Bank Frauds in India

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Bank Frauds in India : EmergingChallenges

Dr. V. S. Kaveri

Abstract

While the banking system in India witnesses a steady growth in total

business and profits, the amount involved in bank frauds is on the rise.

This is a matter of concern for bank management and Reserve Bank of

India. These bank frauds seem to be innovative in terms of modus of

operandi and are pretty huge by size. This unhealthy development in

the banking system produces not only loss to banks but also affects

their credibility adversely. Hence, it calls for a study of nature andextent of bank frauds, their modus of operandi, institutional

arrangements for conducting investigation and preventive strategies.

For such study, it is necessary to collect the relevant data relating to

bank frauds, examine policy guidelines of Reserve Bank of India and

progress made in preventing frauds. The present paper is based on

comprehensive analysis of bank frauds in India and examines

emerging challenges before the banking system.

Keywords: Bank fraud modus of operandi KYC norms Anti Money

Journal of Commerce & Management Thought

Vol. V-1, 2014, pp.14-26

DOI : 10.5958/j.0976-478X.5.1.002


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It is disheartening to observe that amount involved in bank frauds inIndia is on the rise whose impact on the banking system is significant. This

disrupts the working financial markets, banking system and payment system.Now a day, modus of operandi in bank frauds seems to be innovative, calling

for new detection and prevention of bank fraud approaches. This paper

attempts to analyze profile of frauds portfolio, modus of operandi and

conduct of instigation and offers suggests new approaches for prevention of

frauds.

The report of the Study Group on Large Bank Frauds, Reserve Bank of

India defines a bank fraud as a deliberate attempt /act of omission orcommission by any person carried out in the course of a banking transaction

or in the books of accounts maintained manually or under computerized

environment in banks, resulting into a gain to any person for a temporary

period or otherwise, with or without any monetary gain or loss to the bank

(1). Most of the frauds are detected by receiving anonymous complaints,

while taking charge by a new branch manager, through reconciliation of

entries in the nominal accounts/dormant accounts, by enforcement securitiesfor recovery, during the branch inspection and audit etc. To suggest

preventive strategies, it is necessary to analyze fraud related statistics.

Profile of Frauds Portfolio

The recent report of the Association of Certified Fraud Examiners

(ACFE), 2012 states that amount of frauds reported by the banking sector in

India has gone up steeply from Rs 2013 crore during 2008-09 to Rs. 8646

crore during 2012-13. Certain data relating to bank frauds are now availablerelating to (i) size of frauds and (ii) category of frauds (2). Regarding size of

frauds, as per Table 1, as on March end, 2013 the cumulative number of

frauds in the banking system and the amount involved in bank frauds stood

at 1,78,547 and Rs.31,401 crores respectively. Most of the frauds are

committed in commercial banks both in terms of number and amount

involved therein.

Bank Frauds in India... 15


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Table 1 : Frauds in the Banking Sector

(As on March end, 2013)

Table 2 : Large value Frauds in Commercial Banks

A granular approach suggests that nearly 80% of fraud cases with an

amount of less than Rs. 1 lakh while on aggregate basis; the amount involved

in such cases was only around 20% of the total amount involved. Similarly,

large value frauds involving amount of Rs. 50 crores and above, moved up

by ten times from 3 cases in 2009-10 , with an amount of Rs. 404.13 crores)

to 46 cases in 2012-13 with an amount of Rs. 5334.75 crores (Table 3).

Journal of Commerce and Management Thought V - 116


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Table 3 : Amount wise Bank Frauds

Further, as seen from Table 4, analysis of bank group wise data as on

March end, 2013 suggests that, while the private sector and foreign banks

group accounted for a majority of frauds by number (82.5%), the public

sector banks witnessed nearly 83.0% of the amount involved in frauds

.(Table 4)



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Table 4 : Bank Groupwise Fraud cases

(As on March end, 2013)

The amount involved in bank frauds in relation to total volume of

banking business seems to be insignificant. To elaborate, the number of

deposit accounts in the banks over the last ten years, between 2002 and 2012,

has gone up from 43.99 crores to 90.32 crores, while the number of loan

accounts in the same period has also more than doubled from 5.64 crores to

13.08 crores. On an average, the number of transactions per day is roughlyestimated at 10 crores. But, the number of frauds per million banking

transactions was about 0.4 which is not a very figure. But the amount

involved in bank frauds as on March end, 2013 was as high as Rs.30, 000

crores which is a matter of concern.

