Ceertificaate Co

ourse
on
C
Concu rrent Auditt of Banks


Conttents:

1. Legal a
and Regulatory Fram
me wo
ork

2. KYC no
orms & Oblligation
n of baanks un
nder
Preven
ntion o
of Mon
ney Lau ng Act (PMLA
underin A
2
2002)

3. Effectiv
ve Con
ncurren
nt Audiit & Reeportin
ng

4. Stock
S aand Bo
ook Deebt Aud
dit

5. Diligen
nce Rep
ports fo
or Ban
nks

Co
ompiled
d by:
CA
A. Nayaan R. Ko
othari
 Legal & Regulatory Framework

__________________________________
CA. Nayan R. Kothari
M. Com., FCA, NET (UGC)

CA. Nayan R. Kothari 1

Course Objectives
• To supplement the effort of the banks in carrying
out internal check of the transactions and other
verifications and compliance with the procedures
laid down;
• To improve the effectiveness of concurrent audit
system in banks;
• To improve quality and coverage of concurrent
audit reports.

F.No 7/124/2012 - BOA

MASTER CIRCULAR ON AUDIT SYSTEMS - 26TH SEPTEMBER 2012.
OBSERVATION
• MULTIPLICITY OF OVERLAPPING AUDITS IN PUBLIC SECTOR BANKS
• ENGAGE LOT OF ATTENTION, RESOURCES & TIME
• INCREASING COMPUTERIZATION AND SHIFTING OF OPERATIONS
ON IT BASED SYSTEMS
• PRESENT AUDIT SYSTEM LAGS TECHNOLOGY ADVANCEMENT
AREAS OF CONCERN
 70 % OF BANK BUSINESS UNDER CAS
 IRREGULARITIES / FRAUDS NOT UNDER CONTROL
 SA HAS BECOME ROUTINE AND NOT MUCH EFFECTIVE

--- POST IMPLEMENTATION OF CBS IN PSB’s

3
 UNDERSTANDING OF THE CURRENT TREND
GENERAL PRINCIPLE
• PROPER OFF-SITE MONITIRING CELL TO
APPRISE TOP MANAGEMENT OF SERIOUS
IRREGULARITIES
• SOFTWARE BASED AUDIT PROCESS
• SYSTEM EXPOSURE MANDATORY FOR DGM
PROMOTION
 SUITABLE TRAINING PROGRAMS

TYPES OF AUDITS.
RISK BASED INTERNAL AUDIT
• FREQUENCY SHALL BE UNIFORMLY FIXED
(9-12 M) (12-15 M) (15-18 M)
• SPOT RECTIFICATION CLOSURE BY 90-120 DAYS.

IS AUDITS
• SEPARATE IS AUDIT TEAMS
• CISA QUALIFIED PROFESSIONALS
• CONTINUOUS IS AUDIT ESSENTIAL PART OF IA

CONCURRENT AUDIT
• RBI PANEL AS PER GRADATION
• SUBSTANTIVE CHECKING OF HIGH RISK AREAS
- CREDIT RISK, STATUTORY COMPLIANCE RISK
- FRAUD RISK, REVENUE RISK
• INTERACTION WITH INTERNAL AUDIT DEPARTMENT
(QUARTERLY)
• FEEDBACK TO CA , REVIEW ON ANNUAL BASIS
• STATUTORY AUDITORS FUNCTION TO BE
TRANSFERRED NPA PROVISIONING, INSURANCE COVERAGE, P&L ACCOUNT
ALM, CRAR, DICGC, LFAR & TAX AUDIT.

6
 LEGAL Framework
• Banking Regulation Act, 1949
• 10 Parts – 56 sections and 5 Schedules
• Law relating to banking and provide for nature of
transaction carried out by banks in India.
• Provision of Power of RBI to control advances ,
accounts, audit
• Restriction as to minimum paid up capital &
reserves, payment of dividend
• Validation of license
• Power of suspension of business and winding up

Banking Regulation Act, 1949

• Definition of banking & banking company

• Licensing

• Permitted business

• Prohibited business

• RBI’s powers

• Control over management

• Banking means
“ accepting, for the purpose of lending or investment, of deposits
of money from the public, repayable on demand or otherwise,
and withdrawal by cheque, draft, order or otherwise” {Section
5(b)}

• Banking company
“means any company which transacts the business of banking in
India”
Explanation excludes manufacturing and trading company
{Section 5 (c)}

Use of the word “bank”, ”banker”, “banking” or “banking

company” - Section 7
 Permitted Business
• Can carry on business permitted u/s 6
o Borrowing, lending, bill discounting, etc.
• Buying, selling and dealing in bullion
• Buying and selling of foreign exchange
• Traveller’s cheques
• Letters of credit
• Underwriting and dealing in shares, debentures, etc.
• Safe deposit
• Collecting and transmitting of money and securities
• Undertaking/ executing trusts
o Activities that are incidental/ conducive to the promotion/ advancement
of its business
o Central Govt. empowered to notify permitted business

• Act overrides memorandum, articles, etc.

Prohibited business
• Trading prohibited vide Sec 6

• Non-banking assets – Sec 9

o Immoveable property can only be held for own use
o Other – disposed within 7 years
• RBI can give additional 5 year extension

• Restriction on nature of subsidiary companies – Sec

19
o Permitted business u/s 6
o Carrying on banking outside India
o Credit information business
o Other business with RBI and CG approval

Licensing
• RBI empowered to issue & cancel licences
o Section 22 criteria
• Solvency
• Affairs/ management not detrimental to depositor and public interest
• Adequate capital structure and capital prospects
• Public interest will be served
• Grant of licence not prejudicial to operation and consolidation of
banking system
• Foreign banks – home country does not discriminate against Indian
banks
• Other conditions specified by RBI

o New bank licencing requirements

• Branch licencing u/s 23

 Returns
• Section 24
o Monthly return of assets in India
o DTL on reporting Friday
• Section 25
o Quarterly return of assets and liabilities at the close of business on the last
Friday of every quarter
• Section 27
o Monthly return on Asset & Liability position as on last Friday
o RBI empowered to direct banks to furnish information within a specified
time frame
o RRBs also need to submit a copy to NABARD
• Section 26
o Return of unclaimed deposits
• Section 31
o Three copies of annual returns to be submitted to RBI

Inspection
• Section 35
o Inspect books
• Also on direction of
CG
• Copy of report to be
given to bank
• Empowers RBI
Inspecting officer to
examine bank
officials under oath
o Also empowers RBI to
carry out a scrutiny

Powers of RBI

• Sec 35A – Power to give directions

• Sec 35B – Prior RBI approval required for
appointment of Chairman, MD, CEO or director
• Sec 36 – Further powers and functions of RBI
o Caution/ give advice regarding certain transaction/ class of transactions
o Call for meeting of directors, depute its officer to board meeting, appoint
observer, etc
o Report on Trend and Progress in Banking in the country
 Powers of RBI – Control
over management

• Sec 36AA – Power to remove managerial and other

persons from office
o Appeal lies with Central Government

• Sec 35B – Power to appoint additional directors

Other important
provisions
• Sec 14 – Prohibition of charge on unpaid capital
• Sec 15 – Prohibition on payment of dividend unless
intangible assets written off
• Sec 17 – Creation of reserve fund
• Sec 18 – Maintenance of cash reserve ratio (CRR)
• Sec 20 – Restrictions on loans and advances
• Sec 24 – SLR

Applicability of BR Act
• Nationalised Banks
o Banking Companies (Acquisition and Transfer of Undertakings)
Act,1970/1980;
o Section 51 of BR Act makes specific sections applicable

• Regional Rural Banks

o Regional Rural Banks Act, 1976
o Section 51 of the BR Act

• Cooperative Banks
o Cooperative Societies Act. 1912 or the respective Co-operative
Societies Act of the state concerned
o Part V of the B R Act – BR (AACS) Act
Some important RBI instructions in
context of BR Act
• Master Circular
o Loans & Advances – Statutory and other
restrictions
o Branch authorisation
o Cash Reserve Ratio and Statutory Reserve Ratio

• Others
o Restriction on drawdown of reserves
o Guidelines on declaration of dividend

LEGAL Framework
• Banking Companies ( Acquisition and Transfer of
Undertaking ) Act, 1970----1980
• 5 Chapters – 3 schedules – 21 sections

• Provision for acquisition and transfer of the

undertakings of banking companies regard
to size , resources , coverage .

LEGAL Framework
• State Bank of India Act, 1955 :
• 8 Chapters -53 sections- 4 schedules
• Act that constitute SBI and transferred to it
the undertaking of Imperial Bank of India
• To extend banking facilities on a large scale
• To reach out to rural and semi-urban areas
• To mobilize public deposit and advance to
needy people .
 Legal Framework
• State Bank of India ( subsidiary Banks) Act,
1959 : For formation of certain Govt. Or
Govt. associated banks as subsidiaries of SBI

• Regional Rural Banks Act, 1976 : For

incorporation , regulation and winding up of
RRBs.- To develop rural economy by
providing loans for agriculture , trade,
commerce .- To small and marginal farmers ,
artisans

Legal Framework
• Companies Act , 2013 : Sec. 2 of
BR Act , 1949 – provisions of BR Act
shall be in addition to , and not,
save as hereinafter expressly
provided , in derogation of
Companies Act.
• BR Act is to be read as
supplemental to Companies Act.

Legal Framework
• Co-operative Societies Act , 1912 : To
facilitate the formation of Co-op
societies for the promotion of rural
economy of India.
• Relevant State Co-op Societies Act :
To help and support to the small self-
employed persons of limited means.
 Legal Framework
• Information technology Act, 2000 : This act provides
legal back to e-transactions.

• The Indian Penal Code , Indian Evidence Act (1872),

RBI Act ( 1934) are also amended to cover
electronic transactions .

Legal Framework
• Prevention of Money Laundering Act, 2002 :
As per PMLA every banking company ,
financial institution………have to maintain a
record of all transactions : Nature and Value
is prescribed in Rules under PMLA.
• Securitisation and Reconstruction of
Financial Assets and Enforcement of Security
Interest Act, 2002. (SARFAESI): To regulate
securitisation and reconstruction of financial
assets .

Legal Framework
• GST: Introduced in India in July 1, 2017.
o Rates
o Credit Mechanism
o Returns
o Invoicing
• [Service Tax ( Chapter V of Finance Act ,
1994) : Introduced in India in 1994. CBEC ,
Dept. of Revenue , MOF deals with service
tax. Service Tax rates as per Financial Bill]
 Legal Framework
• Income Tax Act , 1961 : Specific
Provisions for banking companies.
• Section 43D
• Section 145
• Section 36(1)(viia)
• Deduction of Tax at Source
• E. filling of TDS quarterly returns
• Tax Audit Report be referred
• FOREX Related reports
• 15 CA/CB

KYC Policies under

PMLA
• Section 3 of PMLA –Offence of money
Laundering .

• Terrorist Financing – It is a reverse procedure

of Money Laundering. Money earned from
legal sources is used for illegal activities.

• KYC Policies : It is to ensure that the bank

system is not used by malafide intention.

Objective Q & A
• Master Circular on Audit System does not deal with:

oStatutory Audit.
oInternal Audit.
oI.S. Audit.
oConcurrent Audit.

