Currently, there are 224 microfinance institutions in India, spread across 21 states and union territories. Microfinance institutions (MFIs) have become a cornerstone of financial inclusion in India, offering critical financial services to the economically weaker sections of society. These institutes were set up with the primary aim of providing financial services to underserved populations, low-income individuals, and small businesses to help them escape the web of poverty. These institutions often step in where traditional banks hesitate, primarily due to the high risk and low returns associated with lending to low-income groups. Registering a Microfinance Company in India is a simple and quick process. Before registering it, it is important to understand the advantages and disadvantages of a microfinance company in India.
In this blog, we will explore both the advantages and disadvantages of registering a microfinance company in India, giving a well-rounded view of the benefits, risks, and regulatory nuances involved.
What is a Microfinance Company?
A Microfinance Company is a type of Non-Banking Financial Company (NBFC) that offers small-ticket loans (usually below ₹1 lakh) to individuals and small businesses who lack access to traditional banking facilities. The primary clientele includes self-employed individuals, rural entrepreneurs, women, and small-scale farmers.
Who Regulates Microfinance Companies in India?
Microfinance Companies in India are regulated by the Reserve Bank of India (RBI) under the framework for NBFC-MFIs. According to the latest RBI guidelines, a company must:
- Be registered as an NBFC-MFI to lend more than 50% of its loan portfolio to low-income households.
- Maintain a minimum Net Owned Fund (NOF) of ₹5 crore (₹2 crore for the North Eastern Region).
- Comply with a defined code of conduct and fair practices code.
Advantages of Registering a Microfinance Company
Registering a microfinance company under RBI regulation ensures credibility, financial discipline, and market access. The main advantages are:
1. Access to Funding and Investment
Once a microfinance company is registered, it can access:
- Bank loans
- NBFC and mutual fund investments
- External Commercial Borrowings (ECBs)
- Government grants and schemes
- Foreign Direct Investment (FDI) under the automatic route, subject to compliance)
2. Financial Inclusion and Social Impact
Microfinance companies play a critical role in driving financial inclusion by:
- Providing microcredit to unbanked populations
- Empowering women entrepreneurs
- Facilitating rural development
- Supporting livelihood creation.
3. Business Scalability and Expansion
Registered MFIs benefit from:
- Market reputation and investor trust
- Structured processes and defined governance
- Technology integration
- Multi-state expansion under a uniform legal framework
4. Eligibility for Government Schemes and Priority Sector Lending
Registered microfinance companies often partner with banks under the Priority Sector Lending (PSL) norms. This encourages banks to lend to MFIs at concessional rates. Additionally, MFIs may benefit from:
- Credit guarantee schemes
- Mudra funding through refinance
- Women-centric microloan programs
5. Risk Diversification and Loan Portfolio Security
In order to maintain their financial stability, protect borrowers, and uphold the integrity of the microfinance industry, regulated MFIs are implementing policies that improve risk diversification and guarantee loan portfolio security. Diversification allows for mitigating the credit risks, and the MFIs often lend loans to those individuals and organizations that may not have access to traditional banking services.
6. Professional Governance and Accountability
RBI has mandated compliance requirements to push MFIs to adopt corporate governance norms, independent audits, internal controls, and Board oversight, which promotes ethical lending and enhances customer confidence in the institute.
7. Foreign Investment Opportunities
With appropriate registration, MFIs can raise capital from foreign venture capital firms and impact investors. The FDI policy allows 100% investment under the automatic route, provided the company adheres to minimum capitalization norms and uses funds for microfinance activities.
8. Partnership with FinTechs and SHGs
A registered microfinance company can collaborate with:
- FinTech companies for digital onboarding, e-KYC, and mobile lending
- Self-Help Groups (SHGs) and Microfinance Institutions-Network (MFIN) for ground-level outreach
Such partnerships enable cost-effective last-mile delivery.
9. Tax and Regulatory Benefits
Registered companies are entitled to tax deductions for business expenses under Section 115BA and Section 115BAA of the Income Tax Act, 1961, as well as bad debts and depreciation on assets like machinery and equipment. They can also apply for exemptions under certain state microfinance promotion laws, such as Startup India Tax Exemptions, which provides 100% tax exemption on profits for three consecutive years within a block of seven years.
Disadvantages of Registering a Microfinance Company
Despite the numerous benefits, registering a microfinance company also involves certain constraints, particularly for new or small-scale operators, such as:
1. High Initial Capital Requirement
The most significant entry barrier is the Net Owned Fund (NOF) requirement of ₹5 crore (₹2 crore for the North East). This restricts the ability of grassroots entrepreneurs and NGOs to convert into NBFC-MFIs.
2. Regulatory Burden and Compliance Costs
RBI registration demands ongoing compliance with:
- Monthly and quarterly filings
- Statutory audits and inspections
- Risk management and asset classification norms
- Fair Practices Code by RBI
- Loan caps and interest rate guidelines
Smaller MFIs often struggle with the cost and complexity of maintaining compliance with the mandatory requirements.
3. Interest Rate Capping and Margin Limitations
Microfinance institutions (NBFC-MFIs) are required to maintain an aggregate margin cap of not more than 12%, and the interest rate on individual loans provided by NBFC-MFIs should not exceed 26% per annum. It is pertinent to note that the processing fees charged by the MFIs cannot be more than 1% of the gross loan amount. These reduced rates affect the profitability of business, especially when MFIs serve high-risk rural segments with higher operational costs.
