Banking being a Central subject and co-operatives operating
within a State being a State subject under the Constitution, providing over-riding
effect to the banking laws over the law governing cooperative societies in case
of conflict is a contentious issue. Hence, although regulation of the management
of banks is also essential for proper regulation of banking business (as is
done in the case of banking companies), such powers are not available to the
Reserve Bank. However, for the purpose of providing deposit insurance cover
under the DICGC Act, as stipulated under that Act9, Reserve Bank
has been given the powers (by amending the State laws on cooperatives)10
to issue direction to the Registrar for winding up, reconstruction and supercession
of Board of insured banks when necessary.
9. See Section 2(gg) read with Section 13A and 13C of the DICGC Act.
10. For instance, Section 110A of the Maharastra Cooperative Societies Act,
2.2 Regulation of Banks - Uniform regulations
For the proper regulation of the banking system in the country,
it would be essential to have a more or less uniform regulatory regime for all
kinds of banks irrespective of their constitution as company, co-operative society
or statutory corporation, as these provisions are meant for proper regulation
of the business of banking and not in respect of their constitution as such.
Any regulation on management, in so far as it is essential for proper management
of the business of banking, has to be considered as incidental to the main regulatory
provisions on banking and therefore justified even if it touches the subject
of regulation of co-operatives which is a State subject. In the case of co-operatives
which for any reason do not want to be subject to the discipline of the banking
system, they may be given the option to go out of the system and work as thrift
and credit societies. Those co-operatives, which continue in the banking system,
should be subject to regulation under the Banking Regulation Act on the lines
of the provisions applicable to banking companies.
3. Opting Out of Banking - Thrift and Credit
Banking as defined in Section 5(a) of the Banking Regulation
Act means accepting for the purpose of lending or investment of deposits of
money from the public repayable on demand or otherwise and withdrawable by cheque,
draft, order or otherwise. Thus acceptance of deposit from the public is an
essential feature of banking and if a society does not accept deposit from the
public, it would not be engaged in the business of banking. Hence, societies
not accepting public deposit would be outside the purview of the banking regulation
Act. If any co-operative society does not want to be subjected to the regulatory
regime for banks, such societies may be permitted to go outside the purview
of the Banking Regulation Act by not accepting deposits from public and thereby
ceasing to do banking business as defined in Section 5 (a) of the BR Act. They
may also thereby cease to be part of the clearing, settlement and payment system
3.2 Deposit and public deposit
A relevant question is whether acceptance of deposits from
members has to be treated as public deposits and regulated. Financial Companies
which accept public deposits but are not engaged in banking business are regulated
by the Reserve Bank under the RBI Act11 and other companies by DCA
under the Companies Act12 and Companies (Acceptance of Deposits)
Rules made thereunder.
Deposit or public deposit is not defined in the Banking Regulation
Act. In the RBI Act "deposit" is defined in Section 45 I (bb) (for the purpose
of regulation of NBFCs and UIBs) to cover all kinds of receipts of money including
loans but excluding share capital, security deposit, advance for purchase of
goods etc. and loans from banks, financial institutions etc. "Public deposit"
is not defined in the RBI Act. However, there is a definition of "public deposit"
in the Non-Banking Financial Companies Acceptance of Public Deposits (Reserve
Bank) Directions, 199813 which provides that all deposits except
11. See Chapter IIIB of the RBI Act.
12. See Sections 58A, 58AA and 58AAA.
13. Para 2(1)(xi).
14. Rule 2(b)(ix).
15. Guidelines for Nidhis have been issued vide Notification-
of deposits specified therein are public deposits. These directions
specifically exempt amounts received from a person who at the time of receipt
of the amount was a Director of a company or any amount received from its shareholders
by a private company from the definition of public deposit. Similar provisions
exist in the Companies (Acceptance of Deposits) Rules14 also. However
deposits of members of public companies are not exempted from the definition
of public deposits. In any case, mere acceptance of public deposits would not
make co-operative society a bank just as companies accepting public deposits
without having other features of banking are not banks and are regulated separately
as non- banking companies.
3.3 Nidhis and thrift societies
Although, deposit acceptance from a limited number of members
may not be problematic as the members themselves will be managing the societies,
its impact when the numbers and the amount of deposit increase will have to
be considered. If the society ceases to be a bank and has no linkages with other
banks, failure of a society may not lead to systemic risk for banks or the banking
system. However, when large number of members and large amounts are involved,
there would be a wider impact of the failure of such societies and it may lead
to hue and cry on the ground of affecting public interest. A case in point is
that of Nidhis or Mutual benefit companies which accept deposits only from members,
but, hold very huge deposits. These public companies (Nidhis/mutal benefit companies
) are not engaged in banking business but accept deposits from the members and
lend to their members. They are not subject to regulation under the RBI Act
or the Companies (Acceptance of Deposit) Rules but are registered under section
620A of the Companies Act with DCA. The failure of some of these Nidhis and
the consequent uproar has resulted in the Government of India coming out with
detailed guidelines15 for the operation of the Nidhis. In the same
manner, it will be for the State Government to regulate the societies which
are not engaged in banking and accept deposits only from members and are outside
the purview of banking regulation.
