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Title: Statutory Bank Branch Audit - Technical and Practical Aspects


1
Statutory Bank Branch Audit - Technical and
Practical Aspects
  • CA. Rajkumar S. Adukia
  • radukia_at_vsnl.com /rajkumarfca_at_gmail.com
  • http//www.carajkumarradukia.com
  • 093230 61049/098200 61049

2
Agenda
  1. General
  2. Pre commencement of work
  3. Understanding the banking business
  4. Audit Planning
  5. Audit procedures
  6. Audit Reports

3
General
4
History of banks
  • In 1920 Imperial bank was established
  • The Reserve Bank of India was established as the
    Central bank of the country in 1935 under an act
    called  Reserve Bank of India Act,1934
  • In 1955, the Imperial Bank of India was
    nationalised and was given the name "State Bank
    of India".
  • On the suggestions of Narsimham Committee, the
    Banking Regulation Act was amended in 1993 and
    thus the gates for the new private sector banks
    were opened.

5
Types of banks
  1. Nationalised banks
  2. Co-operative banks
  3. Private sector banks
  4. Foreign banks
  5. Regional rural banks

6
Special kinds of business undertaken by bank
branches
  1. Foreign exchange business
  2. NPA recovery business
  3. Service branches dealing in Clearing house
    operations business
  4. Corporate banking and Industrial finance business
  5. Personal banking business
  6. Housing finance business
  7. SSI business
  8. Agricultural finance business

7
Pre-commencement Work
8
Pre-commencement Work
  • Beginning of audit cycle is from receipt of
    appointment letter
  • Check the compliance u/s. 226 (3) with regard to
    qualifications and disqualifications of auditors
  • (concurrent ,Internal,Revenue,
    Stock,System, Credit Risk or other Special Audits
    conducted in same previous year)
  • Decision for Acceptance or Rejection of
    Assignment ( Cost Benefit analysis, other
    considerations e.g. time available, expertise
    available)
  • Communication with Previous Auditor by
    Registered AD (clause 8 of First Schedule to the
    Chartered Accountants Act, 1949
  • Finding Out Expected date of submission of
    reports

9
Pre-commencement Work
  • Finding out Scope of work
  • Issue of Engagement Letter under AAS 26.
  • Copy of all circulars of RBI applicable to
    branch have to be obtained and kept ready for
    reference
  • Attending bank branch audit seminars could
    enhance the auditors knowledge on bank audits
  • Banking terminology and schemes should be well
    understood
  • A reading of Guidance note on audit of banks by
    ICAI would provide valuable guidance.
  • It should be ensured that minimum fees is set as
    per RBI circular dated 17th March 2004

10
Disqualifications
  • It should be ensured before accepting the
    assignment that you do not come into following
    category of persons ( Section 226(3) of Companies
    Act 1956)
  • Body Corporate
  • An officer or employee of the Bank
  • A person who is a partner, or who is in the
    employment, of an officer or employee of the Bank
  • A person who is indebted to the Bank for an
    amount exceeding one thousand rupees, or who has
    given any guarantee or provided any security in
    connection with the indebtedness of any third
    person to the bank for an amount exceeding one
    thousand rupees
  • person holding any security of that bank,
    Security means an instrument which carries
    voting rights.

11
Understanding the Banking Business
12
Knowledge of bank business
  • The auditor needs to obtain a level of knowledge
    of bank business that will enable him to identify
    the events, transactions and practices that may
    have significant effect on the financial
    information
  • Knowledge of bank business can be obtained from-
  • Banks annual report to shareholders
  • Internal financial management reports for current
    and previous periods including budget if any
  • Previous year audit working papers
  • Discussion with and Letters seeking Information
    from bank branch Manager
  • Bank policy and procedures manual

13
Knowledge of bank business
  • Usage of knowledge of bank business
  • To develop an overall audit plan
  • To identify areas of special audit consideration
  • To evaluate the reasonableness of accounting
    estimates and management representations
  • To make judgments regarding the appropriateness
    of accounting policies and disclosures

14
Letter seeking information
  • Before actual commencement of audit a letter
    may be written to the management of bank asking
    for following information
  • Organizational chart of bank and bank branch
  • List of departments in the bank branch along with
    name of head of department.
  • Authority and responsibility of each officer in
    the bank
  • Special feature of each banking product
  • Areas where work has been outsourced to outsiders

15
Letter seeking information
  1. Copies of last year annual accounts and current
    year quarterly/half yearly accounts
  2. Information of top 10 borrowers for each kind of
    loan
  3. Instructions issued by Head office for closing of
    accounts
  4. Details of software used by bank
  5. List of reports generated by the software
  6. Accounting policy followed by the bank
  7. Copy of day book

16
Areas where special knowledge about the business
of Bank Branch is required
  • Special Features of Banking Business
  • Special audit considerations in bank branch
    audits
  • Laws applicable to the banking business
  • Internal controls in banks
  • Additional Controls for Computerised Environment
  • Accounting System
  • Accounting standards applicable to bank
  • Formats of Financial Statements ( as per schedule
    III section 29 of Banking Regulation Act ,1949)
  • Important Circulars of RBI

17
Peculiar features of banking business
  • Custody of large volumes of monetary items,
    including cash and negotiable instruments, whose
    physical security has to be ensured
  • Deals in a large volume and variety of
    transactions in terms of both number and value.
  • Operate through a wide network of branches and
    departments, which are geographically dispersed
  • The nature of business which makes it susceptible
    to Frauds by Customers.

