Bypassing rule: Banks' use of FD-OD fix irks RBI

bank of india, media reports, reserve bank of india, Banks in India, RBI, FD

Banks are cutting new deals with corporates to dodge a recent Reserve Bank of India (RBI) rule. The tactic is not going down well with the regulator, which has got wind of it.

Loosely called the ‘FD-OD’ deal, it’s a simple arrangement where a company parks some funds as fixed deposits (FD) and the bank gives an overdraft (OD) to the client. The innocuous transaction is being used as a ploy to overcome the rule prohibiting a bank from having a current account of a company to which it has given little or no loans. According to the regulation, abank with less than 10% of total approved facilities — comprising loans, non-fund businesses such as guarantees and overdrafts —to a company cannot have its current accounts, which are sought after by lenders as zero-interest deposits lower cost of funds.

RBI had directed all banks to give up such current accounts by July 30. The regulator, according to media reports, had even frozen accounts after some banks failed to meet the deadline.

bank of india, media reports, reserve bank of india, Banks in India, RBI, FD

In the past few weeks, though, here’s what many companies and banks have done. Say, total facilities by the banking industry to a company is Rs 1,000 crore, while the bank that holds the company’s current accounts has only Rs 10 crore loan exposure to the entity. According to the RBI directive, it has to then surrender the current account. Now, to bypass this rule, the FD-OD arrangement is entered into. To maintain the current account with the same bank, the company makes an FD of Rs 105 crore with the bank, which, in turn, extends a ‘secured OD’ of Rs 100 crore. Since the bank’s exposure to the company (by virtue of the OD) is now 10% of the total facilities approved by the banking industry, the current accounts are retained by it without taking any extra risk.

“RBI has come to know of these back-to-back deals,” said a senior banker. “Senior supervisory managers (of RBI) assigned to various banks are enquiring with banks to check whether the regulation is being followed in letter and spirit. Deputy governor MK Jain is serious about the directive, even though it boils down to micromanagement by the central bank. Even if an RBI official thinks differently, he has to follow the instructions.” (Jain’s responsibilities include supervision and HR, among other things).

“Technically, banks are not breaking any rules. So, on what grounds would RBI stop ODs?” said the banker.

The regulation stems from RBI’s belief that errant corporate borrowers will find it tougher to divert funds if their current and collection accounts lie with lending banks. However, industry sources say that current accounts are often kept with non-lending banks due to genuine business reasons. Not all lending banks, say industry sources, have good cash-management practices that corporates require for vendor payments, escrow accounts, collection from sales etc.


Bankers, however, know that the FD-OD deal can only be a temporary solution, as companies may pull out FDs if there is a sudden fund crunch.

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