Retail Payment Systems in India and the National Payments Corporation

India now settles more retail payment instructions than any other country, and almost all of them pass through systems that did not exist twenty years ago. The law that governs them is thin, because the Payment and Settlement Systems Act, 2007 regulates the category rather than the instrument, and almost everything of substance is done by authorisation conditions, directions and the operating rules of a single company that is not a bank, not a regulator and not owned by the Government. Understanding the systems therefore means understanding both the technical differences between them and the unusual institutional arrangement that runs most of them.

1. The sequence in which the systems were built

Figure 1: Twenty years of payment system building

Each system was built to solve the problem the previous one left behind. Real time gross settlement removed settlement risk on large transfers but was too expensive for small ones. Electronic funds transfer served small transfers but settled in batches and closed at night. The immediate payment service opened the night but needed account numbers and codes. The unified payments interface removed even that, by letting a payer address money to an identifier rather than to an account.

2. The four transfer systems compared

Figure 2: Where each system sits on value and on settlement mode

The other systems

• Cheque truncation stops the physical movement of a cheque and sends its image and the magnetic ink data to the paying bank instead, which is the point at which Section 6 and Section 64 of the Negotiable Instruments Act, 1881 had to be amended to recognise a truncated cheque and an electronic image.
• The national automated clearing house handles bulk credits such as salary, dividend and subsidy, and recurring debits under a mandate given once by the customer.
• The Aadhaar enabled payment system allows a customer to withdraw or transfer at a business correspondent by authenticating with a fingerprint, which is what makes banking possible without a card or a telephone.
• The Bharat Bill Payment System is an interoperable layer for recurring bills, and the national electronic toll collection system is the basis of the tag used at toll plazas.

3. The National Payments Corporation of India

Most of the retail systems are operated by a single institution whose legal character is unusual and is frequently asked about.

• It is a company, incorporated in 2008 under what was then Section 25 of the Companies Act, 1956 and is now Section 8 of the Companies Act, 2013, that is a company formed for a purpose other than profit, which may not pay a dividend and must apply its income to its objects.
• It was promoted by a group of banks at the initiative of the Reserve Bank and the Indian Banks' Association, and its shareholding has since been broadened across public sector, private sector, foreign, cooperative and regional rural banks.
• It is not a regulator. It is a system provider holding authorisations under the Payment and Settlement Systems Act, 2007, and it is regulated and supervised by the Reserve Bank like any other provider.
• Its operating circulars bind its member banks as a matter of contract, because membership is contractual, and they are the instrument through which transaction limits, dispute rules and charge structures are actually implemented.

The new umbrella entity framework

To reduce that concentration the Reserve Bank issued a framework for authorisation of pan-India new umbrella entities for retail payment systems on 18 August 2020. Its features are instructive because they are deliberately set against the existing arrangement.

• Minimum paid up capital of five hundred crore rupees, and a minimum net worth of three hundred crore rupees to be maintained at all times.
• A holder of more than twenty five per cent of the paid up capital is deemed a promoter, and no promoter or promoter group may hold more than forty per cent. The promoter side must also be able to show an upfront capital contribution of at least ten per cent.
• The entity must be owned and controlled by residents, and its promoters must have at least three years' experience in the payments ecosystem as a payment system operator, a payment service provider or a technology service provider.
• Unlike the existing operator, such an entity may be for profit.
• Permitted activities include setting up and operating new payment systems, operating clearing and settlement systems and managing their risks, and interacting and exchanging information with the systems operated by the existing corporation, which is the interoperability condition that makes competition meaningful.

4. Interoperability and the pricing question

Two policy choices shaped the Indian payment system more than any statutory provision.

Interoperability

A payment system is worth more to each user the more users it has, which means a closed system has every incentive to stay closed once it is large. The Reserve Bank has therefore mandated interoperability at successive layers: between card networks at the point of sale, between prepaid payment instruments, between the unified payments interface and prepaid wallets, and between bill payment operators. The effect is that a user's choice of provider does not determine whom he can pay, which removes the network advantage that would otherwise entrench the first mover.

The merchant discount rate

The merchant discount rate is the charge a merchant pays on a card or digital transaction, out of which the issuing bank, the acquiring bank and the network are paid. In 2019 Parliament removed it entirely for two systems.

• Section 269SU of the Income-tax Act, 1961 requires every person carrying on business with a turnover exceeding fifty crore rupees to provide facilities for accepting payment through the prescribed electronic modes, which are the domestic card network's debit card, the unified payments interface and its quick response code.
• Section 10A of the Payment and Settlement Systems Act, 2007 provides that no bank or system provider shall impose any charge upon a person making or receiving a payment by those prescribed modes.
• Section 271DB of the Income-tax Act, 1961 imposed a penalty of five thousand rupees for every day of failure to provide the facility.
• The obligations took effect from 1 January 2020.
• The Income-tax Act, 2025 replaced the Act of 1961 from 1 April 2026, and the obligation to provide the prescribed electronic modes, on the same turnover threshold of fifty crore rupees, now sits in Section 187 of the new Act.

The cost of the choice is that the system is not self financing. The issuing bank, the acquiring bank and the operator bear the expense of running an instrument on which no revenue may be charged, and the gap is met by government incentive schemes and by the banks' own calculation that the relationship is worth more than the transaction. Whether that is sustainable at scale is the standing policy debate in this field, and both sides carry weight: zero pricing is what produced universal adoption, and a system no one is paid to operate is a system no one has an incentive to improve.