18
Special audit considerations in bank branch
audits
  • Effect of the statutory and regulatory
    requirements
  • The scale of banking operations and the resultant
    significant exposures
  • Extensive dependence on IT to process
    transactions
  • Continuing development of new services and
    banking practices
  • Particular nature of risks associated with the
    transactions undertaken by banks

19
Internal controls in bank branch
  1. Work of one staff member is invariably supervised
    / checked by another staff member, irrespective
    of the nature of work
  2. Banks have a system of job rotation among staff
  3. The financial and administrative powers of each
    official / each position are fixed and
    communicated to all persons concerned
  4. Branch managers have to send periodic
    confirmation to their controlling authority on
    compliance of the laid down systems and
    procedures.

20
Internal controls in bank branch
  • All branches of a bank have a unique code number
    which is circulated amongst all offices of the
    bank
  • All books are to be balanced periodically.
    Balancing is to be confirmed by an official
  • Particulars of lost security forms are
    immediately advised to controlling so that they
    can exercise caution
  • Fraud prone items like currency, valuables,
    draft forms, term deposit receipts, travellers
    cheques and other such security forms are in the
    custody of at least two officials of the branch

21
Additional Controls for Computerised Environment
  1. The system maintains a record of all log-ins and
    log-outs
  2. If the transaction is sought to be posted to a
    dormant (or inoperative) account, the processing
    is halted and can be proceeded with only with a
    supervisory password
  3. The system checks whether the amount to be
    withdrawn is within the drawing power.
  4. The system flashes a message if the balance in a
    lien account would fall below the lien amount
    after the processing of the transaction

22
Additional Controls for Computerised Environment
  • Access to the system is available only between
    stipulated hours and specified days only.
  • Individual users can access only specified
    directories and files
  • Exception situations such as limit excess,
    reactivating dormant accounts, etc. can be
    handled only with a valid supervisory level
    password.
  • A user timeout is prescribed
  • Once the end-of-the-day process is over, the
    ledgers cannot be opened without a supervisory
    level password

23
Laws applicable to the banking business
  1. Banking Regulation Act, 1949
  2. Banking Companies (Acquisition and Transfer of
    Undertakings) Act, 1970
  3. Banking Companies (Acquisition and Transfer of
    Undertakings) Act, 1980
  4. State Bank of India Act, 1955
  5. State Bank of India (Subsidiary Banks) Act, 1959
  6. Regional Rural Banks Act, 1976
  7. Companies Act, 1956
  8. Co-operative Societies Act, 1912 or the relevant
    state Co-operative Societies Act.

24
Laws applicable to the banking business
  • Information Technology Act, 2000 
  • Prevention of Money Laundering Act, 2002
  • Credit Information Companies Regulation Act, 2005
  • Securitisation and Reconstruction of Financial
    Assets and Enforcement of Security Interest Act,
    2002
  • Banking Cash Transaction Tax (Chapter VII of
    Finance Act, 2005)
  • Service Tax (Chapter V of Finance Act,1994)
  • Income Tax Act ,1961
  • Securities Transaction tax (Chapter VII of
    Finance (No 2) Act , 2004

25
Laws applicable to the banking business
  • Regulations relating to Foreign exchange
  • FEMA 1999 Notifications ( Nos 1,3,5,8,23 and 26)
  • Master circular issued by RBI on exports and good
    of services dated 1st Oct 2005
  • Master circular issued by RBI on Rupee export
    credit and export credit in foreign currency
    dated 1st July 2005
  • Foreign Trade Policy 2004-09
  • FEDAI Guidelines
  • Banks Internal Guidelines
  • Four categories of Transactions are usually
    undertaken at a branch -
  • Export related transactions
  • Import related transactions
  • Remittances (Inward/Outward)
  • Treasury Operations (Dealing Room/Investments)
  • The bank is required to take an undertaking under
    section 10(5) of FEMA, 1999 from the applicant to
    ascertain and satisfy itself about the purpose of
    transaction

26
Application of other laws not barred
  • As per the section 2 of Banking Regulation Act
    ,1949 the provisions of this Act shall be in
    addition to, and not, in derogation of the
    Companies Act, 1956 , and any other law for the
    time being in force
  • The provisions of the other laws shall apply to
    all proceedings unless they are inconsistent with
    the Banking Regulation act,1949