(ii) Category of frauds: Broadly, the frauds can be divided into three

categories: (a) technology related (b) deposits -KYC related and (c) advances

related. But data are available only for technology related and advancesrelated frauds (Table 5):



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Table 5 : Cumulative Total of Technology and Advances Related Frauds(As on March end, 2013)

As seen from the above, around 65 % total numbers of fraud cases

reported by all banks are technology related, covering frauds committed

through / at internet banking channel and other alternate payment channels

like debit/credit/prepaid cards. Further, the predominance of new private

sector banks and foreign banks in the number of technology related frauds is

convincing as they lead the technology enabled service delivery in the Indian

banking sector. Though the amount involved in technology related frauds

may be small from banks perspectives, these are significant from the view

point of individuals who are the victims of such frauds. Therefore, in the

banks own interest, it is necessary to ensure that they are constantly on guard

and up to the challenge of providing a secure environment for customers to

conduct banking transactions. Similarly, advances related frauds need a

special attention since the advances portfolio accounted for a major

proportion (64%) of the total amount involved in frauds. Most of advances

related frauds in terms of the amount involved are in public sector banks.

Therefore, it calls for the study of modus of operandi for prevention.

Modus of Operandi

Since the advances - portfolio accounts for the largest share in the total

amount involved in frauds in the banking industry, it is attempted to discussmodus of operandi in detail. The major items of modus of operandi advances



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finance, removal of goods hypothecated/pledged and siphoning of sale

proceeds, availing of loan against fake National Savings Certificates, seeking

bank finance against accommodation bills, sanctioning ad-hoc credit facility

to non-client, issue of LCs/guarantees without recording in the branch books,

loan sanction beyond powers delegated more frequently, loan sanction by the

controlling office without involving branch etc. Bank loan is expected to be

utilized for the agreed purposes. Often, we come across instances when a

borrower deliberately attempts to cheat the bank right at the stage pre-

operational stage by inflating the cost of land to cover the promoter's

contribution, making unavoidable and unauthorized additions to building,

purchase of a machinery from a sister concern at high value , high

preoperative expenses to cover margin money etc. Similarly, attempts are

also made during the operational stage by deliberately showing less revenue

in the books of accounts, classifying good quality finished goods as rejected

ones, appointing kith and kin as sole selling agents, allowing the unit's

machinery being used by outsiders for job work and not showing the

revenue in the books of accounts, letting the unit's premise to a sister concern

at a nominal rent, lending to sister concern at nominal return, appointing

relatives on high pay-scale, utilizing services of employees for personal ends,

appointing of their kith and kin as consultants on high fees and borrowing

from friends and relatives at usurious rates of interest selling fixed asset as

scrap. All these are deliberate attempts by a borrower leading to a bank fraud.

Similarly in deposit related areas, the common modus of operandi to

commit frauds are in the nature of opening of new fictitious deposit accounts

by persons not properly identified by the bank followed by depositing of

fake/stolen/forged instruments in such accounts and then withdrawing

proceeds and manipulation in inward/outward clearing and by passing

unauthorized entries in the books accounts. The other modus of operandi may

be if the form of issuing drafts without consideration, giving free access to

unidentified so called middlemen/ agents of the original depositor and

withdrawing the amount, debiting suspense/sundries account for gaining

monetary benefit, laxity in the safe custody of critical stationary etc.



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arises largely due to laxity in security related aspects, lack of checks and

balances on service providers, absence of IT audit, heavy dependence on few

computer literates in the bank, lack of internal control and supervision in IT

area etc.

Prevention of Bank Frauds Initiatives from RBI/Govt of India

From time to time, RBI has been issuing guidelines on KYC norms to

prevent fraudsters to open deposit accounts in banks with lax KYC drills or

accounts which remain inoperative for long. Prevention of Anti Money

Laundering Act, 2002 has helped in preservation and reporting of certain

information such as cash transaction of more than Rs 10 lakhs, fake notes,suspicious transactions such as those relating to terrorist activities. It is

mandatory for banks to report such information to RBI. As part of

prevention of frauds, RBI circulates a list of terrorist organizations among

banks. Similarly, a list of willful defaulters is circulated by CIBIL among

banks. On the advice of RBI, banks have to freeze assets of suspicious

parties. Similarly, stricter norms have been introduced by RBI to appoint

Correspondent Bank abroad by banks to avoid so called Shell Bank whichis in existence only on paper. Similarly, it is mandatory for a customer

depositing an amount of more than Rs. 50,000 in a bank to state PAN in the

pay-in-slip. As per the Forensic Laws, scrutiny of legal documents is

compulsory for high value advances to detect early warning signals of fraud.

