Risk Management in the Four Layers of NBFCs in India

Understanding how risk management functions within these layers is essential for institutions aiming to maintain stability, compliance, and sustainable growth.

Understanding the Four-Layer Structure of NBFCs

The RBI’s scale-based regulation (SBR) framework, introduced in 2021, categorizes NBFCs into the following four layers based on size, activity, and risk exposure:

1. Base Layer (NBFC-BL):
   These are smaller, non-systemically important NBFCs with minimal interconnectedness. Risk management here focuses on liquidity, asset quality, and operational discipline.
   
2. Middle Layer (NBFC-ML):
   Includes larger NBFCs like deposit-taking entities and housing finance companies. They require board-approved risk management policies, internal audits, and adherence to fair practice codes.
   
3. Upper Layer (NBFC-UL):
   Comprises top-performing NBFCs identified by RBI for enhanced supervision. They must adopt advanced risk frameworks similar to banks — including Internal Capital Adequacy Assessment Process (ICAAP), stress testing, and governance reviews.
   
4.  Top Layer (NBFC-TL):
   A hypothetical category reserved for entities with significant systemic risk. If an NBFC’s risk behavior threatens stability, it may be placed here for intensive supervision and stricter capital requirements.

Key Risk Areas Across NBFC Layers

While the degree of supervision varies, the core risk categories remain consistent:

• Credit Risk: Exposure due to loan defaults or poor asset quality.
  
• Liquidity Risk: Mismatch between asset and liability maturities.
  
• Operational Risk: Failures in internal processes, human errors, or technology disruptions.
  
• Market Risk: Volatility in interest rates, exchange rates, or asset valuations.
  
• Compliance Risk: Breaches in RBI regulations, KYC norms, or governance mandates.
  

RBI’s Governance and Compliance Expectations

RBI mandates NBFCs, especially those in the middle and upper layers, to adopt strong governance structures led by independent directors and specialized committees. Risk management functions must operate independently from business units, reporting directly to the Board’s Risk Management Committee (RMC).

Regular stress testing, early warning indicators, and risk-based internal audits are now standard expectations. The focus is shifting from reactive compliance to proactive governance that embeds risk awareness in strategic decision-making.

Strategic Approach to Risk Management

Effective NBFC risk management is regulatory and strategic. Leading institutions are aligning risk frameworks with business objectives by:

• Implementing data-driven credit assessment models for better portfolio quality.
  
• Investing in RegTech solutions for automated compliance monitoring.
  
• Enhancing cybersecurity and digital fraud detection capabilities.
  
• Embedding enterprise risk management (ERM) principles across departments.
  
• Training leadership on governance, risk, and compliance (GRC) integration.
  

Challenges and the Way Forward

The path toward risk maturity in NBFCs is not without challenges. Smaller NBFCs often lack the technological infrastructure or skilled personnel to implement advanced frameworks. Additionally, evolving regulations, climate-related risks, and third-party dependencies add new layers of complexity.

To overcome these, NBFCs must invest in capacity building, risk analytics, and continuous professional upskilling. Collaborating with specialized training institutions can help bridge this knowledge gap and align practices with international standards.

Risk management is no longer a compliance checkbox. It’s the backbone of institutional resilience. NBFCs that embed robust, forward-looking frameworks will lead the sector’s transformation from reactive regulation to strategic sustainability.

As India’s financial sector evolves, institutions aiming to strengthen their risk and compliance frameworks can explore specialized courses like Enterprise Risk Management, Governance, Risk and Compliance, or Credit Risk Management offered by Smart Online Course, the training partner of RMAI.

Check out more courses:

• Enterprise Risk Management Course
• Governance, Risk & Compliance (GRC) Course
• Credit Risk Management Course
• Liquidity & Interest Rate Risk in Banking Course
• Market Risk Management in Banking Course
• Operational Risk Management Course