30
 Objective Q & A
• Audit is essential for

oHealth of the PSB’s.

oProsperity of the
PSB’s.
oGrowth of the PSB’s.
oDevelopment of
the PSB’s.
31

Objective Q & A
• The banks should move over to

oSoftware based audit process.

oHardware based audit process.
oProfit based audit process.
oRevenue based audit process.

32

Objective Q & A
• Audit Qualification should be rectified by

o120 days.
o110 days.
o100 days.
o090 days.

33
 Objective Q & A
• Concurrent Audit should be allotted from the panel
as per gradation on the basis of

oSize of the Branch.

oSize of the Auditor.
oSize of the Audit.
oSize of the Proximity.

34

Objective Q & A
• Concurrent Audit Performance shall be reviewed
on

• Annual Basis.
• Bi-annual Basis
• Once in Three years
• Once in Five years

35

KYC, AML & CFT Norms

CA. Nayan R. Kothari

February 22, 2021 TC Baroda 36
 Contents

 Background
 Legal Framework – India
 Know Your Customer guidelines
 Record Keeping
 Anti Money Laundering measures

 CFT Norms
 Money Laundering Risk Management
 Furnishing information to FIU- INDIA, New Delhi

37

Background

 Mid 1980s - Growing concern of international community

to deprive criminal elements of the proceeds of their
crimes

 1989 – Financial Action Taskforce (FATF) set up to ensure

global action to combat money laundering in Paris

 1995 - Egmont Group set up to stimulate international

cooperation amongst FIUs at Brussels. Best Practices for
exchange of information. our country has acquired its
membership in 2007

38

Cont…

 1997- Asia/Pacific Group on money laundering (APG) set

up in Bangkok -to create awareness and encourage
adoption of AML measures

 1998 - The International Money-Laundering Information

Network (IMoLIN), a one-stop anti-money-
laundering/countering the financing of terrorism
(AML/CFT) research resource, was established by the
United Nations

39
 Financial Action Task Force (FATF)

 FATF is an inter-Govt. – Policy Making body

 Sets standards & develops/promotes policies
to combat money laundering & terrorist
financing
 36 members – 34 countries + 2 Regional Org.
 More than 20 observers
 40 + 9 Recommendations – recognized by IMF
and World Bank as International Standards

40

Financial Action Task Force (FATF)

 40 Recommendations – Sets out basic

framework for global AML efforts

 Recommendations cover three areas - legal,

financial and regulatory, and law
enforcement

 9 Special Recommendations on Terrorist

Financing – International standard for
combating terrorist financing & related
interpretive notes
41

CFT
COMBATING MEANS FIGHTING

The Financial Action Task Force (FATF) is the global standard

setting body for anti-money laundering and combating the
financing of terrorism (AML/CFT). In order to protect the
international financial system from ML/FT risks and to
encourage greater compliance with the AML/CFT standards,
the FATF identified jurisdictions that have strategic
deficiencies and works with them to address those deficiencies
that pose a risk to the international financial system.

THEREFORE, STRESS HAE BEEN GIVEN FOR INDENTIFICATION

OF CUSTOMER FOR CARRYING OUT BANKING TRANSACTIONS
WHO IS A
CUSTOMER?

43

Who is a Customer

 A person or entity that maintains an account

and / or has a business relationship with the
Bank;

 One on whose behalf the account is

maintained

 Beneficiary of transactions conducted by

professional intermediaries, such as stock
brokers, chartered accountants, solicitors
etc. as permitted under the law;
44

Objective

 The objective of the policy is to prevent

criminal elements from using the Bank for
money laundering activities by enabling the
Bank to know/ understand the customer and
their financial dealings better, which, in turn,
would help the Bank to manage risks prudently
and to put in place appropriate controls for
detection and reporting of suspicious activities
in accordance with the laid down procedures
so as to comply with applicable statutory
guidelines.
45
 Key elements of K Y C
Customer Acceptance - Ensure that you accept only
legitimate and bona fide
customers
Customer Identification – Ensure that you properly identify
your customers to understand the
risks they may pose
Transactions Monitoring –Monitor customer accounts and
transactions to prevent or detect
illegal activities
Risk Management – Implement processes to effectively
manage the risk posed by customers
trying to misuse facilities

46

Customer Acceptance
 Ensure that you accept only legitimate and bona fide
customers

 No account to be opened in anonymous or fictitious

names

 A check on the list of terrorists or banned entities

should be done before opening the account

 If customer does not cooperate or bank is unable to

apply a risk based due diligence do not to open an
account (You can also close an existing account in
case of non-cooperation as above) - KYC is a
regular monitoring activity. 47

Customer Identification

a. While establishing a banking relationship

b. Carrying out a financial transaction or
c. When the bank has a doubt about the veracity/
authenticity or adequacy of the customer data/
documents available
For legal persons/entities the bank should also identify
• any person acting on behalf of the legal entity,
• the ownership and control structure and
• beneficial owners if any
d. Documents required to be based on risk
perception and PMLA prescription

48
 DOCUMENTS TO VERIFY THE NAME\
IDENTIFY OF THE CUSTOMER:
 Passport
 PAN card
 Voter Identify Card
 Driving License with photograph
 Identity Card
 Letter from a recognized public authority verifying
the identity and residence of the customer to the
satisfaction of the branch official authorized to
open account
 Confirmation/ letter from employer/other
bank(subject to satisfactions of the branch official
authorized to open the account) 49

DOCUMENTS TO VERIFY
THE ADDRESS ARE:

 Telephone Bill
 Bank Account Statement
 Electricity Bill
 Ration Card
 Letter from employer to the satisfaction of the
bank

50

OBTAINING PROPER INTRODUCTION:

 Introducer must know and identify the customer &
his profession; he himself should have
satisfactorily operated account for at least 6
months and in his account, KYC norms must have
been fulfilled
 Photograph: A set of two photographs should be
obtained from customer
 Wherever applicable, information on the nature of
business activity, location, mode of payment,
volume of turnover, social and financial etc. will
be collected for completing the profile of the
customer
51
 Transactions Monitoring

 On-going monitoring of transactions for identifying

suspicious and high value cash transactions
 Higher risk accounts and customer relationships will
generally require more frequent or intensive monitoring.
For higher risk situations, the following should be
considered:
 On-going monitoring of transactions for identifying
suspicious and high value cash transactions
 Special attention to all complex, unusually large
transactions and all unusual patterns which have no
apparent economic or visible lawful purpose
 Prescription of threshold limits
 Review of risk classification
 Reporting to law enforcement authority
52

Risk Management
 Categorise each account into High /
Medium / Low Money Laundering Risk
Category

 Branch should therefore prepare a profile

for each customer based on the risk
categorization

 Implement processes to effectively manage

the risks posed by customers trying to
misuse facilities

 Periodical Review of risk classification

53

Risk Categorisation – Four Parameters

 Country – Place of Domicile

 Business Activity

 Type of Banking Services

 Turnover in the account

54
 Risk Parameters- Customers connected
with high-risk countries.
 Geography
1) Drug producing Nations
2) Drug transshipment Countries
3) Drug using Countries
4) Countries with high degree of public corruption
5) Countries linked to Terrorist financing
6) Non Cooperative Countries and Territories

55

Risk parameters- Customers connected

with high-risk business activity
 Money Services Bureaus (money transmitters,
foreign exchange houses etc.)
 Arms, art and antique dealers
 Securities broker / dealers, solicitor firms, CAs, etc.
who are managing pooled accounts on behalf of
clients
 Travel agencies
 Jewel / Gem / Precious metal dealers
 Property dealers / builders
 Car / boat dealerships

56

Risk parameters – High Risk Banking Products

 Any product which allows a non-customer to readily

convert cash to a monetary instrument viz. Travellers
/ Gift Cheque, DD below Rs. 50,000/-

 Any product or service which allows a customer to

readily move from one jurisdiction to another which
conceals the source of those funds viz. Credit Card

 Relevance of the products or services asked to the

nature of business/ account viz. Multi-city cheque
facility to a small retail shop

 Other Examples - Internet Banking

57
 High Risk Accounts

 Accounts of Non-Resident Indian

 Accounts of Trusts, NGOs receiving
donations.
 Accounts of closely held Companies
 Firms with sleeping partners
 Accounts of Politically Exposed Persons
 Non-Face-To-Face Transaction
 Accounts opened by professional
intermediaries
 Fiduciary Accounts
58

Trusts (High Risk)

 Purpose and nature of the Trust

 Verify the identity of Trustees

 Verify the identity of settlers / grantors, protectors

etc.

 Ascertain if there is beneficial ownership –

establish the identity

 Keep close watch on sources and movement of

funds

 Periodical review of the account

59

Companies/ Firms (High Risk)

 Is the account used as “front” for

individuals

 Management and control structure

 Sources and use of funds

 Relationship with sister concerns- financial

dealings

 Nature & location of business and business

profile 60
 Politically exposed Persons (PEPs)
(High Risk)
“Politically Exposed Persons”(PEPs) are
individuals who are or have been entrusted
with prominent public functions in a foreign
country, for example Heads of State or of
government, senior politicians, senior
government, judicial or military officials,
senior executives of state owned corporations,
important political party officials. Business
relationships with family members or close
associates of PEPs involve reputational risks
similar to those with PEPs themselves. The
definition is not intended to cover middle
ranking or more junior individuals in the
foregoing categories.”
61

Non-face to face relationship (High Risk)

 Accounts of NRIs/ non domestic account

 All KYC procedures to be observed
 Third party verification of documents
through correspondents who comply with
KYC regime and are willing to share KYC
information on demand
 Verification of document during visit to India
 Payment through cheque and wire transfer
 Remittance through banking channels

62

MEDIUM RISK CATEGORY

 Medium Risk Country (nationality is irrelevant);

Current Account customers where credit or debit
summations exceed ` 50 Lakh per annum in their
accounts but they do not provide sufficient
documentary proof and other deposit account
customers where credit or debit summations
exceed ` 10 Lakh per annum in their accounts but
they do not provide sufficient documentary proof.

63
 LOW RISK CATEGORY

 All customers not falling under the category of

High/medium Risks are to be classified under Low
Risk category. All borrowal customers, where due
diligence is exercised at the time of granting the
credit facilities

64

NEGLIGIBLE RISK CATEGORY OR APPLICABILITY

OF REDUCED KYC PROCEDURE

 Where a customer intends to keep balance not

exceeding ` 50,000/- in all his/her accounts taken
together in the bank and total credit in all the
accounts taken together not expecting to exceed
Rs. 1lakh in a year of total transaction(Debit and
Credit) do not exceed 2.00lac in year. More so, he
is not in a position to produce documents for the
purpose of opening of account.