3.4 Membership rights
The societies doing business only with their members are considered
to be able to manage their own affairs as the society is managed by them and
public intervention may not be necessary. However, many societies accept deposits
from the public enrolling the depositors as nominal members who may not be eligible
to full membership rights and therefore, having no effective control over the
management of the society. While allowing societies to go outside the Banking
Regulation Act by restricting deposits to member deposits, it may be insisted
that such members may have full and equal rights in participation of the affairs
of the societies.
3.5 Consequences of opting out
The decision of a co-operative bank to opt out of the banking
system may lead to certain consequences. These may relate to (i) use of the
term bank, banker or banking in the name16 (ii) losing the status
of bank and the consequent ineligibility17 for insurance cover under
the DICGC Act, (iii) finance/refinance from other credit institutions/banks,
(iv) acceptance of deposits withdrawble by cheques18 and (v) loss
of eligibility to participate in payment and settlement systems of banks.
Section 7 of the Banking Regulation Act prohibits the use of
the term "bank, banker or banking" by a co-operative society other than a co-operative
bank in its name or in connection with business and no co-operative society
shall carry on the business of banking without using any of such words as part
of its name. A co-operative bank as defined in sec 5(cci) of B R Act (AACS)
is a primary co-operative bank or Central Co-operative bank or a State co-operative
bank. However, a
16. Prohibition was Section 7, BR Act read with Section 56.
17. Section 2(gg) of DICGC Act.
18. Section 49A, BR Act.
19. The States of AP, Karnataka, MP, Uttaranchal, Orissa.
20. See the judgement of Supreme Court in Apex Bank Case AIR 2004 SC 141.
primary credit society, a co-operative society formed for the
protection of mutual interest of cooperative banks, a co-operative land mortgage
bank and co-operative societies formed by employees of banks are exempted. Further,
as the B R Act as such does not apply to a primary agricultural credit society,
a view can be taken that these provisions do not apply to such societies.
3.5.2 Issuance of cheque
Section 49A of the Banking Regulation Act restricts acceptance
of deposits by any person other than a banking company, Reserve Bank, State
Bank or any other banking institution, firm or other person notified by the
Central Government. However, a primary credit society is exempted from these
4.1 Mutually Aided Co-operative Societies
The dependence of co-operative societies on Government and
the consequent rigors of regulation by Government on co-operative societies
has led to the enactment of Mutually Aided Co-operative Societies Act or Self
Financing Co-operative Societies Act in several states19. In the
societies under the enactments, , Government capital is prohibited and the management
of the societies is vested in the Board of Directors and the policies are decided
by the General Body subject to limited regulatory powers exercised by the Registrar
by way of registration of society, registration of bye laws, etc. These State
enactments are in addition to the existing State laws on co-operative societies
and provides alternative legal framework for co-operative societies. However,
in some States (like Orissa), the State enactments provide for creation of a
cooperative as distinguished from a co-operative society .This could lead to
the position that the entity in question is not co-operative society and the
enactment concerned is not a State law on co-operative societies, and that would
render the co-operative ineligible to be licenced as a cooperative bank under
section 22 of the BR Act (AACS)20.
4.2.1 Migrating to MACS
The enactments providing for Mutually Aided Co-operative Societies also provide
for conversion of existing co-operative societies into MACS by repaying the
Government capital, if any, and amending the bye laws prohibiting holding of
Government capital. As these co-operatives are organized based on the principles
of thrift and credit and self reliance as member- driven entities, existing
co-operative societies may be encouraged to move out to the MACS regime. This
would help such societies to manage their affairs with a certain level of autonomy.
If some of the cooperative banks stop accepting non-member deposits and become
thrift and credit societies, it will be possible for such societies also to
convert into MACS. As some MACS Acts provide for acceptance of deposits from
other than members , this may be restricted to members' deposits except in the
case of any banking societies.
4.2.2 MACS and banking
If a MACS wants to engage in the business of banking, such
society should be subjected to the provisions of the Banking Regulation Act
as applicable to other banks. Currently, those MACS which call themselves as
co-operative societies may be eligible, for approaching the Bank for a licence
to do banking business as they are cooperative societies registered under a
State law on co-operative societies. But, some of these statutes do not provide
for conferring powers on the Reserve Bank for directing winding up etc. of insured
banks as provided in the DICGC Act and therefore, the societies registered under
those statutes would not fall within the definition of eligible co-operative
bank21 under that Act for the purpose of insurance cover. MACS can,
however, be recommended as a prototype for legislation for member driven co-operative
societies on thrift and credit basis with some caveats. A MACS may not be permitted
to undertake banking business unless they come within the purview of the regulatory
discipline as applicable to other cooperative banks.