27
Accounts and balance-sheet
  • Sub-section (1) of section 29 of the Banking
    Regulation Act, 1949 requires every banking
    company to prepare a balance sheet and a profit
    and loss account in the forms set out in the
    Third Schedule to the Act or as near thereto as
    the circumstances admit.
  • Form A of the Third Schedule to the Banking
    Regulation Act, 1949, contains the form of
    Balance Sheet
  • Form B contains the form of Profit and Loss
    account

28
Contents of Balance sheet (Form A)
  • Schedule 1 Capital
  • Schedule 2 Reserve and surplus
  • Schedule 3 Deposits
  • Schedule 4 Borrowings
  • Schedule 5 Other Liabilities and provisions
  • Schedule 6 Cash and bank balance with RBI
  • Schedule 7 Balance with bank and money at
    call and short notice
  • Schedule 8 Investments
  • Schedule 9 Advances
  • Schedule 10 Fixed Assets
  • Schedule 11 Other Assets
  • Schedule 12 Contingent Liability

29
Classification of Advances as per schedule 9
  • Three ways of classification of advances in
    balance sheet as schedule 9 of banking regulation
    act ,1949
  • A)Classification by nature
  • i)Bills purchased and discounted
  • ii)Cash credits, overdrafts and loans repayable
    on demand
  • iii)Term loans
  • B) Classification by security
  • i)Secured by tangible assets       

30
Classification of Advances
  • ii)Covered by bank/ government guarantees
  • iii) Unsecured
  • C) Classification by location
  • I. Advance in India       (i) Priority
    sector       (ii) Public sector       (iii)
    Banks       (iv) Others

31
Classification of Advances
  • II. Advances outside India     (i) Due from
    banks     (ii) Due from others         (a) Bills
    purchased and discounted         (b) Syndicated
    loans         (c) Others

32
Some disclosure items in balance sheet
  1. Capital Adequacy Ratio
  2. Movements in NPAs
  3. Movement of provisions held towards NPAs
  4. Business (deposits plus advances) per employee
  5. Maturity Patterns of deposits, borrowings, loans
    and advances
  6. Exposures to real estate sector,Capital market
  7. Disclosure of Penalties imposed by RBI
  8. Details of Single Borrower/Group Borrower Limit
    exceeded by the bank

33
Contents of Profit and Loss accounts (Form B)
  • Schedule-13 Interest Earned
  • Schedule-14 Other income
  • Schedule-15 Interest expended Schedule
  • Schedule-16 Operating expenses

34
Types of accounting softwares
  • Stand alone branch-level packages
  • Multi-branch solutions
  • Foreign branches
  • Packages for specialized areas
  • Packages for Service branch
  • IT services like KYC
  • Some of the softwares used by banks are Finacle
    (Infosys), Bancs (TCS), and Flex cube (I Flex)

35
Possible Segments in bank business as per AS-17
  • Business segments
  • Treasury
  • Other bank operations
  • Residual operations
  • Geographic Segments
  • Domestic
  • International

36
Possible Related party in banks as per AS-18
  • Parent
  • Subsidiaries
  • Associates/ Joint ventures
  • Key management personnel
  • Relatives of key management personnel

37
Circulars issued by RBI
  • Disclosure in balance sheets dated July 1, 2006
  • Prudential norms on Income recognition,asset
    classification and provisioning relating to
    advances dated 1st July 6
  • Management of advances dated January 22, 2007
  • Loans and advances-statutory and other
    restrictions dated 1st July 2006
  • Guarantees and co-acceptances dated July 1,2006
  • Guidelines for securitisation of standard assets
    dated 1st Feb 2006
  • Prudential Norms on Capital Adequacy dated July
    1,2006
  • Para-banking Activities dated July 1,2006
  • Exposure norms dated October 10 ,2006
  • Cash Reserve ratio and Statutory Reserve ratio
    dated October 11,2006
  • Provisioning Requirement for Standard Assets
    dated Feb 19, 2007

38
Definition of Non performing assets as per
Circular dated 01-07-06
  • An asset, including a leased asset, becomes
    non-performing when it ceases to generate income
    for the bank (Para 2.1.1)
  • A non-performing asset (NPA) is a loan or an
    advance where
  • interest and/ or instalment of principal remain
    overdue for a period of more than 90 days in
    respect of a term loan
  • the account remains out of order in respect of
    an Overdraft/Cash Credit (OD/CC) 

39
Definition of Non performing assets as per
Circular dated 01-07-06
  • the bill remains overdue for a period of more
    than 90 days in the case of bills purchased and
    discounted
  • a loan granted for short duration crops will be
    treated as NPA, if the instalment of principal or
    interest thereon remains overdue for two crop
    seasons.
  • a loan granted for long duration crops will be
    treated as NPA, if the instalment of principal or
    interest thereon remains overdue for one crop
    season. (Para 2.1.2 )

40
INCOME RECOGNITION on NPA
  • Income from non-performing assets (NPA) is not
    recognised on accrual basis but is booked as
    income only when it is actually received (Para
    3.1.1)
  • The Accounting Standard 9 (AS 9) on Revenue
    Recognition' issued by the Institute Of Chartered
    Accountants of India (ICAI) requires that the
    revenue that arises from the use by others of
    enterprise resources yielding interest should be
    recognized only when there is no significant
    uncertainty as to its measurability or collect
    ability.