65

MONITORING OF TRANSACTIONS
 Monitoring of transactions will be conducted taking
into consideration the risk profile of the account.
Special attention will be paid to all complex, unusually
large transactions and all unusual patterns, which have
no apparent logical or visible lawful purpose.
Transaction that involve large amounts of cash
inconsistent with the normal and expected activity of
the customer will be subjected to detailed scrutiny
 After due diligence at the appropriate level in the
bank, transactions of suspicious nature and/or any
other type of transaction notified under PML Act, 2002
will be reported to the appropriate authority and a
record of such transaction will be preserved and
maintained for a period as prescribed in the Act. 66
 MONITORING OF TRANSACTIONS
 Branches would be maintaining a close watch on
cash transactions (whether deposits or
withdrawals) of Rs,.10 lakh and above in all
deposit and loan accounts and recording the same
separately in the prescribed register.
 In new accounts, withdrawal of Rs. 25,000/- and
above be allowed after concurrence from
Incumbent Incharge. A stamp of “New Account” be
affixed on all leaves of 1st Cheque book issued to
the new customer

67

KYC for Existing Accounts

 Revised guidelines to apply to all the existing

customers

 Accounts should be subjected to risk

classification, minimum KYC and enhanced
due diligence where required

 Transactions in existing accounts to be

continuously monitored for review of
Customer Due Diligence measures
68

PERIODICAL UPDATION OF CUSTOMER IDENTIFICATION DATA

AND REVIEW OF RISK CLASSIFICATION

 In terms of I &AD, Cir No. 12/08 dt 3.3.2008,

Customer Identification Data should once in a
period of 5 year in case of Low Risk Customer and
once in a period of 2 year in Medium and High Risk
Customers.
 RBI has advised banks to review the Risk
Classification of High Risk Customers not less than
once in six months

69
 70

What is KYC? Why is it required?

 KYC means “Know Your Customer”. It is a
process by which banks obtain information
about the identity and address of the customers.
This process helps to ensure that banks’ services
are not misused. The KYC procedure is to be
completed by the banks while opening accounts
and also periodically update the same.

71

What are the KYC requirements for opening a

bank account?

 To open a bank account, one needs to submit a

‘proof of identity and proof of address’ together
with a recent photograph.
 What are the documents to be given as ‘proof
of identity’ and ‘proof of address’?
 The Government of India has notified six documents
as ‘Officially Valid Documents (OVDs) for the
purpose of producing proof of identity. These six
documents are Passport, Driving Licence, Voters’
Identity Card, PAN Card, Aadhaar Card issued by
UIDAI and NREGA Card. You need to submit any one
of these documents as proof of identity. If these
documents also contain your address details, then it
would be accepted as as ‘proof of address’. If the
document submitted by you for proof of identity
does not contain address details, then you will have
to submit another officially valid document which
contains address details.

If I do not have any of the documents listed above to show my

‘proof of identity’, can I still open a bank account?

 Yes. You can still open a bank account known as

‘Small Account’ by submitting your recent
photograph and putting your signature or thumb
impression in the presence of the bank official.

Is there any difference between such ‘small

accounts’ and other accounts

 Yes. The ‘Small Accounts’ have certain limitations

such as:
1) Balance in such accounts at any point of time should not exceed
Rs.50,000
2) Total credits in one year should not exceed Rs.1,00,000
3) Total withdrawal and transfers should not exceed Rs.10,000 in a
month.
4) Foreign remittances cannot be credited to such accounts.
5) Such accounts remain operational initially for a period of twelve
months and thereafter, for a further period of twelve months, if
the holder of such an account provides evidence to the bank of
having applied for any of the officially valid documents within
twelve months of the opening of such account. The bank will
review such account after twenty four months to see if it
requires such relaxation.
Would it be possible, if I do not have any of the officially valid documents,
to have a bank account, which is not subjected to any limitations as in the
case of ‘small accounts’?

 A normal account can be opened by submitting a copy of

any one of the following documents:

Identity card with person’s photograph issued by

Central/State Government Departments,
Statutory/Regulatory Authorities, Public Sector
Undertakings, Scheduled Commercial Banks, and Public
Financial Institutions;
or
letter issued by a gazetted officer, with a duly attested
photograph of the person.

 This, however, is not a general rule and it is left to

the judgement of the banks to decide whether this
simplified procedure can be adopted in respect of any
customer.

Are banks required to categorise their

customers based on risk assessment?

 Yes, banks are required to classify the

customers into ‘low’, ‘medium’ and ‘high’
categories depending on their AML risk
assessment.

Do banks inform customers about this risk

categorisation?

No
If I refuse to provide requested documents for KYC to my
bank for opening an account, what may be the result?

 If you do not provide the required documents

for KYC, the bank may not be able to open your
account.

Can I open a bank account with only an

Aadhaar card?

 Yes, Aadhaar card is now accepted as a proof of

both, identity and address.

What is e-KYC? How does e-KYC work?

 e-KYC refers to electronic KYC.

 e-KYC is possible only for those who have Aadhaar
numbers. While using e-KYC service, you have to
authorise the Unique Identification Authority of
India (UIDAI), by explicit consent, to release your
identity/address through biometric authentication to
the bank branches/business correspondent (BC). The
UIDAI then transfers your data comprising name,
age, gender, and photograph of the individual,
electronically to the bank/BC. Information thus
provided through e-KYC process is permitted to be
treated as an ‘Officially Valid Document’ under PML
Rules and is a valid process for KYC verification.
Is introduction necessary while opening a bank
account?

 No, introduction is not required.

Whether KYC is applicable for Credit

Cards/Debit Cards/Smart Cards?

 Yes. Application of full KYC procedure is

necessary before issuing Credit Cards/Debit
Cards/Smart Cards and also in respect of add-on/
supplementary cards.

83

I do not have a bank account. But I need to

make a remittance. Is KYC applicable to me?

 Yes. KYC exercise needs to be done for all those

who want to make domestic remittances of Rs.
50,000 and above and all foreign remittances.
 Can I purchase a Demand Draft/Payment
Order/Travellers Cheque against cash without KYC?

 Demand Draft/Payment Order/Travellers

Cheques for Rs.50,000/- and above can be
issued only by way of debiting the customer's
account or against cheques.

Do I need to submit KYC documents to the bank while

purchasing third party products (like insurance or mutual
fund products) from banks?

 Yes, all customers who do not have accounts with the

banks (known as walk-in customers) have to produce
proof of identity and address while purchasing third
party products from banks if the transaction is for
Rs.50,000 and above. KYC exercise may not be necessary
for bank’s own customers for purchasing third party
products. However, instructions to make payment by
debit to customers’ accounts or against cheques for
remittance of funds/issue of travellers’ cheques, sale of
gold/silver/platinum and the requirement of quoting PAN
number for transactions of Rs.50,000 and above would
be applicable to purchase of third party products from
banks by bank’s customers as also to walk-in customers.

My KYC was completed when I opened the account.

Why does my bank insist on doing KYC again?

 Banks are required to periodically update KYC

records. This is a part of their ongoing due
diligence on bank accounts. The periodicity of
such updation would vary from account to
account or categories of accounts depending on
the bank’s perception of risk. Periodical
updation of records also helps prevent frauds in
customer accounts.
 What are the rules regarding periodical
updation of KYC?

 Different periodicities have been prescribed for updation of KYC

records depending on the risk perception of the bank. KYC is required
to be done at least every two years for high risk customers, at least
every eight years for medium risk customers and ten years for low
risk customers. This exercise would involve all formalities normally
taken at the time of opening the account.
 If there is no change in status with respect to the identity (change in
name, etc.) and/or address, such customers who are categorised as
‘low risk’ by the banks may now submit a self-certification to that
effect at the time of periodic updation.
 In case of change of address of such ‘low risk’ customers, they could
merely forward a certified copy of the document (proof of address) by
mail/post, etc. Physical presence of such low risk customer is not
required at the time of periodic updation.
 Customers who are minors have to submit fresh photograph on
becoming major.

What if I do not provide the KYC documents at

the time of periodic updation?

 If you do not provide your KYC documents at the

time of periodic updation bank has the option to
close your account. Before closing the account,
the bank may, however, impose ‘partial
freezing’ (i.e. initially allowing all credits and
disallowing all debits while giving an option to
you to close the account and take your money
back). Later even all credits also would not be
allowed. The ‘partial freezing’ however, would
be exercised by the bank after giving you due
notice.

How is partial freezing imposed?

 Partial freezing is imposed in the following ways:

1) While imposing ‘partial freezing’, banks have to give due notice of three
months initially to the customers before exercising the option of ‘partial
freezing’.
2) After that a reminder for further period of three months would be issued.
3) Thereafter, banks may impose ‘partial freezing’ by allowing all credits and
disallowing all debits with the freedom to close the accounts.
4) If the accounts are still KYC non-compliant after six months of imposing
initial ‘partial freezing’ banks may disallow all debits and credits from/to
the accounts, rendering them inoperative.
5) Thus, one year after the account is due for updation, if you do not
provide the necessary documents/information, your account would
become fully inoperative i.e., neither credits nor debits would be allowed
in the account.
6) Meanwhile, the account holders can revive accounts by submitting the
KYC documents.
 91

I want to keep a fixed deposit in a bank.

Is KYC - applicable to me?

 Yes. KYC is applicable to customers of the bank. For the purpose

of KYC following are the ‘Customers of the bank.
1) a person or entity that maintains an account and/or has a business
relationship with the bank;
2) one on whose behalf the account is maintained (i.e. the beneficial
owner);
3) beneficiaries of transactions conducted by professional
intermediaries, such as Stock Brokers, Chartered Accountants,
Solicitors etc. as permitted under the law, and
4) any person or entity connected with a financial transaction which
can pose significant reputational or other risks to the bank, say, a
wire transfer or issue of a high value demand draft as a single
transaction.

92

If I am staying in Chennai but if my address proof shows my

address of New Delhi, can I still open an account in
Chennai?

 Yes. You can open a bank account in Chennai

even if your permanent address is in New Delhi
and you do not have a proof of address for your
Chennai. In that case, you can submit an
officially valid document (proof of address
document) of your New Delhi address together
with a declaration about your Chennai address,
for communication purposes.
 Once KYC requirements are complied with while opening the account,
whether the bank can again ask for KYC compliance from me?

 Yes. To ensure that the latest details about the customer are
available, banks have been advised to periodically update the
customer identification data based upon the risk category of
the customers.
 Banks create a customer profile based on details about the
customer like social/financial status, nature of business
activity, information about his clients’ business and their
location, the purpose and reason for opening the account, the
expected origin of the funds to be used within the relationship
and details of occupation/employment, sources of wealth or
income, expected monthly remittance, expected monthly
withdrawals etc. When the transactions in the account are
observed not consistent with the profile, bank may ask for any
additional details / documents as required. This is just to
confirm that the account is not being used for any Money
Laundering/Terrorist/Criminal activities. 94

Can my wife who is not having any address proof in her name,
open an account with the bank?