4. Credit Risk and Loan Defaults
60% of the MFIs have default rates more than the internationally acceptable rate of 3%. Due to the nature of unsecured micro-lending, there is an increased default risk. Borrowers often lack credit history or collateral. MFIs face challenges such as:
- Non-repayment due to natural disasters, crop failures, or political disruptions
- Group lending defaults
- Overlapping loans due to a lack of proper credit bureau coverage
5. Operational Challenges in Remote Areas
Reaching rural or tribal belts requires high-cost outlays in:
- Field staff deployment
- Localized language support
- Loan disbursal infrastructure
- Monitoring and recovery mechanisms
Despite regulatory support, many MFIs find such expansions financially unsustainable.
6. Limited Product Portfolio
MFIs are bound by the RBI to offer only income-generating loans to maintain their MFI status. They cannot:
- Offer housing loans beyond a certain limit
- Lending for consumption or personal purposes
- Provide gold loans or long-term capital financing
7. Dependency on External Funding
Many registered MFIs rely heavily on borrowing from banks and larger NBFCs. A slight disruption in liquidity markets or interest rate changes can threaten their sustainability.
8. Difficulty in Attracting Skilled Manpower
Registered MFIs have to operate with professional governance and skilled human resources. However, the rural population and low salary levels make it challenging to attract qualified staff, especially for leadership and compliance roles.
Registered vs. Unregistered MFIs
| Features | Registered MFI (NBFC-MFI) | Unregistered Entity (NGO/Society) |
| Legal Status | RBI Recognized | Unregulated |
| Fundraising Options | Wide through Banks, FDIS, ECB | Limited grants |
| Lending Model | Structured | Informal AND/OR community-based |
| Compliance Burden | High | Low |
| Credibility | High | Low |
| Risk of Penalty/Non-Compliance | High | Low |
Conclusion
Microfinance company registration in India provides entrepreneurs with an enormous growth opportunity. It addresses financial exclusion in rural and semi-urban India by providing formal recognition and access to loans and finances. The institutes work with a socialist approach to developing the underserved sections of society. A microfinance corporation is a commitment to professional governance, social responsibility, and ethical finance rather than merely a legal requirement and a profit-making machinery. Those who want to follow this route need to be ready for challenges like operational deficiency, interest rate capping, margin limitations, etc.
Frequently Asked Questions
1. What is the minimum capital required to register a Microfinance Company in India?
To register a Microfinance Company as an NBFC-MFI with the Reserve Bank of India (RBI), the entity must have a minimum Net Owned Fund (NOF) of ₹5 crore. However, for companies based in the Northeastern Region, the requirement is relaxed to ₹ two crores only.
2. Can a microfinance company operate without registering with the RBI?
Only entities that do not lend more than 50% of their total loan portfolio to low-income borrowers can operate without NBFC-MFI registration. However, unregistered entities like NGOs and societies cannot officially call themselves microfinance companies or raise capital from banks and financial institutions for micro-lending.
3. Who can register a microfinance company in India?
Any private limited or public limited company incorporated under the Companies Act, 2013, can apply for NBFC-MFI registration. It must meet RBI’s eligibility conditions, including minimum capital, management fit and proper criteria, and adherence to fair lending norms.
4. Is it mandatory for microfinance companies to follow the RBI’s interest rate guidelines?
Yes, registered NBFC-MFIs must adhere to the RBI’s prescribed interest rate caps and margin limits.
5. What kind of loans can a registered microfinance company offer?
A registered microfinance company primarily offers income-generating loans to low-income individuals or households. These loans support small businesses, agriculture, and self-employment, with loan amounts usually not exceeding ₹1.25 lakh per borrower.
6. What are the key documents required for NBFC-MFI registration?
You need the following documents for NBFC-MFI registration:
- Certificate of Incorporation
- Memorandum and Articles of Association
- Board Resolution for NBFC registration
- Net worth certificate from a chartered accountant
- Business plan for microfinance operations
- KYC of directors and shareholders
- Audited financials (if applicable)
7. Can foreign investors invest in microfinance companies in India?
Yes, 100% Foreign Direct Investment (FDI) is permitted in NBFC-MFIs under the automatic route, subject to RBI guidelines.
8. What are the main challenges faced after registering a microfinance company?
The challenges include:
- High compliance burden
- Strict operational guidelines
- Risks of loan defaults in rural areas
- Limited interest margin due to RBI regulations
- Difficulty in attracting skilled manpower in remote locations
9. How does the RBI monitor the operations of registered microfinance companies?
RBI monitors NBFC-MFIs through:
- Quarterly and annual returns
- Statutory inspections
- On-site and off-site supervision
- Audits on governance, capital adequacy, loan portfolios, and recovery practices
10. Are microfinance companies eligible for government support or refinancing schemes?
Yes, registered microfinance companies may be eligible for:
- Refinancing from SIDBI or NABARD under microfinance initiatives
- Mudra loans under the PMMY scheme
- Participate in Priority Sector Lending (PSL) partnerships with banks
- Government-backed credit guarantee schemes for small loans