41
INCOME RECOGNITION on NPA
  • Interest on advances against term deposits, NSCs,
    IVPs, KVPs and Life policies may be taken to
    income account on the due date, provided adequate
    margin is available in the accounts (Para 3.1.2)
  • Fees and commissions earned by the banks as a
    result of re-negotiations or rescheduling of
    outstanding debts should be recognised on an
    accrual basis over the period of time covered by
    the re-negotiated or rescheduled extension of
    credit (Para 3.1.3)

42
Reversal of income
  • If any advance becomes NPA as at the close of any
    year, interest accrued and credited to income
    account in the corresponding previous year,
    should be reversed or provided for if the same is
    not realised.(Para 3.2.1)
  • This will apply to Government guaranteed accounts
    also.
  • Fees, commission and similar income that have
    accrued should cease to accrue in the current
    period and should be reversed or provided for
    with respect to past periods, if uncollected.
    (Para 3.2.2)

43
Categories of NPA
  • Classification is only for the purpose of
    computing the amount of provision that should be
    made with respect to bank advances and certainly
    not for the purpose of presentation of advances
    in the banks balance sheet

44
Categories of NPA
  • Sub-standard Assets - which has remained NPA for
    a period less than or equal to 12 months (Para
    4.1.1)
  • Doubtful Assets - has remained in the
    sub-standard category for a period of 12 months
    (Para 4.1.2)
  • Loss Assets - loss has been identified by the
    bank or internal or external auditors or the RBI
    inspection but the amount has not been written
    off wholly. (Para 4.1.3)

45
Provisioning norms
  • The primary responsibility for making adequate
    provisions for any diminution in the value of
    loan assets, investment or other assets is that
    of the bank managements and the statutory
    auditors. (Para 5.1.1)
  • The assessment made by the inspecting officer of
    the RBI is furnished to the bank to assist the
    bank management and the statutory auditors in
    taking a decision in regard to making adequate
    and necessary provisions in terms of prudential
    guidelines.(Para 5.1.1)

46
Provision on standard assets
  • The banks should make a general provision of a
    minimum of 0.40 percent on standard assets on
    global loan portfolio basis
  • Banks would continue to make provision at 0.25
    per cent for direct advances to agricultural and
    SME sectors in the standard category (as per
    circular issued by RBI on 8th of Nov 2005)
  • A small scale industrial unit is an undertaking
    in which investment in plant and machinery does
    not exceed 1 crore except in certain specified
    items under hosiery,hand tools, drugs.
    Pharmaceuticals. Stationery items and sport goods
    where investment limit has been extended to Rs. 5
    crore
  • Units with investment in Plant and machinery in
    excess of SSI limit and upto Rs 10 crore may be
    treated as medium enterprise (circular dated
    19/08/2005)

47
Provision on sub standard assets (Para 5.4)
  • A general provision of 10 percent on total
    outstanding should be made
  • The unsecured exposures which are identified as
    substandard would attract additional provision
    of 10 per cent.
  • The provisioning requirement for unsecured
    doubtful assets is 100 per cent.
  • Unsecured exposure is defined as an exposure
    where the realisable value of the security, as
    assessed by the bank is not more than 10 percent

48
Provision on Doubtful assets ( Para 5.3)
  • 100 percent of the extent to which the advance is
    not covered by the realisable value of the
    security
  • In regard to the secured portion, provision may
    be made on, at the rates ranging from 20 percent
    to 100 percent of the secured portion depending
    upon the period for which the asset has remained
    doubtful

49
Provision on Doubtful assets ( Para 5.3) Contd
Period for which the advance has remained in doubtful category Provision requirement ()
Up to one year 20
One to three years 30
  More than three years (i) outstanding stock of NPAs as on March 31, 2004     (ii) advances classified as doubtful more than three years on or after April 1, 2004 60 per cent with effect from March 31, 2005 75 per cent with effect from March 31, 2006 100 per cent with effect from March 31, 2007 100 percent with effect from March 31, 2005
50
Provision on Loss assets (Para 5.2)
  • Loss assets should be written off. If loss assets
    are permitted to remain in the books for any
    reason, 100 percent of the outstanding should be
    provided for

51
Audit Planning
52
Importance of Audit Planning
  • Well planned is half done
  • One should know destination to plan well
  • Good planning leads to effective reporting. Audit
    destination is report ( to express opinion on
    financial statements)
  • Audit planning helps in controlling audit risks

