Over the last decade or so, India has seen a growth in SFBs (small finance banks) and payments banks, which, along with increasing digitisation, has extended financial inclusion to underserved and unserved or “unbanked” populations.
While SFBs helped bridge the credit gap and focused on targeted credit expansion in rural areas, payments banks enabled thousands of migrant workers and daily-wage labourers to open small accounts and perform basic digital banking and remittances functions.
While both SFBs and payments banks offer banking services and aim to bridge the financial gap, they have fundamentally different roles, funding structures, and operational capabilities. Here is an explainer on SFBs vs payments banks.
SFBs and payment banks: serving the unserved and underserved
SFBs and payments banks both fall under the purview of the RBI: they are registered with the RBI and are monitored by the RBI. The main difference between SFBs and payments banks is how they operate and who they are targeting. SFBs act like micro finance institutions, providing financial services to unserved, underserved and unbanked individuals and businesses, lending money and providing full credit services. Payments banks, on the other hand, aim at financial inclusion by providing low-cost banking services for people who previously didn’t have any access to formal banks — but, they cannot disburse loans of any kind.
Credit-focused institutions: the purpose and function of SFBs
SFBs can be considered lending or credit-focused institutions. They were conceived as specialised lenders, set up to expand and strengthen financial inclusion by driving savings and credit towards small businesses, farmers, micro-enterprises and underserved communities.
- Lending focus: SFBs are designed to be full-fledged lenders. Their primary activities include accepting deposits, extending loans to underserved borrowers (individuals and businesses), like farmers, self-employed workers and small traders.
- RBI’s Priority Sector Lending mandate: The RBI has outlined strict lending requirement targets for SFBs, with 75% of the bank’s ANBC (Adjusted Net Bank Credit) going to PSL (priority sector lending), which is significantly higher than the 40% requirement for universal banks. This means that SFBs are required to lend at least 75% of their ANBC to PSL activities, covering agriculture, small and marginal farmers, micro enterprises, advances to weaker sections and others. This mandate is to ensure that SFBs stick to their true purpose: serving small borrowers and underserved segments. This is what separates SFBs from commercial banks which engage in safer, higher-ticket urban lending.
- Rural penetration mandate: Another mandate by the RBI is that 25% of an SFB’s branches must be opened in unbanked rural areas. Again, this is to keep SFBs aligned with their original purpose and mission, to push banking infrastructure into regions where conventional banks had historically not penetrated or served.
Deposit-focused institutions: the purpose and function of payments banks
Payments banks on the other hand focus on giving individuals who never had access to traditional banks, a place to put their money. Payments banks are technology-led, low-risk institutions that facilitate payments, remittances and small savings accounts, targeting mainly daily-wage workers, migrant workers, low-income households and first-time users of formal banking services.
- Deposit focus: The primary objective of payments banks was to improve access to deposit accounts, make remittances easier, enable digital payments, and function as a last-mile banking service to the underserved, unserved and previously unbanked. When launched, aggregate deposits were capped at 1 lakh, but this has since been revised upwards. In April 2021, the RBI announced that it increased the maximum end-of-day balance for payment banks to Rs. 2 lakh. The RBI made the move to enable payments banks to cater to the needs of all customers, including MSMEs, small traders and merchants.
- Zero lending capability: The biggest distinction between SFBs and payments banks is that payments banks cannot offer loans or any kind of credit. RBI’s operating guidelines explicitly state that payments banks “cannot undertake lending activities” and therefore cannot extend loans to individuals, businesses or other entities. That means no personal, business, housing, agricultural and MSME loans, and no credit cards or overdraft facilities. Payment banks primarily accept two kinds of deposits (savings and current accounts); and there are no provisions for fixed deposits or recurring deposits, keeping in line with their focus on payments, remittances and small savings. Payments banks have been designed by the RBI to function as low-risk institutions focused on financial inclusion. Since they do not offer loans, they are insulated from credit risk, bad loans and rising non-performing assets (NPAs), which are common challenges that commercial banks face.
- Technology-led: Payments banks rely on a technology-led model, with an emphasis on mobile banking, internet banking, digital onboarding, electronic payments and interoperability. Payments banks can also become the Business Correspondents of traditional banks, building low-cost distribution networks and acting as last-mile banking channels. (A Business Correspondent is an agent of a bank that provides banking services on behalf of that bank, particularly in areas where they don’t operate a full-fledged branch). This allows payments banks to distribute banking products like loans and insurance on behalf of partner institutions, leveraging their digital infrastructure and customer reach to provide last-mile financial services. This technology-first approach reflects RBI’s mission for payments banks: low-cost, digital-first institutions that serve customers everywhere.
Financial inclusion cannot be addressed through a one-size-fits-all approach, which is why both SFBs and payments banks are important. Credit inclusion and payments inclusion are equally necessary, and together, SFBs payments banks have helped bring more people into the fold of formal banking, widening access to financial services across the country. As India’s financial ecosystem continues to mature, these institutions will be an important bridge between mainstream banking and millions of underserved individuals and small businesses.
Sources
Small Finance Banks – Compendium of Guidelines on Financial Inclusion and Development
Operating Guidelines for Payments Banks
Operating Guidelines for Payments Banks
What is a Small Finance Bank (SFB)? Meaning & Products Offered