In an important judgment, the Supreme Court on Wednesday ruled that state laws cannot apply to over 9,500 non-banking financial companies (NBFCs) registered with the Reserve Bank of India (RBI).

Sawing off attempts by the Kerala and Gujarat governments to bring the NBFCs under the purview of their legislations regulating money lending business, a bench of Justices Hemant Gupta and V Ramasubramanian said, "We are of the considered opinion that the Kerala Act and the Gujarat Act will have no application to NBFCs registered under the RBI Act and regulated by the RBI."

Writing the judgment, Justice Ramasubramanian said that no NBFC can carry on business without being registered under the RBI Act. "A NBFC which takes birth with the registration under the Act is liable to be wound up at the instance of the RBI. The entire life of a NBFC from the womb to the tomb is also regulated and monitored by RBI under the Reserve Bank of India (Amendment) Act, 1997."

"Once it is found that Chapter III­B of the RBI Act provides a supervisory role for the RBI to oversee the functioning of NBFCs, from the time of their birth (by way of registration) till the time of their commercial death (by way of winding up), all activities of NBFCs automatically come under the scanner of RBI. As a consequence, the single aspect of taking care of the interest of the borrowers which is sought to be achieved by the state enactments gets subsumed in the provisions of Chapter III­B," the bench ruled.

However, it said that some of the NBFCs, exempted from RBI supervision, are regulated by other regulatory bodies. "For instance, Housing Finance Institutions are regulated by the National Housing Bank; Merchant Banking companies, Venture Capital Fund Companies and the like are regulated by SEBI; Nidhi companies and mutual benefit companies are regulated by the Ministry of Corporate affairs; Chit Fund companies are regulated by state governments; and Insurance Companies are regulated by IRDA," it said.

The bench said though it is true that many times RBI might not be controlling the rate of interest charged by the NBFCs on the loans advanced by them, but it did not mean that they have no power to step in.

It said, "The moment Parliament stepped in to codify the law relating to registration and regulation of NBFCs, by inserting certain provisions in Chapter III­B of the RBI Act, the same would cast a shadow on the applicability (even assuming it is applicable) of the provisions of the Kerala Act to NBFCs registered under the RBI Act and regulated by RBI." It drew a similar conclusion with regard to the applicability of Gujarat legislation to NBFCs.