Difference Between NBFC and Bank: A Full Guide

You’ve probably heard of banks. You might even have an account with one. But have you heard of NBFCs? Maybe you’ve taken a loan from one without even realizing it! B

Both banks and Non-Banking Financial Companies (NBFCs) deal with money and loans, but they are quite different beasts. Understanding this difference is crucial, whether you’re looking for a loan, planning an investment, or just trying to understand the financial world better.

Banks and NBFCs both operate in the financial sector but have distinct functions, regulations, and features.

This article will break down the difference between NBFC and bank in super simple terms.

What is a Bank?

A bank is a financial institution licensed to do banking business. What does that mean in simple terms?

1. Accepting Deposits: Banks take money from the public. Crucially, they can accept demand deposits. These are deposits like the money in your savings or current account, which you can withdraw any time you demand (hence the name).
2. Giving Loans: They use the deposited money to give loans and advances to individuals and businesses.
3. Payment and Settlement: Banks are part of the country’s payment system. This means they can issue cheques drawn on themselves and clear cheques for customers. When you write a cheque, it’s your bank that handles the payment.

Key Characteristics of a Bank:

• Licensed under Banking Regulation Act, 1949: They operate under strict rules set by this law and are heavily regulated by the Reserve Bank of India (RBI).
• Accepts Demand Deposits: This is a core function unique to banks.
• Can Issue Cheques: You get a chequebook for your current or savings account.
• Part of Payment and Settlement System: Essential infrastructure for money movement.
• Deposit Insurance: Deposits in banks (up to ₹5 lakh per depositor per bank as of now) are insured by the Deposit Insurance and Credit Guarantee Corporation (DICGC), an RBI subsidiary. This provides safety to depositors.
• Wide Range of Services: Offer savings accounts, current accounts, loans (home, personal, car, business), credit cards, foreign exchange, wealth management, lockers, etc.

Think of your familiar neighbourhood bank – State Bank of India (SBI), HDFC Bank, ICICI Bank, Punjab National Bank (PNB). These institutions perform all the core banking functions mentioned above.

What is an NBFC (Non-Banking Financial Company)?

An NBFC, or Non-Banking Financial Company, is also a company that deals with financial activities, but it does not have a full banking license. They are primarily involved in:

1. Giving Loans and Advances: This is their main business – providing loans for vehicles, housing, equipment, gold, personal needs, etc.
2. Acquiring Shares/Stocks/Bonds: Many NBFCs are involved in investments.
3. Leasing, Hire-Purchase, Insurance Business, Chit Business: They can engage in various other financial services.

However, NBFCs cannot do certain things that banks can:

• Cannot Accept Demand Deposits: This is the single biggest difference. You can’t open a regular savings or current account with an NBFC where you can deposit and withdraw money freely on demand.
• Cannot Issue Cheques Drawn on Themselves: Since they aren’t part of the core payment system in the same way banks are.
• Not Part of the Payment and Settlement System (generally): They rely on banks for clearing payments.
• No DICGC Insurance: Deposits accepted by NBFCs (they can accept time deposits under strict conditions, explained later) are generally not insured by the DICGC.

Key Characteristics of an NBFC:

• Registered under Companies Act, 1956/2013: They are first registered as companies.
• Regulated by RBI (under RBI Act, 1934): While RBI regulates them, the rules are often different and sometimes less stringent than for banks. Specific types of NBFCs might also be regulated by other bodies (e.g., housing finance NBFCs by the National Housing Bank, merchant bankers by SEBI).
• Cannot Accept Demand Deposits: They primarily raise funds through borrowing (from banks, markets) or, in some cases, by accepting time deposits (like Fixed Deposits) for a minimum fixed period (e.g., 12 months or more).
• Focus on Lending and Investment: Their core business is usually more specialized than a bank’s.
• No DICGC Coverage: Deposits are not insured.

Think of companies like Bajaj Finserv, Muthoot Finance (primarily gold loans), Shriram Transport Finance (vehicle loans), Mahindra & Mahindra Financial Services. These are large, well-known NBFCs focused on specific types of lending or financial products.

