Change in debt fund taxation rules may force NBFCs to rely more on bank funding

“NBFCs, which were raising (money through) Non-Convertible Debentures (NCDs) and Commercial Paper (CP) to cut cost via mutual funds (MFs) will surely have an impact. Availability of funds will be scarce; at the same time, cost of borrowing will go up. Consequently, NBFCs will borrow more from banks,” said Sadaf Sayeed, Chief Executive Officer of Muthoot Microfin.

“Already we are in an increasing interest rate scenario and with the cost of funds having gone up all across, with this new regime it will be a really big blow to NFBC in terms of raising capital other than through banks,” said Umesh Kumar Tulsyan, Managing Director, Sovereign Global.

A CLSA report said NBFCs and Housing Finance Companies (HFCs) would still be somewhat reliant on funding by mutual funds. Yet, with potentially lower inflows into debt MFs, NBFCs and HFCs may have to rely more on bank funding versus funding by MFs.

According to RBI data, bank credit to NBFCs rose by 31 percent to Rs 12.9 lakh crore as of January 27, 2023.

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Borrowings of NBFCs, HFCs 

NBFCs raised Rs 1.75 lakh crore and HFCs Rs 1.34 lakh crore through corporate bond sales so far this financial year, according to the data from Prime Database.

In the NBFC space, Bajaj Finance, Tata Capital Financial Services and HDB Financial Services are the top three issuers. These entities have together raised Rs 47,158 crore so far this financial year.

Housing Development Finance Corp, LIC Housing Finance, and Bajaj Housing are top three issuers among HFCs. These entities have raised Rs 1.4 lakh crore so far this fiscal year.

Jaiprakash Toshniwal, Senior Equity Research Analyst and Fund Manager–Equity at LIC Mutual Fund Asset Management, said available data points that the exposure of NBFCs and HFCs to debt MFs was in the range of 4-9 percent and has been coming down since the NBFC crisis of 2018.

“So the reliance of NBFCs or HFCs on MF funding has been steadily coming down and the same is getting replaced by banks as well as foreign borrowing,” he added.

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Devil in the detail 

The Lok Sabha on March 24 passed the Finance Bill 2023 with amendments.

The Finance Bill, which contains proposals related to taxation and government spending, was passed with several amendments. Besides, 20 more sections were added to the Bill.

The bill proposes that income from investments in debt MFs that do not invest more than 35 percent of their corpus in stocks, i.e., debt funds, will now be considered short-term capital gains.

Capital gains from debt funds, international funds, and gold funds, irrespective of their holding period, will be taxed in line with an individual’s tax slab. Income from bank FDs are also taxed the same way.

Prior to this, if held for more than three years, debt funds were taxed at 20 percent along with indexation benefits, or at 10 percent without indexation. If held for less than three years, the gains were taxed as per one’s tax slab.

Impact on borrowing costs 

Money market dealers said the expectation of lower investment by debt mutual funds in debt instruments of NBFCs and HFCs was unlikely to impact borrowing costs of these companies.

“Given the low share in the borrowing for NBFCs/HFCs, the borrowing cost is unlikely to see a material increase,” Toshniwal said.

Some smaller NBFCs, which haves lower credit ratings and a higher share of MF borrowings, may experience an increase in their spreads.