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Banking on Banks

With the ICICI Board giving sanction to prosecute ex-MD & CEO Chanda Kochhar for alleged illegal loans, financial scams are under the scanner. Is the system foolproof enough to protect consumer interests?

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By Sanjay Raman Sinha

Recently, the ICICI Bank Board gave sanction to prosecute its former Managing Director and CEO Chanda Kochhar under the Prevention of Corruption Act in the Videocon loan case. However, the Board has said that no wrongful loss was caused to the Bank in the loan transaction. Other officials involved have been prosecuted.

In accordance with the Prevention of Corruption Act, the approval of the Bank’s Board is required as the bank employee is held to be a public servant. The Board is duty-bound to evaluate the evidence and make a decision on grant of sanction for prosecution.

Kochhar has been accused of irregularities in the sanctioning of loans to the Videocon Group when she was heading the bank. The CBI had alleged that she had approved the loans just a day after her businessman-husband Deepak Kochhar’s firm received Rs 64 crore from the company. This amounted to misuse of her official position, apart from charges of embezzlement.

The CBI is probing a loss of Rs 1,730 crore to ICICI Bank through six loan transactions, two of which were approved by a sanctioning committee in which Kochhar was involved. She has also been charged with cheating and criminal conspiracy under the Indian Penal Code.

Earlier, the Bombay High Court had ordered the release of Kochhar and her husband on bail, stating that their arrest by the CBI in the loan-fraud case was “unacceptable”. The two judge bench had noted that “investigations should not be used as a tool of harassment”. The bench also stressed the role of courts in protecting personal liberty. In a scathing indictment of CBI’s modus operandi, the bench noted that its reasons for arrest were “casual, mechanical, perfunctory, clearly without application of mind”.

The Indian Penal Code does not recognise banking fraud as a separate offence. Various provisions of the IPC are applied in such cases. The term “fraud” is defined under Section 17 of the Indian Contract Act, 1872, and lists the acts that amount to it. It includes activities undertaken by a contracting party and its connivance in perpetrating a fraud. The penalty for perpetrating fraud includes a fine and imprisonment.

The Information Technology Act, 2000, also has provisions for punishment and penalties for frauds committed using computers. The Act also provides for imprisonment up to three years for tampering with computer documents and systems. Banking frauds are essentially white collar crimes and the accused makes use of loopholes in the banking and financial system to execute it.

There are broadly three categories of frauds: technology related, KYC related and advances related. The highest fraud amount comes from advance related frauds and is mostly in the public sector.

The seriousness and implications of banking frauds can’t be easily overlooked. In 2018, the RBI had cautioned that the banking industry was under significant stress from ever increasing bad loans and rise in bank frauds. The RBI annual report for 2018-19, said that the number of frauds reported by banks increased by 15% in 2018-19 on a year-on-year basis. Public sector banks accounted for the majority of frauds reported in 2018–19, with 55.4% of the cases reported and 90% of the money involved. 

The RBI’s current data underlines the crisis. The fourth quarter ending March 2023 had payment frauds of over Rs 800 crore. Last year, the RBI data had indicated that the country lost at least Rs 100 crore every day to bank frauds or scams over the past seven years. Maharashtra accounted for 50% of the money involved, followed by Delhi, Telangana, Gujarat and Tamil Nadu. 

In the case of Pradeep Kumar And Another vs Postmaster General And Others (2016), the Supreme Court had held that if an employee of a bank/financial institution commits a fraud, then the institution can be held liable as well. This verdict shifts the onus from the employee to the organisation. So it is imperative for an organisation to establish strong, fool-proof internal mechanisms to detect and curb frauds. A detailed standard operating procedure is the need of the hour. 

In 2016, the RBI had issued a Master Circular on Frauds, which was classification and reporting by commercial banks and select financial institutions. The aim was to provide a framework to banks to detect and report frauds early and taking timely action.

The Supreme Court, however, found the RBI’s Master Circular on Fraud in defiance of principles of natural justice. It was concluded that the decision to classify an account as fraud jeopardises the business of the borrower. The promoters and directors are barred from availing credit at least for five years; no restructuring is permissible. Giving prior notice and providing the opportunity of hearing to the borrower is thought to be essential for natural justice.

In a separate case in March 2023, a two-judge bench of Chief Justice DY Chandrachud and Justice Hima Kohli had ruled that borrowers must be heard before their accounts are classified as fraud. This implies that banks will now have to install a proper process, including a provision to hear the borrowers whose accounts are labelled as fraud. 

In 2018, the Central Vigilance Commission analysed the top 100 bank frauds in the country and suggested that any sudden spurt in business growth should be thoroughly investigated. Monitoring of systems, MIS generation, housekeeping and internal control of banks have to be strengthened. Controlling Offices have to receive the details of all loans sanctioned under the power of the branch along with related account wise appraisal notes. Returns should be critically scrutinised. There should be due diligence in sanctioning loans and observations of the bank’s system and procedures should not be diluted.

In most fraud cases, transactions are usually long drawn and extremely complex. In organised crime, which may have a transnational character also, there may be a number of people involved. The problem is to identify all the transactions and accused persons and the exact nature of their involvement. Collecting evidence from other nations and pursuing overseas accused is an onerous task. Vijay Mallya and Nirav Modi are cases in point.

However, the rate of banking scams has abated in the last few years. Figures testify to this. 

Banks reported 9,103 frauds in 2022. The frauds involved Rs 60,414 crore. In comparison, frauds reported in financial year 2021 were 7,359, but the fraud amount was Rs 1.38 lakh crore. Loan frauds account for 96% of the total. The total value of bank frauds decreased from Rs 1.38 trillion to Rs 604 billion. From Rs 67,760 crore in 2015-16, the quantum of money lost to fraud dipped to Rs 59,966.4 crore in 2016-17. 

Does this mean that bankers have outsmarted defrauders? With increased focus on internal surveillance and better standard operating procedures, scams may have been curbed, but the detection of fraud remains slow. The RBI report says that “there is a significant time-lag between the date of occurrence of a fraud and its detection”. A rise in the number of reported frauds would also mean increased vigilance in tracing them. The increased use of technology in banking, especially online banking, has increased customer vulnerability.

In the financial year 2022, nearly 40% of the frauds were of cards and online transactions. This was an uptick of about 30% in the figures of the last two years. Clearly, better systems need to be put in place to curb online frauds. 

At the end of the day, the ball will always be in the RBI’s court. As the regulator and supervisor of banking and financial institutions, it is its duty to ensure watertight internal security mechanisms and ensure compliance from the players.

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