for Understanding and Compliance with RBI’s Four-Layer NBFC Framework?

VakilKaro stands out as a trusted partner for NBFC compliance, offering in-depth expertise in navigating the complex RBI guidelines for the four-layer NBFC framework. Our team of financial and legal professionals ensures you fully understand your NBFC’s classification—whether in the Base, Middle, Upper, or Top Layer—and comply with the corresponding regulatory requirements. From documentation, governance policies, and risk management strategies to maintaining capital adequacy and periodic reporting, VakilKaro provides end-to-end assistance. With a client-centric approach, personalized solutions, and seamless support, we help safeguard your NBFC’s operations, ensuring compliance and long-term growth within India’s evolving financial landscape.

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