 Yes. In such cases where the utility bills required for

address verification are not in the name of the person
who wants to open an account ( close relatives, e.g.
wife, son, daughter and daughter and parents etc. who
live with their husband, father/mother and son, as the
case may be) , an identity document and a utility bill
of the relative with whom the prospective customer is
living along with a declaration from the relative that
the said person (prospective customer) wanting to
open an account is a relative and is staying with
him/her is acceptable. As supplementary evidence
bank may ask for a letter received through post for
further confirmation.
95

I am a daily wage earner without any document to satisfy the

bank about identity and address. Can I open a bank account?

 address, can open bank account with an introduction

from another account holder who has been subjected
to full KYC procedure provided that the balance in all
his accounts taken together is not expected to exceed
Rupees Fifty Thousand (Rs. 50,000/-) and the total
credit in all the accounts taken together is not
expected to exceed Rupees One Lakh (Rs. 1,00,000/-)
in a year. The introducer’s account with the bank
should be at least six months old and should show
satisfactory transactions. Photograph of the customer
who proposes to open the account and also his address
needs to be certified by the introducer,
 or
96
 or
 any other evidence as to the identity and address of the customer
to the satisfaction of the bank.
 If at any point of time, the balance in all his/her accounts with
the bank (taken together) exceeds Rupees Fifty Thousand (Rs.
50,000/-) or total credit in the account exceeds Rupees One Lakh
(Rs. 1,00,000/-) in a year, no further transactions will be
permitted until the full KYC procedure is completed.
 In order not to inconvenience the customer, the bank will notify
the customer when the balance reaches Rupees Forty Thousand
(Rs. 40,000/-) or the total credit in a year reaches Rupees Eighty
thousand (Rs. 80,000/-) that appropriate documents for
conducting the KYC must be submitted otherwise operations in
the account will be stopped.

97

Whether a certificate from my employer is sufficient as

identity as well as address proof for opening an account?

 Banks rely on such certification only from

corporate and other entities of repute provided
that they are aware of the competent authority
designated by the concerned employer to issue
such certificate. In addition, banks also require at
least one of the valid documents indicated above
viz. Passport, Driving Licence, PAN Card, Voter's
Identity Card etc. or utility bills for KYC purposes
for opening bank account of salaried employees of
corporate and other entities.

98

Whether the information given by me to the

bank under KYC is treated as confidential?

 Yes. The information collected from the

customer for the purpose of opening of account
is treated as confidential and details thereof are
not divulged for cross selling or any other
similar purposes.

99
If I refuse to give information on KYC asked for by the bank,
what action the bank can take against me?

 Where the bank is unable to apply appropriate

KYC measures due to non-furnishing of
information and /or non-cooperation by the
customer, the bank can consider closing the
account or terminating the banking/business
relationship after issuing due notice to the
customer explaining the reasons for taking such
a decision.

100

Foreign students studying in India – KYC

procedure for opening of bank accounts
 RBI/2013-14/272 RPCD.RRB.RCB.AML.BC.No. 37 /07.51.018/2013-14
September 18, 2013
 Regional Rural Banks and State / Central Cooperative Banks authorized
to open / maintain NRE/NRO accounts, may open a Non Resident
Ordinary (NRO) bank account of a foreign student on the basis of his/her
passport (with appropriate visa & immigration endorsement) which
contains the proof of identity and address in the home country along with
a photograph and a letter offering admission from the educational
institution
 Within a period of 30 days of opening the account, the foreign student
should submit to the branch where the account is opened, a valid address
proof giving local address, in the form of a rent agreement or a letter
from the educational institution as a proof of living in a facility provided
by the educational institution. Banks should not insist on the landlord
visiting the branch for verification of rent documents and alternative
means of verification of local address may be adopted by banks.

101

 c) During the 30 days period, the account should be operated with

a condition of allowing foreign remittances not exceeding USD
1,000 into the account and a cap of monthly withdrawal to Rs.
50,000/-, pending verification of address.
 d) On submission of the proof of current address, the account
would be treated as a normal NRO account, and will be operated
in terms of instructions contained in RBI's Master Circular on Non-
Resident Ordinary Rupee (NRO) Account No. RBI/2013-14/2 Master
Circular No. 2/2013-14 dated July 1, 2013, and the provisions of
Schedule 3 of FEMA Notification 5/2000 RB dated May 3, 2000 may
also be kept in view.
 e) Students with Pakistani nationality will need prior approval of
the Reserve Bank for opening the account.

102
 े स काशनी PRESS RELEASE
DEPARTMENT OF COMMUNICATION, Central Office, S.B.S.Marg, Mumbai-
भारतीय ररिज़व बक RESERVE BANK OF INDIA
March 18, 2013
RBI initiates Scrutiny of Three Banks for Alleged Violation of KYC Guidelines The
Reserve Bank of India has initiated the process of carrying out comprehensive scrutinies
covering both, Head Office and branches of three private sector banks, namely, ICICI
Bank, HDFC Bank and Axis Bank. Apart from this, the Reserve Bank has also
undertaken a thematic study in respect of banks that are active in selling gold coins /
wealth management products to examine whether there are systemic issues and to plug
deficiencies and legal loop-holes, if any.
The scrutinies have been initiated after an online media firm called Cobrapost.com, on
the basis of its sting operations across some branches of these banks alleged violation of
several provisions of the Reserve Bank of India Regulations, Foreign Exchange
Management Act guidelines, etc. The media firm had uploaded some videos on the
internet relating to these banks as well as ICICI Prudential Life Insurance and HDFC
Life Insurance.
The final reports on all the three banks will be completed by March 31, 2013 and
thereafter further course of action as necessary will be initiated.
Alpana Killawala 103
Chief General Manager

104

Central KYC Records Registry (CKYCR) - template for Know Your Customer (KYC)
and reporting requirements under Foreign Account Tax Compliance Act (FATCA)/
Common Reporting Standards (CRS)
 RBI/2015-16/251
DBR.AML.BC.No.60/14.01.001/2015-16
 The Government has vide a notification dated July 7, 2015, amended the
Prevention of Money Laundering (Maintenance of Records) Rules, 2005,
(Rules), for setting up of the Central KYC Records Registry (CKYCR). In terms
of the notification, the proposed CKYCR would receive, store, safeguard and
retrieve the KYC records in digital form of a client, for which necessary
amendments to the Rules have been made.
 The KYC records received and stored by the CKYCR could be retrieved online
by any reporting entity across the financial sector for the purpose of
establishing an account based relationship in terms clause (a) and (b) of Rule
9. A formal announcement by the Government naming the entity which will
function as the CKYCR is expected shortly.
 In order to facilitate collating and reporting the KYC data to the proposed
CKYCR, templates finalised in consultation with other regulators and CBDT
(separate for individuals and legal entity). It may also be noted that in case
of opening of ‘Small Accounts’, only personal details in section 1 of the
template together with the photograph, signature/thumb impression and
self-certification document should be obtained. You are advised to be in
readiness to share the KYC data with the CKYCR once the CKYCR is notified by
the Government. 105
 RBI/2012-13/420 UBD CO PCB
Cir.No.37/14.01.062/2012-13 February 25, 2013

 With a view to ensuring that the banking channels are

not used for unlawful / illegal activities, it is
reiterated that all UCBs may put in place a system of
periodic review of risk categorization of customers
and updation of customer identification data to ensure
strict adherence to the KYC / AML / CFT guidelines
issued by Reserve Bank from time to time. As
already advised vide our circular dated September 13,
2012 ibid, Primary (Urban) Co-operative banks are
once again advised to complete the process of risk
categorization and compiling/updating profiles of all
their existing customers by end- March 2013.

106

RBI/2012-13/431 UBD.BPD (PCB) Cir.

No.39/14.01.062/2012-13 March 7, 201
Shifting of bank accounts to another centre – Proof of address:
 Primary (Urban) Co-operative Banks (UCBs) were advised vide
circular UBD.BPD (PCB) Cir. No.3/14.01.062/2012-13 dated July
10, 2012 that KYC once done by one branch of the bank should be
valid for transfer of the account within the bank as long as full
KYC procedure had been done for the concerned account. The
customer should be allowed to transfer his account from one
branch to another branch without restrictions. In order to comply
with KYC requirements of correct address of the person, fresh
address proof has to be obtained from him/her upon such transfer
by the transferee branch. However, a large number of customers
with transferable jobs or those who migrate for jobs are unable to
produce a utility bill or other documents in their name as address
proof immediately after relocating. In view of this, it has been
decided that:

107

 (a) UCBs may transfer existing accounts at the

transferor branch to the transferee branch without
insisting on fresh proof of address and on the basis of a
self-declaration from the account holder about his/her
current address, subject to submitting proof of address
within a period of six months.
 (b) UCBs may also accept rent agreement duly
registered with State Government or similar
registration authority indicating the address of the
customer, in addition to other documents listed as
proof of address in Annex I of our Master Circular on
KYC/AML/CFT dated July 2, 2012.

108
 109

AML Measures
Money Laundering is the process by which illegal funds and
assets are converted into legitimate funds and assets.

Investments
Purchases

Placement: Illegal funds or assets Layering: Use of multiple Integration: Laundered funds are
are first brought into the financial accounts, banks, intermediaries, made available as apparently
system corporations, trusts, countries to legitimate funds.
disguise the origin.
Money Laundering is tax evasion in progress
110

Types of Money
Laundering Risks
What are the Money Laundering Risks to banks?

(i) Reputation risk

(ii) Operation risk
(iii) Legal / Compliance risk

All risks are inter-related and together

have the potential of causing serious threat
to the survival of the bank

111
 Operation Risk

 Operation risk is the risk of direct or indirect

loss resulting from inadequate, or failed
internal processes, people and systems, or
from external events

 With introduction of BASLE II norms, Bank

needs to provide for operational risk and
ensure compliance of internal control, for
which KYC of each account is of utmost
importance, so that capital allocation against
operational risk can be minimized

112

Legal/ Compliance Risk

 Risk of loss (financial or otherwise) due to any legal

action the Bank may have to face due to failure to
comply with the Law. – Recent IPO scam

 Hence, Bank should carry out KYC and Customer

Due Diligence exercises to mitigate Legal Risk

113

The inadequacy or absence of KYC standards can subject

the Bank to serious customer and counter-party risk
1. Reputational Risk: Risk of loss due to severe impact on the
Bank’s reputation. This may be of particular concern given
the nature of the Bank’s business which requires the
confidence of depositors, creditors and the general market
place.
2. Compliance Risk: Risk of loss due to failure of compliance
with key regulations governing the Bank’s operation
3. Legal Risk: Legal risk is the possibility of lawsuits, adverse
judgments or contract resulting from failure to observe
mandatory KYC standards or form the failure to practise
due diligence. Consequently, the bank can suffer fines,
criminal liabilities and special penalties imposed by
supervisor. 114
 Customer Education

 Spread awareness on KYC - AML through

- literature / pamphlets

- Banks’ Websites

- Front line staff at Branches

115

Hiring & Training of staff

 Screening of employees at the time of hiring and

posting on sensitive positions

 Development of AML skills through appropriate training

 Knowledge of regulatory & statutory prescription

 Sensitizing the employees on the need for proper

handling of customer queries

 No tipping off

116

Information to be furnished
 Cash Transactions
 All cash transactions of the value of equal to or more
than rupees ten lakhs or its equivalent in foreign
currency
 All series of cash transactions integrally connected to
each other which have been valued below rupees ten
lakhs or its equivalent in foreign currency where such
series of transactions have taken place within a
calendar month aggregating to rupees ten lakhs or
more
 Suspicious Transactions
 All suspicious transactions whether or not made in
cash
117
 Suspicious Transactions