Key Differences: Bank vs. NBFC Explained

Download the above infographic in PDF

Now let’s break down the core differences point-by-point in simple terms.

1. Primary Function & Definition

• Bank: Defined under the Banking Regulation Act, 1949. Primary function is accepting deposits withdrawable on demand (like savings/current accounts) and providing loans, alongside being part of the payment system.
• NBFC: Registered under the Companies Act. Primary function is lending, investing, and other financial activities excluding core banking functions like accepting demand deposits and being part of the payment settlement system. Their main business cannot be agricultural, industrial activity, or sale/purchase of goods or services.

2. Accepting Deposits

• Bank: Can accept both demand deposits (savings account, current account – money you can withdraw anytime) and time deposits (Fixed Deposits, Recurring Deposits – money locked for a specific period).
• NBFC: Cannot accept demand deposits. Only specific, authorized NBFCs (called deposit-taking NBFCs) can accept time deposits, and these usually have restrictions (e.g., minimum tenure of 12 months, maximum tenure of 60 months). Many NBFCs do not accept public deposits at all (non-deposit-taking NBFCs).
  • Example: You can walk into a bank and open a savings account to deposit your salary and withdraw cash from an ATM anytime. You cannot do this with an NBFC. You might be able to open a Fixed Deposit with certain NBFCs, often at attractive interest rates, but it will be for a fixed lock-in period.

3. Payment and Settlement System

• Bank: Are an integral part of the country’s payment and settlement system. They can clear funds and issue instruments like cheques and demand drafts drawn on themselves.
• NBFC: Are not part of the payment and settlement system. They cannot issue self-drawn cheques. They maintain accounts with banks to carry out their transactions.
  • Example: When you pay your rent using a cheque, it’s drawn on your bank account. An NBFC providing you a loan disburses the amount typically via a bank transfer or a cheque drawn on its bank account, not drawn on the NBFC itself.

4. Deposit Insurance (DICGC)

• Bank: Deposits held in banks (Savings, Current, FD, RD) are insured by the DICGC up to ₹5 lakhs per depositor, per bank. This means if a bank fails, your money up to this limit is protected.
• NBFC: Deposits held in NBFCs (the time deposits they are allowed to accept) are not insured by the DICGC. This makes them inherently riskier for depositors compared to banks.
  • Example: If you have ₹3 lakhs in a Fixed Deposit with a bank and the bank collapses, DICGC ensures you get your money back. If you have ₹3 lakhs in a Fixed Deposit with an NBFC and it collapses, there is no such guarantee; you risk losing your principal.

5. Regulation

• Bank: Regulated by the Reserve Bank of India (RBI) under the stringent Banking Regulation Act, 1949. This involves strict rules on capital adequacy, reserve requirements, lending practices, etc.
• NBFC: Also regulated by the RBI, but under the RBI Act, 1934 (Chapter III-B). The regulations can be less strict compared to banks, although RBI has been tightening norms for larger NBFCs recently. Different types of NBFCs might have specific regulations.
  • Key Regulatory Difference: Banks have to maintain reserves like the Cash Reserve Ratio (CRR) and Statutory Liquidity Ratio (SLR). CRR is a portion of deposits banks must keep with the RBI, and SLR is a portion they must maintain in liquid assets like cash or government bonds. NBFCs generally do not have CRR requirements. Deposit-taking NBFCs have SLR requirements, but often lower than banks. This difference impacts their cost of funds and lending capacity.

6. Foreign Direct Investment (FDI)

• Bank: FDI in private sector banks is allowed up to 74% under the automatic route. Public sector types of banks have a limit of 20% for foreign investment.
• NBFC: FDI up to 100% is allowed under the automatic route for most NBFC activities. This makes it easier for foreign players to enter the NBFC space.