Security aspects relating to electronic transfer of funds are given the top most

importance by banks which have taken several initiatives.

Regarding investigation of bank frauds, banks have to follow guidelinesfrom Govt of India and RBI. Accordingly, each bank should have a Chief

Vigilance Officer (CVO) to investigate frauds committed by the staff up to

Rs 25 lakhs after informing police and RBI. Frauds beyond Rs 25 lakhs

should be referred to CBI. Chief Vigilance Commissioner (CVC) guides in

the matters concerning investigation of large value bank frauds. Banks have

to report frauds involving an amount of more than Rs. 1 crore to RBI which

creates a data-base and issues a circular discussing modus of operandiinvolved in such frauds. Lastly, RBI has made stock audit, credit audit and



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irregularity in lending operations and symptoms of frauds. Despite these

initiatives, efforts need to be strengthened to prevent frauds for which certain

suggestions are offered..

Suggestions

Prevention of Frauds

Regarding advances related frauds, if these are reported early, it is

possible to initiate preventive and corrective action timely. Unfortunately,

this does not happen. It takes almost 12-15 months in declaration of the same

case as fraud by banks. Which not only enables the borrower the banking

system to large extent, but also allows him considerable time to erase the

money trail and queer the pitch for the investigating agencies? In most of the

cases it is noticed that advances related frauds arise due to deficiencies in

credit appraisal, follow up and supervision. Majority of frauds are brought

to the notice of bankers during the recovery which is initiated only when the

account becomes NPA. These indicate laxity in post disbursement

supervision and follow up of advances portfolio by banks. It is often found

that banks do not share important information in the consortium meetings.

Consequently, we come across cases of frauds by raising loans from different

banks against the same security etc. Cases of collusion between borrower and

audit firms & Valuers by making fabricated statements, over-valuing the asset

value etc leading to frauds, are also witnessed.

With the growing number of technology related frauds, it is high time

for banks to constantly monitor the typology of the fraudulent activities andregular review and update security features to prevent easy manipulations by

hackers, skimmers, phishes etc. With cyber attacks becoming more frequent,

banks should introduce minimum checks and balances like introduction of

two factor authentication in case of card not present transactions, converting

all strips based cards to chip based cards for better security, issuing debit

cards and credit cards only for domestic usage unless sought specifically by

the customer, putting threshold limit on international usage of debit cardsand credit cards, constant review of the pattern of card transactions in



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transactions etc. to minimize the impact of such attacks on banks as well as

on customers(3). Todays major concern relates to Electronic modes Though

it is the responsibility of the user to ensure that unique ID and password are

properly secured and do not get misused due to his/her laxity, the banks, on

their part, should also confirm that that these payment channels are safe and

secure. In this regard, the RBI has advised banks to introduce preventive

measures such as putting cap on the value/ number of beneficiaries,

introducing system of issuing alert on inclusion of additional beneficiaries,

velocity checks on number of transactions effected per day/per beneficiary,

considering introduction of digital signature for large value payments ,

capturing internet protocol check as additional validation check for any

transaction etc. Similarly, we do come across frauds by way of replication of

data contained in genuine debit cards and credit cards onto duplicate cards.

Therefore, it is necessary for banks to improve peripheral and system

security on ATM locations and, at the same time, educate their customers

about using their payment cards with due caution. Similarly, cases of

circulation of fraudulent e-mails and SMS messages conveying of prize

money have become matter of common occurrence in recent times. For this

purpose, fraudsters generally use deposit accounts in banks with lax KYC

drills or accounts which remain inoperative for long. Banks, therefore, not

only need to caution their customers to guard against such temptations

against such easy money but should also ensure that deposit accounts

maintained with them are fully complaint. The banks should also have a

system of generating alerts to monitor transactions in accounts which are

non-operative for long or where transactions are not in conformity withgeneral trend and customer risk profile. With the spread of mobile banking,

banks would also need to closely engage with the telecom service providers

to reduce the technology related risk.

Investigation of Frauds and Fixing Staff Accountability

After noticing a fraud, the process of investigation starts to fix staff

accountability. In general, it is experienced in public sector banks, manyneeds to be done to improve the quality of investigation. There is sufficient



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officials are included in the probe. In advance related fraud investigations, it

is observed that junior officials are made accountable for lack of

postsanction supervision and ignore lapses on the part of higher officials are

involved in loan sanction. Similarly in consortium advances, the onus of due

diligence remains with the leader of consortium and not on the other

members of the same which is not correct. Staff accountability should be

fixed on the concerned officials of all the banks of the consortium. Many a

times, the internal investigation is kept on hold when the probe is handed

over to external investigation agencies which are not advisable from the point

of view of early completion of investigation.

