Banking has existed in one form or another from ancient times onwards as an essential part of society to manage the financial activities of individuals and businesses.
Clever banking ideas and facilities are the best way to grow one’s finances and organise funds for different purposes. People’s deposits should be managed effectively and provide them complete safety and options to grow their savings by providing interest.
Usually, banks function based on the surplus capital they collect from the difference in the interest they pay to the customers for their deposits and the interest they collect from the customers for their loans.
Commercial Banks and Small Finance Banks are parts of the current banking sector instrumental in receiving deposits and providing loans.
Commercial Bank vs Small Finance Bank
The difference between Commercial Banks and Small Finance Banks is that there is no limitation regarding the target customers of commercial banks. In contrast, Small Finance Banks have target customers like small-scale farmers, small businesses, unorganized workers, and MSMEs.
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|Parameter of Comparison||Commercial Bank||Small Finance Bank|
|Capital limit||No limit to the capital that a commercial bank can incur||The minimum money paid up should be a hundred thousand dollars|
|Loan services||Can offer loans to all customers of the Bank||It can offer loans to customers. But should extend 75% of loans to the priority sectors.|
|Revenue earning||An earn revenue employing lending services and transaction charges.||Can earn revenue utilizing lending services to the target customers.|
|Target customers||No restriction to any region.||Target customers are small farmers, small businesses, unorganized workers, and MSMEs.|
|Branches||Can open branches anywhere within the country||For the first 3 years, 25% of units should be in rural areas.|
What is Commercial Bank?
A commercial bank is a financial establishment that can accept deposits and offer the services of checking accounts.
A commercial bank can make different loans, give essential financial products such as CDs (certificates of deposit), and provide savings accounts to small businesses and individuals.
A commercial bank is accessible to everyone doing their banking. Their primary source of income is from the interest incurred by giving loans to individuals and small businesses, along with providing auto loans, mortgages, and so on.
Commercial banks collect capital to give loans, usually by checking accounts, deposits of customers, saving funds, money markets, and so on.
The customers who deposit money in the banks are paid interest by the banks. The interest paid to the customers for their deposits is less than the interest they should pay for their loans.
The mode of money creation followed by a commercial bank will be similar to that of a central bank or according to the norms of the Reserve Bank.
Currently, many commercial banks operate entirely online, so all the transactions of such banks are only via electronic means.
The spread between the interest can calculate the sum of the money acquired by a commercial bank it is paying the depositors. The bank’s interest on the loans is known as net interest income.
The investments of the customers within the commercial banks in savings and fixed deposits are insured by the Reserve Bank, and the money can be withdrawn quickly.
The functions of a commercial bank can be classified as primary and secondary. The primary functions of a commercial bank are deposit acceptance and giving loans to their clients.
The three types of deposits acceptable for a commercial bank are current account deposits, fixed deposits (Time deposits) and savings account deposits.
The deposits that can be withdrawn on demand by the depositors at any time are called demand deposits. Current account deposits are demand deposits. They are chequable deposits and are highly liquid.
Fixed deposits or time deposits are non-demand deposits, and they are not chequable. The liquid rate of fixed deposits is comparatively less.
Usually, the three types of loans a commercial bank provides are cash credit, demand loans, and short-term loans. Commercial banks invest the surplus earned in three kinds of securities: government securities, other approved securities, and other securities.
What is Small Finance Bank?
The Small Finance Bank is a private financial institution providing basic banking activities such as underserved and unserved sections. They may include small-scale farmers, small and micro industries, and unorganized sector entities.
The restrictions applicable to regional and local area banks do not usually apply to small finance banks.
Small Finance Banks in India are working according to the guidelines issued by Reserve Bank on 2014th November 2014.
A Resident individual or a professional with at least ten years of experience in the banking/finance sector is eligible to start a small finance bank.
Currently operating small finance companies such as Non-Banking Finance companies, microfinance establishments, and local area banks are eligible to convert as small finance banks.
The minimum capital mandatory for a small finance bank is 100 crore, and 40% can come from promoters. After 12 years of functioning, this should reduce to 26%.
Once the Small Finance Bank attained a net worth of Rs. 500 crores within three years, its shares should be listed on a stock exchange.
The norms applicable to commercial banks are also relevant to small finance banks in maintaining a Cash Reserve Ratio and Statutory Liquidity Ratio.
Main Differences Between Commercial Bank and Small Finance Bank
- The main difference between Commercial Bank and Small Finance Bank is there is no limit for the capital acquired by a Commercial Bank, whereas Small Finance Bank should pay up minimum money of hundred crores.
- A Commercial Bank can offer loans to all the customers, whereas a Small Finance Bank should provide 75% of the loans to the priority sectors.
- A Commercial Bank can earn revenue from loans and transaction charges. Small Finance Banks’ primary income source is lending services to the target customers.
- A Commercial Bank can lend its services to everyone interested. Still, the services of a Small Finance Bank are for small farmers, small businesses, unorganized workers and MSMEs (micro, small and medium enterprises).
- A Commercial Bank can open branches anywhere within the country and should focus on the rural areas for the first three years of establishment.
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Chara Yadav holds MBA in Finance. Her goal is to simplify finance-related topics. She has worked in finance for about 25 years. She has held multiple finance and banking classes for business schools and communities. Read more at her bio page.