53
Considerations for overall audit Plan
  1. The terms of his engagement and any statutory
    responsibilities
  2. The nature and timing of reports or other
    communication
  3. The applicable legal or statutory requirements
  4. The accounting policy adopted by bank and changes
    in these polices
  5. The identification of significant audit areas
  6. The degree of reliance he expects to be placed on
    accounting systems and internal control

54
Considerations for overall audit Plan
  • The nature and timing of audit evidence obtained
  • The work of internal auditors and extent of their
    involvement
  • The involvement of expert
  • The allocation of work to be undertaken between
    joint auditors and procedures for its control and
    review
  • Establishing and coordinating staffing
    requirements

55
Audit Programme
  • An audit program can contain following columns
  • Particulars
  • Closing Balance
  • Sample Size
  • Criteria for selection of data in sample
  • Date/ Months/ Period
  • Action to be taken
  • Person In charge

56
Audit Procedures
57
Audit Procedures
  • 1.   Inspection
  • 2.   Observation
  • 3.   Inquiry confirmation
  • 4.   Computation
  • 5. Analytical Procedures
  • Audit Documentation and Audit Evidence are
    outcome of Audit procedures AAS 3 and AAS 5

58
Inspection and observations
  • Inspection consists of examining records,
    documents, or tangible assets
  • The auditor inspects in order to
  • Be satisfied as to the physical existence of
    material negotiable assets that the bank holds
  • Obtain the necessary understanding of the terms
    and conditions of agreements (including master
    agreements) that are significant individually or
    in the aggregate in order to
  • - Consider their enforceability and
  • - Assess the appropriateness of the accounting
    treatment they have been given.

59
Inquiry and Confirmation
  • The auditor inquires and confirms in order to
  • Obtain evidence of the operation of internal
    controls
  • Obtain evidence of the recognition by the banks
    customers and counter parties of amounts, terms
    and conditions of certain transactions
  • Obtain information not directly available from
    the banks accounting records.

60
Key ratios for analysis
  • Non-performing loans to total loans
  • Cash and liquid securities (for example, those
    due within 30 days) to total assets
  • Interest income as a percentage of average
    interest bearing assets
  • Non-interest expense as a percentage of operating
    income
  • Capital adequacy ratios
  • Return on average total assets

61
Analytical procedures
  • Analytical procedures consist of the analysis of
    significant ratios and trends including the
    resulting investigation of fluctuations and
    relationships that are inconsistent with other
    relevant information or deviate from predicted
    amounts
  • By using analytical procedures, the auditor may
    detect circumstances that call into question the
    appropriateness of the going concern assumption,
    such as undue concentration of risk in particular
    industries or geographic areas and potential
    exposure to interest rate, currency and maturity
    mismatches.

62
Verification of Advances
  1. General
  2. Verification of Advances against goods
  3. Verification of advances against fixed deposits
  4. Verification of advances vehicles
  5. Verification of advances immovable property
  6. Verification of advances against insurance policy
  7. Verification of advances against shares
  8. Verification of advances against bills purchased
    and discounted

63
1. Verification of loans and advances (General)
  • Check the individual balance in each loan ledger
    with the trial balance book
  • Verify the head office sanction /renewal for
    advances sanction as per appropriate authorities
  • See that margins are maintained in respect of
    secured advances
  • Examine that the operation of each advance is
    reviewed at least once in a year

64
Verification of loans and advances (General)
  • Examine that advances represent amount due to the
    bank
  • All the necessary documents (e.g., agreements,
    demand promissory notes, letters of
    hypothecation, etc.) should be executed by the
    parties before advances are made
  • Advances are classified in such a way that
    information required in schedule 9 of Banking
    Regulation Act, 1949 can be gathered.

65
2.Verification of advances against goods
  • Examine the stock statements and ascertain that
    the loans availed is with in the drawing
    power/limits sanctioned
  • Verify that letter of hypothecation has been
    executed in favour of bank
  • Verify that charge is duly registered with ROC in
    case of loan on hypothecation to limited company
  • Verify the fire insurance policy and ascertain
    that polices are alive as at 31st March 2006
  • Banks should have a system in place to ensure
    that the borrower does not avail the advantage
    double financing on same stock, i.e., financing
    from bank for the portion of stock not paid to
    the creditors

66
3. Verification of advances against fixed
deposits
  • See that banks lien have been marked on deposit
    receipts as in their respective ledger folio
  • See that no advance is granted against duplicate
    receipt without proper verification
  • In case of advances against deposit receipts of
    other branches ,to verify the intimation to that
    branch to mark the lien and to see that the same
    has been acknowledged by other branch
  • See that deposit receipts /pass books/ cash
    certificates have been duly discharged in favor
    of bank at the time of discharge