 Suspicious transaction means a transaction whether or

not made in cash which, to a person acting in good faith

1) gives rise to a reasonable ground of suspicion that it

may involve the proceeds of crime; or
2) appears to be made in circumstances of unusual or
unjustified complexity; or
3) appears to have no economic rationale or bonafide
purpose; or
4) gives rise to a reasonable ground of suspicion that it
may involve financing of the activities relating to
terrorism.(added by amendment dated 24.05.07)
118

Some of the Reasons for Suspicion

 Identity of client
1) False identification documents
2) Identification documents which could not be verified
within reasonable time
3) Accounts opened with names very close to other
established business entities

 Background of client
1) Suspicious background or links with known criminals

 Multiple accounts
1) Large number of accounts having a common account
holder, introducer or authorized signatory with no
rationale
2) Unexplained transfers between multiple accounts with
no rationale
119

Some of the Reasons for Suspicion

 Activity in accounts
1) Unusual activity compared with past transactions
2) Sudden activity in dormant accounts
3) Activity inconsistent with what would be expected from
declared business
 Nature of transactions
1) Unusual or unjustified complexity
2) No economic rationale or bonafide purpose
3) Frequent purchases of drafts or other negotiable instruments
with cash
4) Nature of transactions inconsistent with what would be
expected from declared business
 Value of transactions
1) Value just under the reporting threshold amount in an apparent
attempt to avoid reporting
2) Value inconsistent with the client’s apparent financial standing
120
 Suspicious Transactions/Activity
 Sending or receiving frequent or large volumes of cross
border remittances;

 Receiving large TT/DD remittances from various

centres and remitting the consolidated amount to a
different account/centre on the same day leaving
minimum balance in the account;

 Corporate accounts where deposits and withdrawals by

cheque/TTs/foreign inward remittances/any other
means are received from/made to sources apparently
unconnected with the corporate business
activity/dealings
121

Suspicious Transactions/Activity

 Corporate accounts where deposits or withdrawals are

primarily in cash rather than cheques;
 A single substantial cash deposit composed of many
high denomination notes;
 A customer who is reluctant to provide information
needed for a mandatory report or to proceed with a
transaction after being informed that the report must
be filed;
 Any individual or group that coerces/induces or
attempts to coerce/induce a bank employee to not file
any reports or any other forms

122

Suspicious Transactions /Activity

 An account where there are several cash

deposits/withdrawals below a specified threshold level
to avoid filing of reports by intentionally splitting the
transaction into smaller amounts for the purpose of
avoiding the threshold limit

 Multiple accounts under the same name

123
 Case Study

 One Mr. X opened a Sole Proprietorship account with one of BOI

Branch in Mumbai, giving copy of PAN card as identity proof and
copies of Electricity bill and Shop & Establishment license from
Mumbai Municipality for address proof
 With in one week, two high value DDs payable at Hyderabad
drawn on another Bank were deposited in BOI Hyderabad branch
and were cleared. Money was withdrawn from a Branch in New
Delhi
 When the original payee complained to the drawee Bank, the
fraud came to surface. Similar frauds were committed by the
culprit by opening accounts with other Banks also
 The culprit had managed to steal some DDs favouring an
institution (whose name was written on the DDs in acronym). He
managed to forge address proof documents in the name of that
institution and opened accounts with Banks as Sole Proprietor of
that Institution whose name was written on DDs in acronym. (Eg.
Comptroller MSU – Maharaja Sayajirao University)

124

Lessons learnt

 Check the genuineness of the KYC documents by

physical / telephonic verification
 Not to open accounts in Acronym
 To accept High Value instruments in newly
opened accounts only after proper inquiry. In
case such instruments are deposited at Non-base
branch, inquiry should be carried out through
Base branch
 To closely monitor newly opened accounts at
least for SIX months
125

Case-study

 Mr. Ram opened SB A/c. on 26/09/2012 at BOB, Baroda

Main branch. His account was credited with
Rs.2,44,00,000/- on 29/12/2012 by transfer entry from
A/c of Mr. Rahim which was opened on 21/09/2012 at
BOB, Alkapuri Branch
 The SB A/c. of Mr. Rahim received credit of Rs.
2,43,96,000/- from BOB, Old Padra Road branch on
28/12/2012 against cheque deposited on 27/12/2012
presented and passed in clearing
 The above transactions were carried out at Old Padra
Branch under Inter-sol by a third party
 The entire amount i.e. Rs 2,44,00,000/- was withdrawn
from A/c. of Mr. Ram from Baroda Main branch in
clearing on 31/12/2012 against cheque presented by
Baroda Urban Co-Operative Bank
126
 How you will monitor

 Old Padra Road Branch should inquire these high

value deposit of cheques and other transactions in
this newly opened account by a third party and also
contact the base branch for ascertaining details of
transactions from the account holder
 Before passing cheque / making payment of Cheque
in question on 31/12/2012 Baroda Main branch
should have contacted Mr. Ram to ascertain the
details about such a high value credit and debit in
his newly opened SB A/c.
 Alkapuri branch should have made inquiry about
sudden increase in S/B deposit on a particular day

127

Dallas Lawyer Sentenced for Money

Laundering
 On September 26, 2013, in Dallas, Texas, Patrick Robert Simon was
sentenced to 24 months in prison. Simon pleaded guilty in January 2013
to money laundering charges. According to court documents, during Fall
2009, Simon met with an individual to discuss putting aside proceeds
from the individual’s drug trafficking activities for his family’s use while
he was in prison for drug trafficking. After numerous meetings, on March
16, 2010, the individual met with Simon at Simon’s law office to transfer
the cash. Simon stated his scheme was that the individual was going to
hire Simon’s firm to handle the appeal of his drug trafficking conviction.
Simon stated that he would then use his attorney trust fund to write a
check every month to the individual’s designee. Simon explained that
because it was a legal transaction, he would not have to report it. It was
agreed that the checks would be written for $7,500, unless a different
amount was specified later. The individual gave $110,000 in cash to
Simon. Simon accepted the cash and during the time Simon was counting
the cash, the three repeatedly discussed the individual’s participation in
the drug trade and that the money being counted was from his drug
trafficking activities. Simon also instructed the individual on a code to
use in all future communications to discuss the scheme. 128

Q&A

 Q1- What is the name of Policy Making body which

sets standards & develops/promotes policies to
combat money laundering & terrorist financing ?

 Q2- What are the four key elements of KYC ?

129
 Q&A

 Ans. 1. FATF ( Financial Action Task Force)

 Ans. 2. A- Customer Acceptance

B- Customer Identification
C- Transactions Monitoring
D- Risk Management

130

Q&A

 Q3- What is money laundering ?

 Q4- What are the three steps involved in Money

Laundering?

131

Q&A

 Ans. 3. Money Laundering is the process by

which illegal funds and assets are converted
into legitimate funds and assets

 Ans. 4.

A- LAYERING
B- INTEGRATION
C- PLACEMENT
132
1
CONCURRENT AUDIT UNIVERSE
PRE COMMENCMENT
PLANNING PROCEDURES
__________________________________
CA. Nayan R. Kothari
M. Com., FCA, NET (UGC)

CA. Nayan R. Kothari

CA. Nayan R. Kothari

Agenda :
3

 Concurrent Audit Planning

 Planning basic overview

 Case studies

 Your questions

CA. Nayan R. Kothari

 Objective of an Audit
4

 SA 200
 Expressing an opinion on FS – weather are they free
from Material Mis-Statement – arising out of Fraud or
Error
 Compliance with SAs – individual objective of an SA

 Achievement of Objective Depends on SAAE –

Sufficient and Appropriate Audit Evidence
 Achieved – unmodified opinion / not achieved –
modified opinion

CA. Nayan R. Kothari

SA 300 – Audit Planning

5

 Audit planning refers planning by the auditor to

enable him to conduct an effective audit in an
efficient and timely manner and includes planning
about area, scope, depth of transactions to be
audited, time to be devoted, persons to be
deployed for audit etc.
 The engagement partner and other key members of
the engagement team shall be involved in planning
the audit.

CA. Nayan R. Kothari

SIA 1 - Planning an Internal Audit

 Standard was issued in May 2006

 Was initially recommendatory in nature

 Standard has been notified to be effective

for internal audits commenced after April

1, 2007
 Objective:
 The purpose of this Standard on Internal Audit is to
establish standards and provide guidance in respect
of planning an internal audit.
 An internal audit plan is a document defining the

Compiled by: CA. Nayan R. Kothari

scope, coverage and resources, including time,
required for an internal audit over a defined period.
The internal auditor should, in consultation with those
charged with governance, including the audit
committee, develop and document a plan for each
internal audit engagement to help him conduct the
engagement in an efficient and timely manner.

Objective:
8

Adequate planning ensures that appropriate

attention is devoted to significant areas of
audit, potential problems are identified, and
that the skills and time of the staff are
appropriately utilised.
 Planning also ensures that the work is

carried out in accordance with the applicable

pronouncements of the
Institute of Chartered Accountants of India
CA. Nayan R. Kothari

Overall Objective:
 The overall objectives of an internal audit, as
defined in the Preface to the Standards and
Guidance Notes on Internal Audit are:
 to suggest improvements to the functioning of the
entity;
and
 to strengthen the overall governance mechanism of
the entity, including its strategic risk management as
well as internal control system
 Internal Audit helps in …
 Understanding and assessment of risks
 Identification of areas for system improvement
 Ensuring optimum resource utilization
 Ensuring timely identification of liabilities –
accrued, contingent and potential
 Ensuring compliance – internal and external
 Safeguarding of assets
 Reviewing and ensuring adequacy of IT security
 Reviewing and ensuring adequacy of
management information systems - MIS

Indispensability
11

CA. Nayan R. Kothari

12
scope

Concurrent
Audit Plan
is a coverage
document
defining

resources

CA. Nayan R. Kothari

 CONCURRENT AUDIT - Issues
13

Concurrent audit is transaction Audit done concurrently.