7. Credit Creation

• Bank: Play a significant role in credit creation through the multiplier effect. When they lend money, it often comes back into the banking system as deposits, allowing them to lend more.
• NBFC: Contribute to credit intermediation (channeling funds from savers/lenders to borrowers) but do not create credit in the same way as banks because they don’t accept demand deposits which form the base for the multiplier effect. They primarily lend out of the funds they borrow or raise as capital/time deposits.

8. Transaction Services

• Bank: Offer a wide range of transaction services like fund transfers (NEFT, RTGS, IMPS), cheque clearing, demand drafts, letters of credit, bank guarantees, forex services, safe deposit lockers, etc. They act as a one-stop-shop.
• NBFC: Primarily focus on lending and investment products. They do not offer the broad spectrum of transactional services that banks provide.

9. Loan Conditions and Interest Rates

• Bank: Loan processes can sometimes be more stringent with detailed documentation. Interest rates on loans are often linked to benchmark rates like the Repo Rate and tend to be competitive, especially for prime borrowers.
• NBFC: Often perceived as having faster loan processing and potentially more flexible lending criteria, sometimes catering to segments banks might find riskier. However, this flexibility and higher risk perception can translate into higher interest rates on loans compared to banks. For the time deposits they accept, NBFCs might offer higher interest rates than banks to attract depositors, compensating for the lack of DICGC insurance.

10. Formation

• Bank: Requires a specific banking license from the RBI under the Banking Regulation Act, 1949. Setting up a bank involves very high capital requirements and stringent regulatory approvals.
• NBFC: Registered under the Companies Act, 2013 and requires a Certificate of Registration from the RBI to commence business of a non-banking financial institution under the RBI Act, 1934. While still regulated, the entry barriers and capital requirements are generally lower than for setting up a bank.

Why Choose a Bank? (Advantages)

Banks offer several compelling advantages:

• Safety: The DICGC insurance provides a strong safety net for your deposits up to ₹5 lakhs.
• Trust and Regulation: Banks are generally perceived as more stable due to stricter regulations.
• One-Stop Shop: You can manage savings, current accounts, loans, investments, payments, credit cards, forex, lockers, etc., all under one roof.
• Convenience: Extensive branch and ATM networks, cheque facilities, and seamless participation in digital payment systems (UPI, NEFT, RTGS, IMPS).
• Lower Cost of Borrowing: Often offer lower interest rates on loans compared to NBFCs, especially for customers with good credit history.
• Wider Product Range: Generally offer a broader array of financial products and services.

Why Choose an NBFC? (Advantages)

NBFCs also have their strengths and fill important gaps in the financial system:

• Faster Loan Processing: NBFCs are often known for quicker decision-making and loan disbursal processes, especially for specific loan types like consumer durable loans or gold loans.
• Flexible Lending Norms: They might be more willing to lend to individuals or businesses that don’t meet the strict criteria of banks, albeit potentially at higher interest rates.
• Niche Specialization: Many NBFCs specialize in particular sectors (e.g., vehicle finance, infrastructure loans, microfinance), developing deep expertise in those areas.
• Accessibility: They often have a strong reach in semi-urban and rural areas, sometimes serving customers underserved by traditional banks.
• Potentially Higher Deposit Rates: Deposit-taking NBFCs may offer higher interest rates on their fixed deposits compared to banks to attract funds, appealing to investors with a higher risk appetite.
• Focus on Specific Needs: If you need a very specific type of loan (like a loan against shares or a consumer durable loan at point-of-sale), an NBFC might be the go-to option.

Examples of Banks and NBFCs

To make it even clearer, here are some examples:

Common Banks in India:

• Public Sector Banks (Government-owned):
  • State Bank of India (SBI)
  • Punjab National Bank (PNB)
  • Bank of Baroda (BoB)
  • Canara Bank
  • Union Bank of India
• Private Sector Banks:
  • HDFC Bank
  • ICICI Bank
  • Axis Bank
  • Kotak Mahindra Bank
  • IndusInd Bank
• Foreign Banks (Operating in India):
  • Citibank
  • HSBC
  • Standard Chartered Bank
• Other types: Small Finance Banks (e.g., AU Small Finance Bank), Payments Banks (e.g., Airtel Payments Bank – note: Payments banks have restrictions, like not being able to issue loans or credit cards directly).