Role of the Supervisor in Bank Frauds

Good corporate governance serves as a very important factor in control

of fraudulent activities. RBI has indicated that fraud risk management , fraud

monitoring and fraud investigation function must be owned by the banks

CEO & Audit Committee of the Board.(ACB) and , the Special Committee

of the Board in respect of large value frauds. These should evolve robust

fraud risk management systems and in implementing effective fraud riskmitigating measures. Similarly, the Board and ACB should ensure periodical

review of the procedures and process to ensure that the banks interests are

not impacted adversely due to loopholes in their policy guidelines. It is

imperative that the Top Management puts in place targeted fraud awareness

training for employees focusing prevention and detection of fraud. Regarding

the internal audit machinery, it is suggested to arrange specialized training to

internal auditors to detect frauds during the audit. Information sharing is avital fraud prevention and alert mechanism. On its part, Reserve Bank

promptly shares information with all banks diluting the modus of operandi of

fraud cases reported by any bank together with details of the entities involved

in the perpetration of such frauds in the form of confidential advices. This

also serves to encourage periodic review of existing guidelines, identify

loopholes on the basis of caution of advices, if any, and corrective steps.

Reserve Bank has also issued instructions requiring banks to reportnegligence or involvement of entities like chartered accountants, Valuers and



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bodies for appropriate deterrent action. Today, most banks have put in place

a system of checking the credit history of the borrower through credit

information companies. Considering that fraudulent borrowers could still

seek credit from the banking system even after defrauding one bank, it may

be worthwhile to consider setting up a fraud registry on the line Credit

Information Bureaus

Banking Operations

Bank policies relating to job rotation in the branch should be strictly

followed. Similarly, branch manager or officer working in a critical banking

operation should be asked to go on leave at least once a year. At the branchlevel, recording and checking should not be done by the same person.

Standard of living of star performers in the banks should be kept under watch.

Newly opened accounts with unusual banking operation should be under

check. Timely rectification of entries in Suspense Accounts and

reconciliation of entries in Clearing Adjusted Account should be ensured.

Operations in dormant accounts, if any, should be under watch. Branch staff

to be trained in fraud prone areas and prevention of fraud. Adequatesafeguards should be ensured in respects of TTs, DDs and Pay Orders. Timely

submission of critical returns and statements by the branches is very much

important. Above all, banks have to strengthen concurrent audit system in

banks to detect frauds at the earliest (4).

Conclusion

Though the number of bank funds is coming down, the amount involved

in them is on the rise. The small value technology related and other

transactional frauds, as a proportion to the number of daily banking

transactions, are very miniscule and are manageable. But large value frauds

are mostly advances related and, these are very much observed in public

sector banks. Hence, there is a need to strengthen post sanction formalities

through collective efforts. In particular, involvement of the top management

in banks in review of large advances is called for. In consortium meetings,

banks have to exchange information about conduct of borrowable accounts

and symptoms of irregularity if any should be brought to the notice of the



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should be made efficient to conclude at the earliest and fix staff

accountability suitably. It is also necessary to strengthen relationship among

investigation agencies. Thus, the banking system should collectively ensure

that the fraudsters do not have access to banking facilities. More importantly,

it is necessary to discourage unscrupulous activities by strengthening the

fraud detection through prompt identification, investigation and exchange

information. Lastly, it is high time to develop confidence in the minds of

customers by keeping frauds under check through safety and high quality

governance in banking operations.

References

1. Report of the Study Group on Large Bank Frauds, Reserve Bank of India, 1998.

2. Frauds in the Banking Sector: causes, concerns and cure, Inaugural speech delivered

by Dr K.C. Chakraborty, Deputy Governor, RBI, on July 26, 2013 during the National

Conference on Financial Frauds, organized by ASSOCHAM at New Delhi.

3. RBI Circular on Security and risk measurements for electronic payment transactions,

February 28, 2013.

4. Report of the Committee to enquire various aspects of frauds and malpractices in Banks,

appointed by RBI, 1991.

The Author

Dr. V. S. Kaveri is Visiting Professor, the National Institute of Bank Management

(NIBM), Pune, Maharashtra.

E-mail: [email protected] Received on : 20th Oct. 2013



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Bank Frauds in India