67
4. Verification of advances against vehicle
  • Verify the copies of registration certificate
  • See that vehicle has been comprehensively insured
    and verify the bankers clause in insurance
    policy
  • Test check the original certificate and ascertain
    that endorsement is made in favor of bank

68
5.Verification of advances against immovable
property
  • Go through the legal opinion of banks lawyer
    about title of property to the borrower
  • Verify the latest tax receipts towards the
    payment of property tax and verify the
    encumbrance certificate
  • Verify the valuation reports for the fixed assets
    charged to bank
  • Verify whether building has been properly insured
    and policy has been taken in the joint name of
    bank and the mortgagor

69
6.Verification of advances against insurance
policy
  • Scrutinise the insurance policy and ascertain the
    surrender value
  • If surrender value is subject to payment of
    certain premium the amount of such premium has
    been deducted from the surrender value
  • Verify the latest premium receipts
  • Verify whether policies have been duly assigned
    by the insured in favour of bank and assignment
    is noted by insurance company

70
7. Verification of advances against shares
  • Loan against security of shares to individuals
    should not exceed Rs 10 lakh per individual
    borrower in case securities are in physical form
    and Rs 20 lakh if securities are held in demat
    form (Para 3.4.3 of Master circular exposure
    norms)
  • A uniform margin of 50 shall be applied on all
    advances against shares ( Para 3.4.6 )
  • Bankers lien should be noted in Demat account of
    the client
  • If the person in whose name the securities are
    registered is other than the borrower, the bank
    satisfy itself that the person has a good title
    to the security. The bank also obtains a letter
    of renunciation from the person in whose name the
    securities are registered.

71
8.Verification of advances against bills
purchased and discounted
  • All the outstanding bills have been taken in the
    balance sheet
  • All the details, including the nature of the
    bills and documents, are mentioned in the
    register and that the bills have been correctly
    classified
  • The bills purchased or discounted from different
    parties are in accordance with the agreements
    with them and the total of outstanding bills of
    each party is not in excess of the sanctioned
    limit
  • The bills are not overdue. If there are any
    overdue bills, the auditors should ascertain the
    reasons for the delay and the action taken by the
    bank

72
Advances against working capital
  • The assessment of working capital requirement of
    borrowers, other than SSI units, requiring fund
    based working capital limits upto Rs.1.00 crore
    and SSI units requiring fund based working
    capital limits upto to Rs.5.00 crore from the
    banking system may be made on the basis of their
    projected annual turn over (Para 2.1 of
    Management of advances)
  • The working capital requirement is to be assessed
    at 25 of the projected turnover(including excise
    duty) to be shared between the borrower and the
    bank, viz. borrower contributing 5 of the
    turnover as net working capital (NWC) and bank
    providing finance at a minimum of 20 of the
    turnover.(Para 2.2)
  • For example, in case, annual turnover of a
    borrower is projected at Rs. 60.00 lakh, the
    working capital requirement will be computed at
    Rs. 15.00 lakh (i.e. 25) of which Rs. 12 lakh
    (i.e. 20) may be provided by the banking system,
    while Rs. 3.00 lakh (i.e. 5 ) should be
    borrower's contribution towards margin money.
    (Para 2.6)

73
End use of Funds
  • In cases of project financing, banks ensure end
    use of funds by, inter alia, obtaining
    certification from the Chartered Accountants
  • In case any falsification of accounts on the part
    of the borrowers is observed by banks, Banks can
    lodge a formal complaint against the auditors of
    the borrowers, with Institute of Chartered
    Accountant of India (ICAI) if it is observed that
    the auditors were negligent or deficient in
    conducting the audit to enable the ICAI to
    examine and fix accountability of the auditors
    (Para 6.8 of Management of advances )

74
Diversion of Funds
  • Diversion of funds would be construed to include
    any one of the under-noted occurrences
  • Utilisation of short-term working capital funds
    for long-term purposes not in conformity with the
    terms of sanctions
  • Deploying borrowed funds for purposes /
    activities or creation of assets other than those
    for which the loan was sanctioned
  • Transferring funds to the subsidiaries / group
    companies or other corporates by whatever
    modalities
  • Routing of funds through any bank other than the
    lender bank or members of consortium without
    prior permission of the lender
  • Investment in other companies by way of acquiring
    equities / debt instruments without approval of
    lenders
  • Short fall in deployment of funds vis-à-vis the
    amounts disbursed / drawn and the difference not
    being accounted for.
  • (Para 6.3 of management of advances )

75
Documentation
  • A certificate stating that the Branch did not
    hold any investments on behalf of the Head Office
    (if there are no such investments held by the
    Branch
  • List of large advances i.e. those in respect of
    which the outstanding amount is in excess of 5
    of the aggregate advances of the Branch or
    Rs.2.00 crores whichever is less duly certified
    by the Branch Manager
  • A copy of the letter from Head Office regarding
    Sanction limit of the Branch Manager

