Cracking the whip: Banks may face bigger fines for non-compliance

Current penalties may not act as effective deterrent: Experts

The government will consider allowing higher fines on banks for not complying with regulatory guidelines amid concerns that the current penalty amounts may not act as effective deterrents for large organisations or repeat offenders. The Centre is open to reviewing the mechanism followed by the regulator by amending the Banking Regulation (BR) Act, 1949, and the Reserve Bank of India Act, 1934, said a senior government official.  

“The current penalty amounts are low.

We will discuss this matter with the regulator (RBI). We are open to the possibility of amending the relevant provisions,” the official said requesting anonymity.  

Under the RBI and BR Acts, penalties depend on the magnitude of the contravention. The fines range from Rs 1 lakh to Rs 1 crore, with additional penalties for continuing violations. Personal accountability can include imprisonment for 6 months to 5 years. For repeat or continuing violations, progressive penalties (daily fines) are levied.

In the financial year ended March 31, 2024, the RBI imposed 281 penalties on regulated entities totalling Rs 86.1 crore for contraventions/non-compliance with statutory provisions and certain directions issued by the banking sector regulator.  

Under the current framework, the RBI imposes financial penalties through provisions such as Sections 46 and 47A of the BR Act, 1949, which allows it to impose fines for non-compliance or contravention of regulatory guidelines. Section 58B of the RBI Act, 1934, outlines penalties for failure to comply with its provisions.

An email sent to the finance ministry remained unanswered until the time of going to press.  

"Penalties must be significant enough to lead to the desired behavioural change. This happens when penalties are substantial and impactful,” said former RBI Deputy Governor R Gandhi.

If the penalty is easily absorbed by the organisation, it does not bring about the intended change. Therefore, penalties should be reviewed periodically, he said.

"An absolute amount specified in the law may become less effective over time due to inflation or other factors, making periodic adjustments necessary,” added Gandhi.  

Need for periodic review

Mukesh Chand, senior counsel and head of banking and IBC practice at legal firm Economic Laws Practice, said the penalties are often capped or are subject to maximum limits, which are not significantly impactful for large financial institutions, especially for serious breaches or repeat violations.

"The current penalty amounts prescribed under the Banking Regulation Act, 1949, RBI Act, 1934, and other related enactments may not serve as effective deterrents for larger banks, NBFCs, and other financial institutions due to the limited financial impact of such penalties,” said Chand.  

Additionally, the Foreign Exchange Management Act, 1999 (FEMA), also empowers the RBI to impose penalties concerning foreign exchange transactions. Section 30A of the Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest (SARFAESI) Act and provisions of the Payment and Settlement Systems Act (Section 26) give the RBI the authority to impose financial penalties.  

"As banking operations grow in complexity and scale, financial penalties alone may no longer be sufficient to ensure compliance," said Chand.

He said addressing systemic issues through compliance mechanisms and reputation-based consequences held the key.

"The RBI has traditionally relied on inspections, audits, and surveillance mechanisms (both on-site and off-site) to ensure that regulated entities comply with prescribed norms. Financial penalties are just one aspect, and there is an increasing emphasis on corrective actions that focus on enhancing compliance rather than just imposing fines,” adds Chand.

The legal expert suggests that regulators in other major economies are increasingly moving away from reliance on financial penalties and adopting more robust compliance rating systems, board-level accountability measures, and incorporating technological advancements such as real-time monitoring through artificial intelligence (AI) and big data analytics to detect violations early.  

“With AI-driven automation expected to dominate future financial transactions, regulators are exploring frameworks that focus not only on penalising infractions but also on preventing non-compliance through predictive algorithms and automated compliance checks," he says.

The RBI may also leverage AI and technology, such as regulatory technology solutions, to pre-emptively address risks, enhance surveillance, and adopt advanced compliance methodologies (including periodic stress testing, resilience against cyberattacks, and other operational risks) that foster accountability and transparency in a rapidly digitising financial landscape, Chand says.