 Concept is to verify authenticity of the transactions / activities
within the shortest possible time.
 It involves systematic examination of all transactions / vouchers
on a continuous basis to ensure accuracy, authenticity and due
compliance with internal guidelines, system and procedures.
 It also serves as a useful tool for branch management.
 Not a part of decision making process at the branch level. Role
is restricted to expression of his opinion on transactions which are
not in sync with the guidelines.
 Schedule to report but also value addition to the report

CA. Nayan R. Kothari

CONCURRENT AUDIT - Issues

14

 Team are fully conversant with the nitty gritties and possess
adequate knowledge to counter the defensive arguments put
forth by the branch.
 Healthy and meaningful and regular discussions should be
held properly with the Branch Manager on the contents of the
report, particularly about the persistent irregularities.
 Team members need to win the confidence/coordination of the
staff and maintain cordial relationships with them.
 Scope of concurrent audit is large and covers all areas, it is
impossible to cover them in the allotted time. An earnest effort is
necessary to cover all areas and value for the report
CA. Nayan R. Kothari

STAGES
15

 BASICS
 AREAS OF AUDIT
 Checklists
 EXECUTION & DOCUMENTATION
 EFFECTIVE REPORTING

CA. Nayan R. Kothari

 Knowledge of
Client’s
Business

Preparation of
Establishing
Audit
Audit Universe
Programme

Planning
Process

Deciding Establishing
Resource Objectives of
Allocation Engagement

Establishing
Scope of
Engagement

BASICS
17

Knowledge of :
 Function of bank
(Knowledge of business of branch especially)
 Banking Industry – Rules & Regulations applicable –
(internal circular site/ intranet)
 Products handled by Bank / Branch
 Complexities involved – CRR, Sector wise lending
 FEDAI Guidelines – Foreign exchange transactions
 Applicability of AS - ICAI

CA. Nayan R. Kothari

BASICS… Functions of Bank

18

 Acceptance of deposits
 Lending
 Investments
 Transfer of Money
 Issuing letters of credit & Bank Guranatees
 Safe custody
 Acting as executors or trustees
 Foreign exchange
 Issue of shares
 Agency Business, etc CA. Nayan R. Kothari
 BASICS….
19

 Compliance with BR Act & RBI Guidelines

 Compliance with Policies of Bank
 RBI Circulars issued on from time to time
 Guidance Note of ICAI
 Go thru Standards on Auditing like -
 Knowledge of Business, Terms of Audit Engagement,
 Audit Planning, Audit Sampling, Audit Documentation & Audit
Evidence
 Using the work of another auditor, Audit Materiality
 Understanding of CBS
 Appointment Letter, Acceptance - Checklist

CA. Nayan R. Kothari

BASIC…Planning…Staff
20

CA. Nayan R. Kothari

UNDERSTANDING OF BRANCH
(Knowledge of Business)
21

 Business of Bank - Advances, Deposits, Large borrowers, NPA

A/C’s, etc.
 Other reports and policies, viz:
 Various policies like Credit policy, delegation, etc
 Manual of documentation
 Circulars (interest & Service charges)
 Delegation of Authority & Financial powers
 Charge Handover Report
 Branch St. Audit Report/ LFAR of previous year
 Latest Internal Inspection, Last Concurrent Audit report,
Revenue Audit Report, Stock Audit Reports in case of large
advances, System Audit Report, etc.
 Branch’s RBI Inspection Report, if any
 Status and level of compliance by the branch – over all
(Controlled Environment)
CA. Nayan R. Kothari
 INTERNAL CONTROL
22

 Evaluate the strength/ effectiveness of

internal control systems-
 segregation of duties, roles & responsibilities of
staff (rotation done or not?)
 Exception reports – must be singed by manager on
daily basis
 Awareness of circulars and systems.
 Sampling – to be done on vouchers only
 Follow up of NPA accounts (PNPA Reports)
 Status of suit filled accounts (Movement)
 Timely reporting of various returns to controlling
authorities
CA. Nayan R. Kothari

EXECUTION OF WORK
23

 Obtaining Audit Evidence

 Audit working papers - complete
 Timely discussion and rectification of queries
 All areas to be covered –
 Time/Timely report
 Exhaustive Checklist – Provided by banks
 Audit report format
 Checking items on periodical basis
CA. Nayan R. Kothari

Execution…
24

XYZ & CO, Chartered Accountants

Date Observations Reply from Branch

09.02.2013 Deposits:

Advances:

Foreign Exchange:

CA. Nayan R. Kothari

 Check List:
25

Daily
Weekly

Monthly

Quarterly
CA. Nayan R. Kothari

CHECKLISTS
26

 Daily
 Cash
 Daily high volume transactions
 Clearing Entries
 KYC for all accounts
 Bills for collection
 Advances
 Foreign Exchange
 House keeping – Suspense, Sundry Accounts, Clearing
difference accounts, System suspense accounts,
 Checking of vouchers
CA. Nayan R. Kothari

CHECKLISTS… Daily basis

27

 Exceptional reports – to be studied

carefully
 Overdrawing

 Debits in in operative accounts

 Cash transactions without PAN
 Overdue amounts

 TOD accounts

 TOD’s in CA & SB accounts

 Cheques drawn against clearing

accounts CA. Nayan R. Kothari
 Other exceptional items
 CHECKLISTS… Weekly
28

 Thanks letter to a/c

holders
 Reconciliation of
accounts with other
banks
 Observations rectified or
not

CA. Nayan R. Kothari

CHECKLISTS… Monthly
29

 All areas of the bank

 Cash verification
 Deposits –
 Advances – Documentations, Classifications, terms of sanction,
Follow up & monitoring, time barred debt, overdue bills, TOD,
etc.
 Inspection of units
 Interest debit
 Leakage of Income
 Timely reporting
 Customer meeting reports
CA. Nayan R. Kothari
 Discussion with the Branch Manger and Discussion certificate

CHECKLISTS … Quarterly
30

 NPA classification – Potential NPA’s

 Quarterly charges

 Persisting irregularities

 Timely report – compliances

 Cheques frequently returned

CA. Nayan R. Kothari
 Reporting to Management/RBI
31

 Flash Report to
Management and RBI
 Any transaction

susceptible to fraud
should be directly
reported to RBI by the
Auditor and to the
top management CA. Nayan R. Kothari

SECURITY ITEMS
32

 Custody of various Secured Items…

1) Custody of Secured Items:-
- Term Deposits Receipts, Cheque Books.
-Demand Drafts, Pay In Slips.
2) Receipt of these items should be supported by delivery
Challans and should be recorded properly.
3) All entries should be authenticated by the Branch Manager.
4) Physical verification should be conducted at regular intervals.
5) Entries for Cheques issued are to be properly entered.
6) FDR’s issued but not collected by the depositors should be
kept in proper custody.
CA. Nayan R. Kothari

EXPENSES
33

Delegation of authority:
Verify that all expenses are incurred after obtaining approval from
appropriate Authority. Further the expenses should be properly
accounted
Check if there is mechanism of obtaining post facto sanction of
expenses done at branch level
Following List of Expenses to be verified:
- Interest paid on deposits.
- Interest paid on borrowings.
- Establishment Expenses.
- Rent
- Professional Fees
CA. Nayan R. Kothari
TDS compliances to be checked on expenses
 AREAS … Deposits
34

 Deposits
 Savings Bank – No. of accounts opened – check serial
number and closed account in the month and
transactions in them
 Current Deposits - --do-

 Term Deposits – NRI, RD, Swift A/cs

 Requirements:
 KYC compliance
 Operations in the account – CTR/STR/High volume
transactions

CA. Nayan R. Kothari

AREAS … Advances
35

 Main area of business

 Advances How many accounts opened?
 Cash Credit
 Overdraft
 Term Loans

CA. Nayan R. Kothari

AREAS … Advances
36

Requirements for effective Reporting

Follow up & Monitoring
Slippage to NPA accounts
Early Alert systems
Special Mention accounts
Operations in the account – Turnover,
Insurance, OD
Exception report

CA. Nayan R. Kothari

 PROFIT & LOSS ACCOUNT - Verify
37

 Excess / short credit/ debit of interest &

commission - Debit balances in income account
and credit balances in expenses account
 Determine whether the discrepancies noticed are
intentional or by error
 General or in respect of some specific clients
 Proper authority in sanction and disbursement of
expenses
 Check accrual of income/ expenditure
especially for the last month of the financial year
 Divergent trends in income/ expenditure
CA. Nayan R. Kothari

Planning…CBS
38

 No visible audit trail

 Walk thru of the transactions – from start to end
and document – not possible
 Inadequate segregation of duties and risk to
integrity of data
 Check rights of access – to staff members & its
level, access log, registers of leave must tally
with access log
 Computer generated “Error Reports” to verify
accuracy of interest rates, date of NPA, etc, if
available
CA. Nayan R. Kothari

Planning…CBS
39

 System suspense entries

 Exceptional reports
 Check whether the recurrence of such
discrepancies is general or in respect of
some specific clients
 Auditor to go to root cause of the problems

CA. Nayan R. Kothari

 DOCUMENTATION
40

 Control Checklist for the branch and who done

what
 Working Papers – Month-wise
 Document the Extent of check in all the areas
 Names of persons who covered various areas of
audit
 Well- documented queries and responses should
be also placed on record.
 Review done by partners

CA. Nayan R. Kothari

EFFECTIVE REPORTING
41

 Properly drafted in clear and unambiguous

language
 Quantification wherever applicable
 Backed up by adequate documentation
 Data compiled during the course of audit and
after considering Branch’s explanations.

CA. Nayan R. Kothari

REPORTING…
42

 No. of days spent – Man days

 Audit carried out by whom
 Summary Report or Executive Report
 Deposits, Advances, house keeping and unusual features
 Seepage of Income
 Certificate
 Interest and Service charges applied
 All loan accounts
 Verification of bill of entry, A1 & A2 certificates, etc
 Loans documentation certificate
 Quarterly certification – NPA, etc
CA. Nayan R. Kothari
 REPORTING…
43

 Control Returns
 Certification on KYC compliances
 Certification of statutory compliances
 TDS
 Allowances, Reimbursements to staff and Leave
Management
 Direct and indirect collection and its commission earnings
 Service Tax input credits entries
 Annual Information reports – PAN no. not held

 Control Returns
 Certification on KYC compliances
CA. Nayan R. Kothari

Protection of Auditor interest.

44

Follow Standard on Internal Audit SIA-4

Give CLEAR, FACTUAL, SPECIFIC, CONCISE, TIMELY report.
Compliance to generally accepted audit procedure.
Disclose the limitations on scope.
Bring out the Restrictions on usage.
Observation should be brought out in right
perspective.

SIA 4 - Reporting

 The purpose of this Standard on Internal Audit (SIA)

is to establish standards on the form and content of
the internal auditor's report issued as a result of an
internal audit performed by an internal auditor of
the systems, processes, controls including items of
financial statements of an entity.
Compiled by: CA. Nayan R. Kothari

 The internal auditor should review and assess the

analysis drawn from the internal audit evidence
obtained as the basis for his conclusion on the
efficiency and effectiveness of systems,
processes and controls including items of
financial statements.
  This review and assessment involves considering
whether the systems, procedures and controls are in
existence and are operating effectively.
 The internal auditor's report should contain a clear
written expression of significant observations,

Compiled by: CA. Nayan R. Kothari

suggestions/ recommendations based on the policies,
processes, risks, controls and transaction processing
taken as a whole and managements' responses.
 More related to guiding document rather than
complaining document or stating query

Follow Standard on Internal Audit SIA-4

47

 Appropriate Title
 Appropriate Addressee
 Report Distribution list mentioning the receipitients.
 Period of the coverage.
 Opening or Introductory Paragraph stating the responsibility.
 Objectives and scope Paragraph.
 Executive Summary Paragraph.
 Observations, findings and recommendations.
 Comments from Local Management
 Action taken Report.
 Date of report and Place of Signature with Membership Number.

Limitation on Scope
When there is a limitation on the scope of the
internal auditor's work, the internal auditor's report
should describe the limitation.
Compiled by: CA. Nayan R. Kothari
 Recipient
 Restriction on Usage and Report Circulation
Otherwise Than to the List of Intended Recipients
 The internal auditor should state in the Report that
the same is to be used for the intended purpose
only as agreed upon and the circulation of the
Report should be limited to the recipients mentioned

Compiled by: CA. Nayan R. Kothari

in the Report Distribution List.