76
Documentation
  • List of cases where the Branch has not obtained
    stock/book debts statements at the end of the
    year
  • List of cases where insurance copies are yet to
    be received at the end of the year
  • A copy of the Head office instructions for
    identification of NPAs and classification of
    advances
  • List of major items pending for reconciliation
    under Inter-Branch Accounts
  • List of all fraud cases reported to RBI as fraud
    upto March 31st

77
Documentation AAS 3
  • Following certificates should be obtained from
    management
  • Cash Retention Limit duly certified by the Branch
    Manager
  • A photo copy each of the confirmation
    certificates for Balances with RBI, SBI and other
    banks
  • A copy of the reconciliation statement in respect
    of differences in such balances with RBI, SBI and
    other banks List of overdue or matured
    investments at the end of the year duly confirmed
    by the Branch Manager

78
Computer Assisted Audit Techniques (CAAT)
  • CAAT are computer programs and data that the
    auditor uses as part of the audit procedures to
    process data of audit significance, contained in
    an entitys information systems
  • CAAT may be used in performing various
    auditing procedures, including the following
  • Tests of details of transactions and balances,
    for example, the use of audit software for
    recalculating interest or the extraction of
    invoices over a certain value from computer
    records

79
Computer Assisted Audit Techniques (CAAT)
  • Analytical procedures, for example, identifying
    inconsistencies or significant fluctuations
  • Tests of general controls, for example, testing
    the set-up or configuration of the operating
    system or access procedures to the program
    libraries or by using code comparison software to
    check that the version of the program in use is
    the version approved by management
  • Sampling programs to extract data for audit
    testing
  • Reperforming calculations performed by the
    entitys accounting systems.

80
Audit Reports
81
Various Reports/Certificates
  1. Tax Audit Report
  2. Position of Advances above certain amount
  3. PMRY Audit Certificate
  4. DICGC Certificate
  5. Verification on Friday Statements
    Certificate(Form X sec 27)
  6. Service Tax Certificate
  7. Income on Insurance Business
  8. Frauds

82
Various Reports/Certificates(Contd.)
  • Ghosh Committee Recommendations
  • Jilani Committee Recommendations
  • LFAR
  • MOC-Classification
  • MOC-Income Recognition
  • Other reports
  • AUDIT REPORT- U/S 30 OF The Banking Regulation
    Act,1949 r.w.s.228(3) of the Companies Act,1956

83
Special purpose certificates in banks
  • Certificate for advances to infrastructure
    project and income generated thereon
  • Certificate of reconciliation of securities by
    the bank
  • Certificate of advances exceeding 10 crores
  • Certificate pertaining to credit/deposit ratio
  • Certificate of cash and bank balances

84
Plan for each Report separately
  • Effective planning requires separate plan for
    each report
  • Find out common data and interlinking in various
    reports
  • (Jilani committee is on internal control
  • Ghosh committee is on Fraud, EDP controls,
    internal Checks
  • LFAR has many issues on internal control it is
    like audit programme and check list)

85
LFAR
  • Reserve bank of India (RBI) advised the current
    format of LFAR (LFAR) for the banks from their
    auditors vide circular number DBS.CO.PP.BC.11/11.0
    1.005/2001-2002 dated April 17, 2002
  • This report is not substitution of the statutory
    report, neither a part of the said report. LFAR
    is actually a management Report.
  • Matters required to be reported by the auditor in
    LFAR are illustrative not exhaustive
  • The Statutory Branch Auditors should address LFAR
    to Chairman of Bank, Copy to Central Statutory
    Auditors (Para 1 of LFAR)
  • At times though audit qualifications are included
    in the LFAR, they are not highlighted in the main
    Audit Report Every adverse comment would not
    result in Qualification in main audit report.
    Auditor has to use his professional judgment
    having regard to the facts and circumstances of
    each case. (Para 3 of LFAR Questionnaire)

86
Major Clauses in LFAR
  • I Assets
  • 1. Cash
  • 2. Balance with RBI ,SBI and other banks
  • 3. Money at call and short notice
  • 4. Investments
  • 5. Advances
  • 6. Other Assets
  • II Liabilities
  • 1. Deposits
  • 2. Other Liabilities
  • 3. Contingent liabilities
  • III Profit and Loss account

87
Major Clauses in LFAR
  • IV General
  • 1. Books and records
  • 2. Reconciliation of Control and subsidiary
    records
  • 3. Inter branch accounts
  • 4. Audits/ Inspections
  • 5. Frauds
  • 6. Miscellaneous
  • Questionnaires Applicable to Specialized Branches
  • For Branches dealing in Foreign Exchange
    Transactions
  • For Branches dealing in very large advances in
    excess of Rs. 100 crores
  • For Branches dealing in Non Performing Assets
    such as Asset Recovery Management Branches.
  • For Branches dealing in Clearing House
    Operations, normally referred to as Service
    Branches