21. As defined in Section 2(gg) of the DICGC Act.
22. Report of Madhav Rao Committee (1999), pp. 90-109 and 210-217.
4.3 Licencing of Co-operative banks
In the co-operative banking hierarchy of Primary, Central and
State co-operative banks, several banks including CCBs are not licenced. Currently,
applications of several CCBs are pending with the Bank for licence. The Bank
is neither allowing nor rejecting them as they are not currently eligible for
licence and if licence is rejected, it may affect the system of co-operative
in the State. If, such cooperative banks are not able to improve the financial
position over a definite time-frame, it is prudent to reject licence. It would
be possible to allow such societies to go outside the purview of the BR Act
and work as thrift and credit societies, if they choose so.
5. Legislative reforms and other measures
5.1 Madhav Rao Committee Recommendations
Madhav Rao Committee has made certain recommendations22
for legislative reforms which include -
- Amending Sections 5(ccv) and 22 of BR Act (AACS) to stop automatic conversion
of primary credit societies into primary co-operative banks
- Amending Section 5 (ccvi) of BR Act (AACS) to define a primary credit society
as a cooperative society whose primary object is to provide financial accommodation
to members alone.
- Amending Section 49 A of the Banking Regulation Act (AACS) to prohibit
acceptance of deposits withdrawable by cheques by primary credit societies
- Amending section 7 of BR Act (AACS) to provide that only such of the primary
cooperative societies which have been specifically licenced to carry on banking
business should be allowed the use of the word "bank/banker/ banking".
- Amending section 30 of BR Act (AACS) for appointment of Chartered Accountants
approved by the Reserve Bank as auditors of urban co-operative banks.
- Amending Section 36 of BR Act (AACS) to require urban co-operative banks
to make changes in management as required by Reserve Bank.
- Amending Part II A and Part II C of BR Act on control over management and
acquisition of undertaking respectively to make these applicable to co-operative
- Amending Section 45 of the BR Act (AACS) to further extend its application
to co-operative banks
- Amending State Co-operative Societies Acts and Multi State Co-operative
Societies Act to confer powers on the Reserve Bank in respect of all issues
relating to banking, acquisition of assets incidental to carrying on banking
functions, policy regarding remission of debts, audit, change of management
and appointment of CEO, appointment of Administrator and other banking related
functions to be notified by the Reserve Bank, and not to issue licence or
branch licence to any urban co-operative bank unless the Acts are so modified.
The above reforms which require amendments to the Banking Regulation
Act and Co-operative Societies Acts may be undertaken in due course. There is
an urgent need to enact such legislation broadly on the lines of the Banking
Regulation (Amendment) and Miscellaneous Provisions Bill, 2003 (lapsed) which
provided for wide- ranging amendments to B R Act to increase the minimum capital
requirements of co-op. banks and to extend most of its provisions applicable
to companies to co-operative banks.
5.2 Interim measures
As legislative amendments stated above would take their own
time, in the meantime, we may look for other measures which may be undertaken
at the administrative level. Under Section 58 of the Reserve Bank of India Act,
Reserve Bank may make regulations for regulation of Clearing, and Payment and
Settlement Systems. The relevant provisions of Section 58 (2) are as under:
(p) the regulation of clearing-houses for banks (including post office savings
"(pp) the regulation of fund transfer through electronic means
between the banks or between the banks and other financial institutions referred
to in clause (c) of section 45-I, including the laying down of the conditions
subject to which banks and other financial institutions shall participate in
such fund transfers, the manner of such fund transfers and the right and obligations
of the participants in such fund transfers".
These provisions empower the Reserve Bank to make regulations
for regulation of the clearing houses for banks and also to make regulations
for regulation of electronic fund transfer for banks and financial institutions.
In such regulations, the Bank may lay down the conditions subject to which banks
and other financial institutions shall participate in clearing or fund transfers
thereby effectively restraining ineligible banks from participating in the system.
Primary credit societies (which have not graduated to banks) will not be eligible
to participate in the Payment and Settlement Systems of banks, and any cheques,
if drawn on them will not be getting currency into the banking system and they
will only be like withdrawal slips or payment orders which can be encashed at
the respective society counters only. Further, by stipulating suitable conditions
for joining the Payment and Settlement Systems, weak banks can be compelled
either to improve their systems and be in the banking system or to go outside
the banking system, back to the role of credit and thrift societies. The kinds
of conditions and restrictions which can be imposed in this regard have to be
5.3 Recapitalisation scheme
Any scheme for recapitalising the co-operatives may stipulate
as terms and conditions of such scheme that certain measures of discipline should
be followed for such recapitalisation. These terms and conditions can be adopted
by agreement among the parties concerned without waiting for statutory changes.