Reporting of Cash Transactions

3.08 Comments on Cash verification in cash vaults and ATMs – On

site/Off site

DATE OF VERIFICATION OF VAULT CASH BY THE AUDITOR

Date Balance as per DL register Balance as per Difference
GL
29/04/2014 17,93,977 17,93,977 Nil

DATE OF VERIFICATION OF ATM ATTACHED TO BRANCH BY THE AUDITOR

Date Physical cash Balance as per Difference
GL/JPT
Not verified
DATE OF VERIFICATION OF OUTSOURCED ATMS BY THE AUDITOR
Date Physical cash Cash as per Difference
GL/JPT
Not verified
Whether exceptional transaction report, Access log report ATM /
Debit Card failed transactions report and other mandatory reports
are generated / reviewed and authenticated

50 CA. Nayan R. Kothari

Be specific
Few account opening forms In 10 out of 65 account
are incomplete. opening forms period of
deposit has not been
mentioned. (Do give the list of
TEN accounts.
Be concise and clear
This could have resulted in This has resulted in revenue
revenue leakage. leakage of Rs.24000/-
Be to the point
In 50 instances the Account The Account Opening was not
Opening Forms are not authorized by Branch
Signed by the Branch Manager in 50 instances.
Manager

51 CA. Nayan R. Kothari

CERTIFICATE COURSE
ON
CONCURRENT AUDIT
OF BANKS
STOCK & BOOK
DEBTS AUDIT

CA. Nayan R. Kothari,

M.Com, FCA, NET (UGC)
1

STOCK & BOOK DEBTS AUDIT

 Is it part of Concurrent Audit ?

 When is it required ?

 Management Function

 Periodicity ?

STOCK & BOOK DEBTS AUDIT

 Objectives :

 Regularity in submission of Stock Statements

 Regularity in Unit inspection by staff

 Regularity in stock verification Vs Books

 Present System of Stock Taking

 Method of valuation of Stock

 4

STOCK & BOOK DEBTS AUDIT

 Objectives :

 Identification of slow & non- moving stocks

 Verification of Book debts with ledger

 Aging analysis

 Identification of Bad & Doubtful debts

STOCK & BOOK DEBTS AUDIT

 Objectives :

 Check Existence of security cover

 Check correctness of data declared in St.Stmt

 Quality of stocks - realisability

 Check if books are updated regularly

 Check system of recording – receipts , issues,

reconciliation etc.

STOCK & BOOK DEBTS AUDIT

 Objectives :

 Check Excise/VAT/GST records - conformity

 Valuation of goods including WIP

 Consistency in valuation – Forex fluctuations

 Confirmation of Book Debts

 Verify Creditors figures – unpaid stock

 7

STOCK & BOOK DEBTS AUDIT

 Audit Plan :

 Engagement letter – cut off date

 Scope of audit – coverage- extent

 Format of reporting

 Understanding the nature of business of

borrower

 Type of stocks held by borrower, typical types

of stock items

STOCK & BOOK DEBTS AUDIT

 Audit Plan :

 Terms & Conditions of sanction

 Type of stocks
 Locations – godowns, area
 Margin – for stock & Book Debts
 Insurance
 Banks responsibility for verification
 Method of computing DP
 Interest & Penal Interest
 Charges
 Nature of charge
 Multiple Banking arrangements

STOCK & BOOK DEBTS AUDIT

 Audit Plan :

 Periodicity for submission of stock statements

 Registers & Records maintained by branch –

information availability

 Audit resources requirement - deployment

 Persons responsible for monitoring – in branch

and other branches

 Reporting requirement to RO, ZO, CO

 10

STOCK & BOOK DEBTS AUDIT

Audit Execution

At the Borrowers
At the Branch
place

11

STOCK & BOOK DEBTS AUDIT

 Audit Execution – At the Branch :

 Study the Terms & Conditions of Sanction

 Are the stock statements submitted in time

 Extension permitted with authority

 Verification of statements by Br. – recording

 Arithmetic accuracy, test check, valuation
method, etc

 Computation of DP
 Due credit given for Crs, slow moving etc

12

STOCK & BOOK DEBTS AUDIT

 Audit Execution – At the Branch :

 Recording in the system in time

 Insurance noting – Bank clause – live till

 Inspections done – findings, adverse features

 Operations in the account Vs actuals

 Documents in force – title to goods – C & F

 Debit of charges – penal Interest

 13

STOCK & BOOK DEBTS AUDIT

 Audit Execution – At the Branch :

 Analysis of Book Debts

 Debtors Vs Sales, Credit period,
VAT/Excise/GST returns, Debts covered as
security, Ageing analysis, Confirmation
letters . . .

 Analysis of Creditors
 Trade Creditors & Expnses Creditors, Stock
statement Vs books – disclosed or not,
Relevance of age of creditors . . .

14

STOCK & BOOK DEBTS AUDIT

 Audit Execution – At the Borrowers place :

 Unit Inspection – preferably surprise

 Physical stock taking methods

 sampling, voluminous items, internal stock
audits, identified losses accounting, . .

 Record of physical verification done by

borrower & bank

 Adequacy of system of storage – large

inventory items – recording of location

15

STOCK & BOOK DEBTS AUDIT

 Audit Execution – At the Borrowers place :

 Goods –in- transit

 Expiry dates – perishable goods

 Storage facilities – conditions; meeting

requirement specifications for Insurance – fire
safety, refrigeration etc

 Bulk storage – quantity certification – external

professional’s certification – reliance placed
 16

STOCK & BOOK DEBTS AUDIT

 Audit Execution – Other issues :

 Valuation of Stock – WIP, Finished Goods

 Advances received against sale, manufacture

 Coverage for adhoc facilities

 Irrevocable POA given to bank – registered

with customers to route the sale proceeds
through the CC account

17

STOCK & BOOK DEBTS AUDIT

 Audit Execution – Other issues :

 Borrowers accounts with other branches /

banks – diversion

 Insurance – all perils covered, all stock items

quantity & value, Under-insurance, average
clause etc, specific storage condition and
requirements as per insurance policy,
exemptions from insurance etc

 Address of insured godown same as actual

18

STOCK & BOOK DEBTS AUDIT

 Audit Execution – Other issues :

 Other credits / limits, LC, PC, Bill limits enjoyed

with this bank / other banks – their impact

 Stocks – material received / sent on job works

 Warehouse receipts – ownership – first charge

towards bank / rent

 Stocks held under tripartite agreements –

sugar factory, tobacco boards etc
 19

STOCK & BOOK DEBTS AUDIT

 Audit Execution – Other issues :

 Nature of stock items and consideration of

certain items as stock or not ?

 Irregularities reported in RBI inspection /

Internal Inspections/ CARO

 Stock ratios
 Diligence Report on Bank

A. General Introduction:
Business transactions in dynamic business environment require detailed
analysis, as it involves number of issues both financial and non-financial that
requires careful and methodological investigation of business processes and
the parties involved. Due diligence is an art of evaluation of a business
transaction through methodical investigation of financial; business,
technical and human aspects and its’ impact before and after the
business transaction.

Due Diligence is the process by which confidential legal, financial and other
material information is exchanged, reviewed and appraised by the parties to a
business transaction, which is done prior to the transaction.

Due diligence is an investigative process for providing the desired comfort

level about:
 the potential investment, and
 to minimize the risks such as –
o hidden uncovered liabilities,
o poor growth prospects,
o Price claimed for proposed investment being on higher side etc.

In general due diligence process is transaction based.

Due diligence is a pre-emptive tool to assess a business transaction.

Due diligence process includes examining all aspects of a company

including:
1. manufacturing,
2. financial,
3. legal,
4. tax,
5. IT systems,
6. Labour issues,
7. checking for regulatory issues as well as
8. understanding issues related to IPR,
9. the environment and
10. other matters such as
a. Contractual documentation,
b. litigation,
c. Ownership of movable, fixed and intangible assets.

“Due diligence” is an analysis and risk assessment of an impending

business transaction. It is the careful and methodological investigation of a
business or persons, or the performance of an act with a certain standard of
care to ensure that information is accurate, and to uncover information that
may affect the outcome of the transaction.
It is basically a “background check” to make sure that the parties to the
transaction have the required information they need, to proceed with the
transaction.

Due diligence is used to investigate and evaluate a business opportunity. The

term due diligence describes a general duty to exercise care in any
transaction. As such, it spans investigation into all relevant aspects of the
past, present, and predictable future of the business of a target company.

Due diligence report should provide information and insight on aspects such
as the risks of a transaction, the value at which a transaction should be
undertaken, the warranties and indemnities that needs be obtained from the
vendor etc.

B. Objectives of Due Diligence

The objective of due diligence is to verify the strategic identification or
attractiveness of the target company, valuation, risk associated etc.

The objective of due diligence includes—

1. Collect material of information from the target company.

2. Conduct a SWOT analysis to identify the strength and to uncover
threats and weaknesses.
3. For improving the bargaining position depending on SWOT analysis.
4. To take an informed decision about an investment.
5. Identification of areas where representations and warranties are
required.
6. To provide a desired comfort level in a transaction.
7. To ensure complete and accurate disclosure.
8. Bridge the gap between the existing and expected.
9. To take smooth/accurate action/decision.
10. To enhance the confidence of stake holders.

C. Scope of Due Diligence

Scope of due diligence is transaction-based and is depending on the needs of
the people who is involved in the potential investments, in addressing key
uncovered issues, areas of concern/threat and in identifying additional
opportunities.

Due diligence is generally understood by the legal, financial and business

communities/potential investors to mean the disclosure and assimilation of
public and proprietary information related to the assets and liabilities of the
business being acquired. This information includes financial, human
resources, tax, environmental, legal matters, intellectual property matters etc.
Due diligence would include thorough understanding of all the obligations of
the target company: debts, rights and obligations, pending and potential
lawsuits, leases, warranties, all high and impact laden contracts - both inter-
corporate and intra-corporate.

The investigation or inspection would cover:

1. Compliance with applicable laws.

2. Regulatory violations or disciplinary actions.
3. Litigation and assessment of feasibility of pursuing litigation.
4. Financial statements.
5. Assets – real and intellectual property, brand value etc.
6. Unpaid tax, liens and/or judgements.
7. Past business failures and consequential debt.
8. Exaggerated credentials/Fraudulent claims
9. Misrepresentations or character issues.
10. Cross-border issues – double taxation, foreign exchange
fluctuation,
sovereign risk, investment climate, cultural aspects.
11. Reputation, goodwill and other intangible assets.

a. Types of Due Diligence

In business transactions, the due diligence process varies for different types
of companies. The relevant areas of concern may include the financial, legal,
labour, tax, environment and market/commercial situation of the company.
Other areas include intellectual property, real and personal property,
insurance and liability coverage, debt instrument review, employee benefits
and labour matters, immigration, and international transactions.

The most important types of Due Diligence are:

A) Business Due Diligence

a. Operational due diligence
b. Strategic due diligence
c. Technical due diligence
d. Environmental due diligence
e. Human Resource Due diligence
f. Information Security due diligence
g. Ethical Due Diligence

B) Legal Due Diligence (including secretarial due diligence)

C) Financial Due Diligence (including tax due diligence).