5. Quick Revision

1. Gross settlement eliminates exposure between participants; net settlement creates it, which is why settlement finality matters.
2. Cheque truncation required the Negotiable Instruments Act, 1881 to be amended to recognise an electronic image.
3. The national payments corporation is a system provider under the Act of 2007, regulated by the Reserve Bank like any other.
4. Its operating circulars bind members contractually, not as legislation.
5. The umbrella entity framework permits a for profit competitor, with a resident ownership and experience requirement.
6. Interoperability is mandated layer by layer to prevent a closed system entrenching itself.
7. Zero merchant discount rate applies only to the prescribed modes, and not to credit cards or to other card networks.

6. Frequently Asked Questions

What is the difference between RTGS and UPI?

They solve different problems. Real time gross settlement settles each instruction individually across accounts that banks hold with the Reserve Bank, so when it completes, central bank money has moved and no participant is owed anything by another. That is why it carries a minimum of two lakh rupees: the elimination of settlement risk is expensive and is worth paying for only on large sums. The unified payments interface is an instruction layer sitting above the immediate payment service. For the customer the money moves instantly; between the banks the obligation is netted and settled afterwards. The customer experience is faster, but the interbank exposure is real until settlement, and it is protected by Section 23 rather than eliminated.

Is the National Payments Corporation of India a government body?

No. It is a company registered under the provision for companies formed with charitable or similar objects, now Section 8 of the Companies Act, 2013, and it is owned by banks rather than by the Government. It was set up at the initiative of the Reserve Bank and the Indian Banks' Association, and the Reserve Bank regulates it, but regulation is not ownership. The practical consequence is that its circulars are contractual obligations binding its members, not subordinate legislation, and that a dispute with it is ordinarily a contractual dispute rather than a public law one, though its monopoly position and statutory authorisation have supported arguments that it discharges a public function.

Why is there a minimum of two lakh rupees for real time gross settlement but no maximum?

Because the system is designed for the risk at the top of the distribution, not the volume at the bottom. Settling an instruction individually in central bank money consumes liquidity, since the sending bank must have the full amount available at the moment of settlement rather than only the netted difference. That is a sensible price for a transfer of several crores and an absurd one for a transfer of two thousand rupees, which the netted systems handle at a fraction of the cost. There is no maximum because the larger the transfer the stronger the case for eliminating settlement risk altogether.

Who pays for a transaction on which no charge may be levied?

The banks and the operator, in the first instance. Section 10A of the Act of 2007 forbids any charge on a payer or a beneficiary for the prescribed modes, and Section 269SU of the Income-tax Act, 1961, now Section 187 of the Income-tax Act, 2025, compels larger merchants to accept them, so the revenue that would ordinarily fund the system is simply removed. The gap has been met partly by government incentive schemes for the acquiring side, and partly by the judgement of banks that the deposit relationship and the data are worth more than the transaction fee. The prohibition does not extend to credit cards or to other card networks, where a merchant discount rate continues to be charged, so the market has in effect been split into a priced segment and an unpriced one.

What does interoperability actually require?

That a customer of one provider be able to transact with a customer or a merchant of another without either changing providers. In practice it has been imposed at four layers: between card networks, so that any card works at any terminal; between prepaid payment instruments, so that one issuer's wallet can pay another's; between wallets and the unified payments interface, so that a wallet balance can be spent anywhere the interface is accepted; and between bill payment operators, so that any biller can be paid through any channel. The new umbrella entity framework carries the principle one level higher by requiring a new entity to exchange information with the existing systems, so that a competing network does not fragment the country's payments.

What did cheque truncation change in the law of negotiable instruments?

It changed what a cheque is. A cheque was historically a physical instrument, and payment depended on the paying banker seeing it. Truncation stops the cheque at the collecting bank and sends an electronic image together with the magnetic ink character recognition data instead. That required the Negotiable Instruments Act, 1881 to be amended so that a cheque includes the electronic image of a truncated cheque and a cheque in electronic form, and so that a paying banker who pays against the image, after exercising due diligence on its apparent genuineness, has the same protection as one who pays against paper. Without those amendments the paying banker would have had no statutory protection at all.

Why does India have one dominant retail payments operator rather than several?

Because the model was chosen deliberately, and the trade-off is accepted openly. A single not for profit operator has no incentive to price for margin, which is what made a national system cheap enough to reach very small transactions, and a single set of standards removes the fragmentation that competing closed networks would produce. The cost is concentration risk: one institution's failure would halt most of the country's retail payments. The framework for new umbrella entities of 18 August 2020 is the answer to that, permitting a competing for profit operator subject to capital, ownership and experience requirements, and requiring it to exchange information with the existing systems so that competition does not come at the price of interoperability.

What happens when the beneficiary account does not exist?

The credit cannot be applied, and the system treats it as a failed transaction rather than as a completed payment. Under the circular on turn around times the beneficiary bank must return the amount so that the remitter's account is re-credited within the outer limit for that channel, T plus one day for the immediate payment service, the unified payments interface and the national automated clearing house, and the remitter is entitled to compensation of one hundred rupees for each day of delay beyond it, credited without any claim being made. What the framework does not do is protect a remitter who typed a valid but wrong account number, because the instruction was then carried out as given; there the remedy lies in the bank's good offices with the unintended recipient.

7. Related Topics and Provisions

• The Payment and Settlement Systems Act, 2007
• Prepaid payment instruments, tokenisation and the digital rupee
• Electronic banking and customer liability for unauthorised transactions
• Cheques, crossing and the paying banker
• Small finance banks and payments banks
• Cyber security, outsourcing and operational risk in banks