UCBs: Past imperfect, present evolving as RBI revives on-tap licensing

The decision to reintroduce on-tap licensing for urban cooperative banks signals the regulator's growing confidence that governance reforms have created sufficient safeguards

After a gap of 22 years, the Reserve Bank of India (RBI) is set to open the tap for new urban cooperative banks (UCBs)—a critical bridge in the Indian financial landscape that connects lower- and middle-income urban and semi-urban populations to formal banking. 

 

The central bank has issued draft guidelines for on-tap licensing of UCBs. Under these norms, eligible multi-state credit cooperative societies with at least 10 years of operational track record, a minimum deposit base of Rs10,000 crore, and a net worth of Rs300 crore can apply for conversion into UCBs.

 

This comes at a time when the RBI has been encouraging voluntary transition of UCBs into small finance banks (SFBs). Shivalik Mercantile Co-operative Bank Ltd was the first UCB to successfully convert, receiving in-principle approval in January 2020 and starting operations as an SFB in April 2021.

 

While Shivalik’s transition was voluntary, another large UCB entered the SFB sector via a regulatory rescue operation. Scam-hit Punjab and Maharashtra Co-operative Bank (PMC Bank), under severe stress, was amalgamated and converted into Unity Small Finance Bank Ltd, jointly promoted by Centrum Financial Services Ltd and Resilient Innovations Pvt Ltd (BharatPe).

 

Looking back, India’s first credit cooperative society was formed in Bengal in 1903 with the support of the local government and registered under the British Government's Friendly Societies Act. The Cooperative Credit Societies Act of India was subsequently enacted on 25 March 1904.

 

By 1911, there were 5,300 societies with a combined membership of over 300,000. The Cooperative Societies Act of 1912 introduced a formal three-tiered structure: Primary credit societies at the village level, central banks at the district level, and apex state banks at the state level to provide both short- and medium-term credit.

 

The RBI’s formal engagement with the cooperative credit movement began in earnest with the appointment of the All India Rural Credit Survey Committee in 1951. The committee acknowledged structural failures in the system ("Cooperation has failed, but cooperation must succeed") and advocated an integrated rural credit approach. Crucially, cooperation had become a state subject under the Montagu–Chelmsford reforms of 1919. The state governments retained primary statutory authority over cooperative incorporation, management, and winding-up operations.

 

The structural turning point came in March 1966, when cooperative banks with paid-up capital and reserves of at least Rs1 lakh were brought under the Banking Regulation Act, 1949. The Act was amended to extend the RBI’s regulatory authority to all cooperative banks, which until then were governed solely under state-specific cooperative laws. At that time, India had 1,106 UCBs.

 

Yet, this created a complex system of dual regulation: While the RBI became the authority for banking operations and supervision, the administrative management of UCBs remained with state governments.

 

Fast-forward to May 1993: Following the recommendations of the S S Marathe Committee (set up in 1991), the RBI liberalised licensing guidelines for UCBs to deepen financial inclusion. Prior to 1993, new UCBs were strictly restricted under a "one district, one bank" principle to prevent overlap. The 1993 policy scrapped this restriction and permitted multiple UCBs in the same geographical area if market potential existed. Entry-level norms on initial paid-up capital and membership base were also lowered for backward and semi-urban areas.

 

Among other things, the policy encouraged the formation of UCBs promoted by and for specific target groups—such as women’s cooperative banks, banks promoted by scheduled castes and scheduled tribes, and lenders in economically backward regions.

 

This liberalisation triggered rapid expansion. Between May 1993 and June 2001, the RBI issued at least 823 new licences, and the total number of UCBs swelled from 1,311 in 1993 to around 1,926 by March 2004.

 

However, the maths reveals an underlying instability: The net increase was only 615 banks, not 823. Why? Because 205 newly licenced UCBs turned financially unsound and collapsed within a short period.

