In the current Indian Economy there are many Frauds Happening in the Banking Sector. The major fraud in the banking sector is Loan Fraud. Loan fraud  is when a borrower intentionally deceives a lender by providing false information, or by omitting important information during the loan application process or during the currency of such loan. Such fraud in India is regulated as per the directions of RBI. The situation has become so much worse that RBI has even given a thought to establish a new bank for Bad Loans which would take over the existing bad loans in the economy and that bank would be in complete control of RBI. The latest and the most famous Loan Fraud is of Kingfisher Airlines.

For the purpose of loan fraud RBI has designed a complete framework for dealing with loan frauds.  Following are the main components of the Framework:

Objective: 

The core objective of this framework is early detection  of fraud. For this RBI has given a timeline with stagewise actions in the loan life cycle which would aid to the early resolution of bad loans. It has also defined certain steps to be followed once fraud is detected. The early detection of Fraud and the necessary corrective action are important to reduce the quantum of loss which the continuance of the Fraud may entail.

 Early Warning Signals (EWS) and Red Flagged Account (RFA):

Early warning signals are those triggers based on which the Core Banking System (CBS) identifies that specific account which needs special attention. RBI has given a illustrative list of EWS for the which the banks may configure their CBS. Although, each bank can form their own EWS list based upon their experience, client profile and business models

Red Flag generally in Forensic Audit means an indication which entails a probability of something being out of generic nature. As per the Framework of RBI RFA is one where a suspicion of fraudulent activity is thrown up by the presence of one or more EWS. These signals in a loan account should immediately put the bank on alert regarding a weakness or wrong doing which may ultimately turn out to be fraudulent. As soon as an EWS is triggered for an account then it must be used to launch a detailed investigation into that specific loan account.

As per the latest master circular of RBI, threshold for EWS and RFA is ₹ 50 Crores or more. This limit of ₹ 50 Crores has to be considered for irrespective of the lending agreement. i.e. Solo Banking or Consortium. As soon as EWS is triggered in any such account the same has to be immediately reported to (Central Repository of Information on Large Credits) CRILIC platform.

Each and every bank must form a Fraud Monitoring Group (FMG) or a similar committee to monitor such accounts and all of those accounts must be reported to CEO/CMD at the end of each month for review. Additionally, a report on the RFA accounts shall be put up to the Special Committee of the Board for monitoring and follow-up of Frauds (SCBF) providing, inter alia, a synopsis of the remedial action taken together with their current status.

Early Detection and Reporting:

For the purpose of early detection and reporting of Fraud RBI has given following checks to be applied during the different stages of loan life-cycle.

• Pre Sanction: All the banks must conduct a thorough Background Check on the promoters of the company and the also collect relevant data from the industry before sanction of any loan. It should also keep a complete record of all such searches conducted.
• Disbursement: It should be ensured that before disbursement of loan, all the terms of sanctions must be adhered to and also the sanctioning authority may specify certain specific terms and conditions which should not be diluted.
• Annual Review: Over and above the regular credit monitoring process banks should also collect information from the grapevine, following up stock market movements, subscribing to a press clipping service, monitoring databases on a continuous basis and not confining the exercise only to the borrowing entity but to the group as a whole.

Where Bank is the Sole Lender:

In a case where EWS is identified it is left to the discretion of FMG to classify the account as RFA or not. Once it is classified as RFA it will take a further call to appoint forensic auditors for the purpose of detailed investigation into the account.

Consortium Banking:

Certain fraudulent borrowers continue enjoying credit facilities under consortium banking even after defrauding one of the financing banks by  siphoning off funds by operating account in banks other than the one on which fraud is being perpetrated. Also at certain times same security is offered to different banks and credit is obatined on the same.

Any major concerns from the fraud perspective noticed at the time of annual reviews or through the tracking of early warning signals should be shared with other consortium / multiple banking lenders immediately.  The initial decision to classify any loan account as RFA or Fraud will be at the individual bank level and it would be the responsibility of this bank to report the RFA or Fraud status of the account on the CRILC platform so that other banks are alerted, after which the banks must report such fraud to RBI within 21 days of such detection.

Additionally, within 15 days of RFA classification the bank would ask the consoritum leader to convene a JLF meeting of all the lenders. The same must be convened within the 15 days of the request being received.  In case there is a broad agreement, the account should be classified as a fraud; else based on the majority rule of agreement amongst banks with at least 60% share in the total lending, the account should be red flagged by all the banks and subjected to a forensic audit commissioned or initiated by the consortium leader or the largest lender under MBA. All banks, as part of the consortium or multiple banking arrangement, shall share the costs and provide the necessary support for such an investigation.

The Forensic Audit must be completed within a maximum period of 3 months from the date of JLF meeting authorising the audit. Within 15 Days of the completion of Forensic Audit JLF shall reconvene and decide on the status of the account, either by consensus or the majority rule. In case the decision is to classify the account as fraud, the RFA status shall be changed to Fraud in all banks and reported to RBI and on CRILIC platform within a week of the said decision. Additionaly, within 30 days of the RBI reporting, the bank commissioning/ initiating the forensic audit should lodge a complaint with the CBI on behalf of all banks in the consortium.

The overall time allowed for this complete exercise is six months from the date when the first member bank reported the account as RFA/Fraud on the CRILIC platform.

Banks are required to lodge the complaint with the law enforcement agencies immediately on detection of fraud. There should ideally not be any delay in filing of the complaints with the law enforcement agencies since delays may result in the loss of relevant ‘relied upon’ documents, non-availability of witnesses, absconding of borrowers and also the money trail getting cold in addition to asset stripping by the fraudulent borrower.

Other Aspects of Framework:

• A proper whistleblower policy must be defined in each bank so that Employees are easily to report their grievances without having any fear.
• During the course of audit also if any major discrepancies are found then they should be immediately reported to the appropriate authority.
• Providing various incentives for early detection and reporting of Loan Frauds.
• RBI has also provided certain measures to be taken to make officials of the bank accountable in case there involvement is found.
• Stringent penal measures for the Fraudulent Borrowers to discourage the loan frauds.

Even though RBI has tried to implement a robust framework for the loan frauds, every now and then one would hear the news of a company facing liquidity crunch and due to which all the major PSU facing huge losses. For a detailed study of the framework kindly refer the RBI Master Directions on Frauds – Classification and Reporting by commercial banks and select FIs.

RBI – Loan Frauds Framework