Common NBFCs in India:

• Loan Companies:
  • Bajaj Finance Limited (Consumer finance, personal loans, etc.)
  • Mahindra & Mahindra Financial Services Ltd (Vehicle finance, SME loans)
  • Shriram Transport Finance Company Ltd (Commercial vehicle finance)
  • Tata Capital Financial Services Ltd (Various loan products)
• Investment Companies: Focus on acquiring securities.
• Asset Finance Companies (AFC): Financing physical assets supporting economic activity, like automobiles, machinery. (e.g., Shriram Transport)
• Infrastructure Finance Companies (IFC): Provide long-term finance to infrastructure projects.
• Micro Finance Institutions (MFI-NBFC): Provide small loans to low-income individuals/groups. (e.g., CreditAccess Grameen)
• Gold Loan Companies: Muthoot Finance Ltd, Manappuram Finance Ltd.
• Housing Finance Companies (HFCs): Though regulated primarily by the National Housing Bank (NHB), many large HFCs like HDFC Ltd (before its merger with HDFC Bank) or LIC Housing Finance are often considered alongside NBFCs. Post-merger, HDFC Ltd became part of a bank.

(Note: The financial landscape evolves. Mergers and acquisitions can change classifications, like the HDFC Ltd and HDFC Bank merger.)

Recent Trends and the Blurring Lines

While the core differences remain, the lines between banks and large, well-regulated NBFCs have started blurring somewhat:

• Increased Regulation for NBFCs: Following some defaults and stability concerns in the NBFC sector a few years ago, the RBI has significantly tightened regulations for larger NBFCs (especially deposit-taking and systemically important ones), bringing them closer to banks in terms of capital adequacy, liquidity rules, and governance norms.
• Scale-Based Regulation: RBI introduced a four-layered regulatory structure (Base Layer, Middle Layer, Upper Layer, and Top Layer) for NBFCs, imposing stricter norms as the NBFC grows in size and systemic importance.
• NBFCs Eyeing Banking Licenses: Some large, eligible NBFCs aspire to convert into banks to access cheaper funds (demand deposits) and offer a wider range of services.
• Banks Adopting NBFC Traits: Banks are also becoming more agile, using technology for faster loan processing, and entering niche lending segments previously dominated by NBFCs.
• Co-lending Models: Banks and NBFCs are increasingly partnering through co-lending models, where they jointly provide loans, leveraging the bank’s lower cost of funds and the NBFC’s reach and underwriting expertise.

Despite these trends, the fundamental distinctions – especially regarding demand deposits, DICGC cover, and access to the payment system – remain firmly in place.

Conclusion

So, what’s the bottom line in the difference between nbfc and bank?

• Banks are the traditional, heavily regulated institutions that form the backbone of the financial system. They take all types of deposits (including demand deposits), are part of the payment network (issue cheques), offer a wide array of services, and your deposits have insurance protection (DICGC).
• NBFCs are specialized financial companies focused primarily on lending and investment. They cannot take demand deposits, cannot issue self-drawn cheques, and deposits with them are not insured by DICGC. They often offer faster, more flexible loan options, sometimes at higher interest rates, and play a crucial role in providing credit to specific sectors and underserved populations.

Both banks and NBFCs are vital components of the Indian financial ecosystem. They cater to different needs and risk appetites.

• If safety of deposits and a full range of transaction services are your priority, a bank is the natural choice.
• If you need a quick, specialized loan and are comfortable with potentially higher interest rates, or if you are an investor looking for potentially higher returns on fixed deposits (understanding the higher risk), an NBFC might be suitable.

Understanding this difference empowers you to make informed financial decisions, choose the right institution for your needs, and navigate the world of finance with greater confidence. Whether you’re saving, borrowing, or investing, knowing who you’re dealing with – a bank or an NBFC – is the first step.