88
Ghosh Committee
  • High level Committee on fraud and malpractice in
    banks under chairmanship of Shri A. Ghosh ex
    deputy governor
  • To enquire into various aspects of frauds and
    malpractices in bank
  • To make recommendations to reduce such incidence.
  • Committee submitted report in June,1992
  • The report is divided into Groups A,B,C,D with A,
    B and D having 2 parts each, Group C having one
    part.
  • Out of 97 Recommendations 27 required to be
    reported exclusively at Branch level, 43
    exclusively at RO/ZO/HO level and 27 at both
    levels

89
Four groups under Ghosh Committee
  • Group A -Recommendations which have to be
    implemented by the banks immediately
  • Group B- Recommendations requiring RBI approval
  • Group C- Recommendations requiring approval of
    Government of India
  • Group D Recommendations requiring further
    examination in consultation with IBA

90
Main objectives of Ghosh Committee
  • Safety of assets
  • Compliance with laid down policies and procedures
  • Proper segregation of duties and responsibilities
    of staff
  • Timely prevention and detection of frauds and
    malpractices

91
Jilani Committee
  • Working group to review the internal control and
    inspection and audit system in banks under the
    chairmanship of Mr. Rashid Jilani. The committee
    submitted its report in July 1995
  • Objective was to review the efficacy and
    adequacy of internal control and inspection and
    audit system in a bank with a view to
    strengthening the supervisory system and
    reliability of data
  • The Implementation form is divided into 25
    points,10 of them are applicable on a Bank
    branch.

92
S No Recom no in WG report Nature of recommendation Implementation Status at Branch Implementation Status at RO\ZO Implementation Status at HO
13 39 Follow up on major/serious irregularities detected during Concurrent audit to be immediately taken up with HO. Time bound plan for rectification should be made. Fraudulent transactions to be reported to vigilance/ chief of inspection
14 41 Small and Medium sized Branches to rectify irregularities pointed out during inspection/audit within 4 months
93
S No Recom no in WG report Nature of recommendation Implementation Status at Branch Implementation Status at RO\ZO Implementation Status at HO
15 44 Auditors and inspector to get the majority of irregularities rectified during their stay at branches concerned and guide them with it.
16 45 Immediate action to be taken to plug gaps in serious irregularities\Revenue leakages which have surfaced due to loopholes in existing procedures
94
S No Recom no in WG report Nature of recommendation Implementation Status at Branch Implementation Status at RO\ZO Implementation Status at HO
19 53 Appropriate Control Measures should be devised and documented to prevent the computer system from attack of unscrupulous elements.
20 54 Various Tests to be carried out to ensure that EDP applications have resulted in consistent and reliable system for inputting, processing and generation of output of data
95
S No Recom no in WG report Nature of recommendation Implementation Status at Branch Implementation Status at RO\ZO Implementation Status at HO
22 59 Entire domain of EDP activities be brought under scrutiny of Inspection and Audit department.
23 61 For bringing about uniformity of software, a formal method of change be approved by the management.
96
S No Recom no in WG report Nature of recommendation Implementation Status at Branch Implementation Status at RO\ZO Implementation Status at HO
24 71 Completion of enquiries expeditiously and bringing to book delinquent staff so as to deter other from frauds. Internal vigilance machinery to be strengthened and reviewed by board every 6 months
25 74 Regular checking by inspectors and auditors to verify correctness of information regarding asset classification, Income recognition and provisioning.
97
Reporting under Banking Regulation act,1949
  • As per section 30(3) of a banking regulation act
    ,1949 an auditor is required to state in his
    report of a banking company incorporated in India
    the following --
  • (a) whether or not the information and
    explanations required by him have been found to
    be satisfactory
  • (b) whether or not the transactions of the
    company which have come to his notice have been
    within the powers of the company

98
Reporting under banking regulation act ,1949
  • (c) whether or not the returns received from
    branch officers of the company have been found
    adequate for the purposes of his audit (not
    applicable to bank branch)
  • (d) whether the profit and loss account shows a
    true balance of profit or loss for the period
    covered by such account
  • (e) any other matter, which he considers should
    be brought to the notice of the shareholders of
    the company

99
Non applicability of CARO, 2003
  • Statement of companies (Auditors Report )
    order 2003 is not applicable to banking company
    as defined in clause (c) of section 5 of Banking
    regulation act.1949
  • Banking company means any company, which
    transacts the business of banking in India
  • Any company which is engaged in the manufacture
    of goods or carries on any trade and which
    accepts deposits of money from the public merely
    for the purpose of financing its business as such
    manufacturer or trader shall not be deemed to
    transact the business of banking

100
PEER REVIEW CONSIDERATIONS
  • Compliance with technical standards
  • Office system and procedure
  • Quality of reporting
  • Training of staff
  • Quality Review Board ( Proposed Section 28A to 28
    D )
  • All services will be covered

101
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