 

The high-profile collapse of the Madhavpura Mercantile Co-operative Bank in 2001 exposed the soft underbelly of the sector. Consequently, in 2004, the RBI suspended fresh UCB licensing altogether, shifting its focus from expansion towards restructuring, consolidation, and cleaning up balance sheets.

 

Due to liquidations and voluntary mergers following the 2004 freeze, the total number of operational UCBs across India dropped from 1,926 in March 2004 to 1,457 by March 2025. In FY25 alone, seven mergers took place—six in Maharashtra and one in Telangana—lifting the total number of UCB mergers to 163 between FY05 and FY25. Licence cancellations, however, far outnumbered mergers.

 

Beyond the sheer count of failed entities, deposit insurance claim figures highlight the extent of the sector's distress. From the turn of the century through FY26, depositors of 488 failed banks claimed Rs18,931.40 crore from the Deposit Insurance and Credit Guarantee Corporation (DICGC)—the wholly owned RBI subsidiary that insures bank deposits up to Rs5 lakh per depositor, per bank. An overwhelming 98.7 per cent of all claim payouts have gone towards resolving failed cooperative banks while commercial banks contribute roughly 94 per cent of the DICGC’s annual insurance premium revenues.

 

In the wake of the PMC Bank collapse, the deposit insurance cover was hiked from Rs1 lakh to Rs5 lakh in February 2020. PMC Bank alone accounted for Rs3,991.6 crore in claims settled across 847,506 traceable depositors.

 

Probably the rampant failure of cooperative lenders prompted the DICGC to replace its flat-rate premium with a risk-based framework so that riskier lenders bear higher relative costs. Effective April 1, 2026, DICGC moved away from a flat 12 paise premium per Rs100 of deposits to a risk-graded structure ranging from 8 to 12 paise.

 

For the record, 98.1 per cent of all accounts in cooperative banks are currently fully covered up to the Rs5 lakh limit— higher than the coverage ratio in commercial banks (97 per cent). Insured deposits account for 61.9 per cent of total assessable deposit values in cooperative banks. Additionally, well-managed Tier-2 UCBs with 25+ years of clean operations receive a 25 per cent incentive discount on insurance premiums under the new framework.

 

The history of cooperative bank failures in India is fundamentally a chronicle of systematic exploitation of a grassroots movement for political and personal gain. Cooperative banks are built on the democratic principle of "one member, one vote." However, rather than safeguarding them against political capture, this governance structure has frequently been exploited. Beyond outright corruption, state governments have historically used their powers under state cooperative acts to supersede managing committees, delay elections, and stack boards with political nominees.

 

Yet, bright spots do exist. Lenders such as Saraswat Co-operative Bank and The Cosmos Co-operative Bank demonstrate that well-managed cooperatives can thrive and even absorb weaker peers to protect depositors. The secret sauce has consistently been professional management, insulation from political interference, and robust governance frameworks.

 

The decision to reintroduce on-tap UCB licensing signals the regulator’s growing confidence that statutory governance reforms have created sufficient safeguards. Amendments made via the Banking Regulation (Amendment) Act, 2020 brought cooperative banks under the direct, comprehensive supervision of the RBI, applying governance, audit, and management standards similar to those governing commercial banks. Subsequently, in 2021, a committee on UCB, chaired by former RBI deputy governor N Vishwanathan, charted out the roadmap for the sector.

 

The consolidated balance sheet of all UCBs grew 4.4 per cent in FY25 to Rs7.39 trillion, with credit expanding by 6.7 per cent against a 5.2 per cent deposit growth. In their ideal form, UCBs provide the last-mile financial connectivity that India’s rural and semi-urban population need. The onus is now squarely on the sector to prove it merits the regulator’s trust.  

---

The writer is an author and senior advisor to Jana Small Finance Bank Ltd. His latest book: Roller Coaster: An Affair with Banking. To read his previous columns, log on to www.bankerstrust.in. X: @TamalBandyo