 E. Applicability to Bank – Regulator’s i.e. Reserve
Bank of India; views:
a. The Reserve Bank of India vide its Circular No. DBOD NO. BP.
BC. 46/08.12.001/2008-09 dated September 19, 2008 advised
all the scheduled commercial Banks (excluding RRBs and
LABs) to obtain regular certification (DILIGENCE REPORT) by a
professional, preferably a Company Secretary, regarding
compliance of various statutory prescriptions that are in vogue,
as per specimen given in the aforesaid notification.
b. Further RBI vide its Circular dated January 21, 2009 also
advised all Primary Urban Cooperative Banks to obtain
Diligence Report.
c. Subsequently the RBI vide its Circulars dated December 08,
2008 and February 10, 2009 revised the format of Diligence
Report for Scheduled Commercial Banks, and
d. also for Primary Urban Co-operative Banks vide its Circular
dated February 12, 2009.

Background and need for Due Diligence:

In October 1996, various regulatory prescriptions regarding conduct of
consortium/multiple banking/syndicate arrangements were withdrawn by
Reserve Bank of India with a view to introducing flexibility in the credit
delivery system and to facilitate smooth flow of credit.

However, Central Vigilance Commission (CVC), Government of India, in the

light of frauds involving consortium/multiple banking arrangements which have
taken place in the recent past, expressed concerns on the working of
Consortium Lending and Multiple Banking Arrangements in the banking
system. The CVC attributed the incidence of frauds mainly to the lack of
effective sharing of information about the credit history and the conduct
of the account of the borrowers amongst various banks.

The matter was examined by the Reserve Bank of India (RBI) in consultation
with the Indian Banks Association (IBA) who was of the opinion that there is
need for improving the sharing/dissemination of information among the banks
about the status of the borrowers enjoying credit facilities from more than one
bank.

The RBI vide its Circular No. RBI/2008-2009-313/DBOD No. B.P. BC

94/08.12.001/2008-2009 dated December 08, 2008, advised the banks to
strengthen their information back-up about the borrowers enjoying credit
facilities from multiple banks as under:

(i) At the time of granting fresh facilities, banks may obtain

declaration from the borrowers about the credit facilities already
enjoyed by them from other banks. In the case of existing
 lenders, all the banks may seek a declaration from their existing
borrowers availing sanctioned limits of Rs. 5.00 crores and
above or wherever, it is in their knowledge that their borrowers
are availing credit facilities from other banks, and introduce a
system of exchange of information with other banks as
indicated above.
(ii) Subsequently, banks should exchange information about the
conduct of the borrowers’ accounts with other banks at least at
quarterly intervals.
(iii) Obtain regular certification by a professional, preferably a
Company Secretary, regarding compliance of various statutory
prescriptions that are in vogue.
(iv) Make greater use of credit reports available from Credit
Information Bureau of India Limited (CIBIL).
(v) The banks should incorporate suitable clauses in the loan
agreements in future (at the time of next renewal in the case of
existing facilities) regarding exchange of credit information so as
to address confidentiality issues.

F. Scope of Diligence Report

The Diligence Report covers many critical and relevant matters such as
details of the Board of Directors, shareholding pattern, details of the forex
exposure and overseas borrowings, risk mitigation through insurance cover in
respect of all assets, payment of all statutory dues and other compliances,
proper utilization/end-use of the loan funds, compliance with mandatory
Accounting Standards, compliance with various clauses of Listing Agreement
in case of a listed company etc. The compact structure of the Diligence
Report under its twenty-five paragraphs makes it obligatory for a
Practicing Company Secretary to prepare the Report after critical
examination of all relevant records and documents of the borrowing
companies which demands a high degree of care, skill and knowledge.

The introduction of diligence reporting by Company Secretary in Practice is

expected to lay down a strong foundation for good governance culture
among borrowing corporate and correspondingly enhance the comfort level
of the banks by reducing the information asymmetry prevailing currently.

The Practising Company Secretary (PCS) is required to certify compliance in

respect of matters specified in the RBI Circular No. DBOD NO. BP. BC.
46/08.12.001/2008-09 dated September 19, 2008. Para (2)(iii) of the RBI
Circular specifies that the Diligence Report shall be in the format given in
Annex III thereto. The format has been subsequently revised and streamlined
by RBI.
 Format of Diligence Report
DILIGENCE REPORT1
To
The Manager,
___________________ (Name of the Bank)

I/We have examined the registers, records, books and papers of ............
Limited having its registered
office……………………………………………………

1 (As contained in RBI Circular No. DBOD. No. BP.BC. 110/08.12.001/2008-

09 dated February 10, 2009 read with RBI Circular No.UBD.PCB.No.
49/13.05.000/2008-09 dated February 12, 2009)
at…………………… as required to be maintained under the Companies Act,
1956 (the Act) and the rules made there under , the provisions contained in
the Memorandum and Articles of Association of the Company, the provisions
of various statutes, wherever applicable, as well as the provisions contained
in the Listing Agreement/s, if any, entered into by the Company with the
recognized stock exchange/s for the half year ended on………… . In my/our
opinion and to the best of my/our information and according to the
examination carried out by me/us and explanations furnished to me/us by the
Company, its officers and agents. I/We report that in respect of the aforesaid
period:

1. The management of the Company is carried out by the Board of

Directors comprising of as listed in Annexure …., and the Board
was duly constituted. During the period under review the following
changes that took place in the Board of Directors of the Company are
listed in the Annexure …., and such changes were carried out in due
compliance with the provisions of the Companies Act, 1956.
2. The shareholding pattern of the company as on .............. was as
detailed in Annexure …………. During the period under review the
changes that took place in the shareholding pattern of the Company
are detailed in Annexure……. .
3. The company has altered the following provisions of:
(i) The Memorandum of Association during the period under
review and has complied with the provisions of the
Companies Act, 1956 for this purpose.
(ii) The Articles of Association during the period under review
and has complied with the provisions of the Companies Act,
1956 for this purpose.
4. The company has entered into transactions with business entities in
which directors of the company were interested as detailed in
Annexure…........... .
5. The company has advanced loans, given guarantees and provided
securities amounting to Rs…. ....... to its directors and/or persons or
firms or companies in which directors were interested, and has
complied with Section 295 of the Companies Act, 1956.
6. The Company has made loans and investments; or given guarantees
or provided securities to other business entities as detailed in
Annexure…. and has complied with the provisions of the Companies
Act, 1956.
7. The amount borrowed by the Company from its directors, members,
financial institutions, banks and others were within the borrowing limits
of the Company. Such borrowings were made by the Company in
compliance with applicable laws. The break up of the Company’s
domestic borrowings was as detailed in Annexure …. .
8. The Company has not defaulted in the repayment of public deposits,
unsecured loans, debentures, facilities granted by banks, financial
institutions and non-banking financial companies.
9. The Company has created, modified or satisfied charges on the
assets of the company as detailed in Annexure…. Investments in
wholly owned Subsidiaries and/or Joint Ventures abroad made by the
company are as detailed in Annexure …… .
10. Principal value of the forex exposure and Overseas Borrowings of the
company as on ………… are as detailed in the Annexure under.
11. The Company has issued and allotted the securities to the persons-
entitled thereto and has also issued letters, coupons, warrants and
certificates thereof as applicable to the concerned persons and also
redeemed its preference shares/debentures and bought back its
shares within the stipulated time in compliance with the provisions of
the Companies Act,1956 and other relevant statutes.
12. The Company has insured all its secured assets.
13. The Company has complied with the terms and conditions, set
forth by the lending bank/financial institutions at the time of
availing any facility and also during the currency of the facility.
14. The Company has declared and paid dividends to its shareholders
as per the provisions of the Companies Act, 1956.
15. The Company has insured fully all its assets.
16. The name of the Company and or any of its Directors does not appear
in the defaulters’ list of Reserve Bank of India.
17. The name of the Company and or any of its Directors does not appear
in the Specific Approval List of Export Credit Guarantee
Corporation.
18. The Company has paid all its statutory dues and satisfactory
arrangements had been made for arrears of any such dues.
19. The funds borrowed from banks/financial institutions have been used
by the company for the purpose for which they were borrowed.
20. The Company has complied with the provisions stipulated in Section
372-A of the Companies Act in respect of its Inter Corporate loans
and investments.
21. It has been observed from the Reports of the Directors and the
Auditors that the Company has complied with the applicable
Accounting Standards issued by the Institute of Chartered
Accountants in India.
22. The Company has credited and paid to the Investor Education and
Protection Fund within the stipulated time, all the unpaid dividends
and other amounts required to be so credited.
 23. Prosecutions initiated against or show cause notices received by the
Company for alleged defaults/offences under various statutory
provisions and also fines and penalties imposed on the Company and
or any other action initiated against the Company and /or its directors in
such cases are detailed in Annexure…..
24. The Company has (being a listed entity) complied with the provisions of
the Listing Agreement.
25. The Company has deposited within the stipulated time both
Employees’ and Employer’s contribution to Provident Fund with
the prescribed authorities.

Note : The qualification, reservation or adverse remarks, if any, are explicitly

stated may be stated at the relevant paragraphs above place(s).

Place: Signature:
Date Name of Company Secretary/Firm:
C.P. No.:

G. Period of Reporting
Annex. III to the RBI Notification provides that the Diligence Report shall be
made on a half yearly basis.

H. Reporting with Qualification

(i) The qualification, reservation or adverse remarks, if any, are to

be at the relevant places, and generally stated in thick type or in
italics in the Diligence Report.

(ii) If unable to form any opinion with regard to any specific

matter, state clearly the fact that he is unable to form an opinion
with regard to that matter and the reasons thereof.

(iii) If the scope of work required to be performed, is restricted on

account of limitations imposed by the company or on account of
circumstantial limitations (like certain books or papers being in
custody of another person or Government Authority) the Report
shall indicate such limitation.

(iv) If such limitations are so material as to render the reporting

person incapable of expressing any opinion, he should state
that:

“in the absence of necessary information and records, he is unable to report

compliance(s) or otherwise by the Company”.
 (v) Reporting should have due regard to the circulars and/or
clarifications issued by the Reserve Bank of India from time to
time. A specific reference of such circulars at the relevant places
in the Report should have to be made, wherever possible.

I. Professional Responsibility and Penalty for False Diligence Report

The Reporting casts immense responsibility on Professional and poses a

greater challenge whereby they have to justify fully the faith and confidence
reposed by the banking industry and measure up to their expectations.
Company Secretaries and Professionals must take adequate care while
issuing Diligence Report.

Any failure or lapse on the part of a Practising Company Secretary

(PCS)/Professional in issuing a Diligence Report may not only attract penalty
for false Reporting and disciplinary action for professional or other misconduct
under the provisions of the Company Secretaries Act, 1980 but also make him
liable for any injury caused to any person due to his/her negligence in issuing
the Diligence Report. Therefore, it becomes imperative for the
PCS/Professional that he/she exercises great care and caution while issuing
the Diligence Report and also adheres to the highest standards of
professional ethics and excellence in providing his/her services.

While preparing the Diligence Report, it is required to ensure that no field in

the report is left blank. If there is nothing to be reported or the field is not
applicable to the company, then it should be mentioned so, viz. Write ‘none’
or ‘nil’ or ‘not applicable’ as the case may be.

The PCS/Professional should obtain a list of statutes applicable to the

Company before proceeding with the assignment for issue of Diligence
Report.

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