BANK BRANCH AUDITS A C2C INITIATIVE

CONCEPT TO COMPLETION CA P R SURESH

CA SRIPRIYA KUMAR

Presentation Path

• Overview -Objective and Scope of Audit• Understanding Perspective • Bank Audit Unique Dynamics• Understanding P&L, B/S and certificates• Engagement formalities• Understanding CBS environment • Master Circular on IRAC norms • Case Studies on advances • MS Excel in bank audits • Audit Planning and sampling • Audit Program & documentation – A Check list driven approach• Reporting and closure• Precautions

Auditors Report & on

Financial statements

Long Form Audit Report

Tax Audit reports

Standard and Special

Certificates

Bank Branch Audits – An overview – Scope and objective

• The basic objective of Bank Branch audits is to provide an opinion on True and Fair status of the financial statements as at the Balance Sheet date

• The key reports issued are :

• Branch Auditors Report• Certified Copies of the Balance Sheet and Profit and Loss Account • Long Form Audit report • Tax Audit report under Section 44AB of the Income Tax Act • Special reports and certificates

• A Unique feature in a bank audit is that unlike in corporates, we are also required to confirm if the transactions of the branch which have come to our notice have been within the powers of the bank.

Bank Branch Audits – The Auditors Perspective

True and Fair

Assurance on Internal Controls

RBI / HO / CO Norms Compliance

Assets Impairment

Revenue and Expense Assurance

and Recognition

• Audit as you would if you OWNED the branch, then it is very simple !

• All bank audit documents that are certified are mostly directed only at the these four perspectives at the Core of True and Fair

• In a limited sense, LFAR, Ghosh and Jilani are like CARO in a Corporate audit

Bank Branch Audits – Unique Dynamics

Assets and Liabilities are

properly stated

Income and Expenses are

completely and accurately accounted

Internal Controls over Banking operations

RBI norms and circulars are

properly complied

• The Branch Auditors Report is an objective certification of the True and Fair position of the P&L and the Branch Balance Sheet

• Additionally, we are required to provide assurance on status of regulatory compliances and internal controls in the following sign offs namely the :

• LFAR • Ghosh Committee recos• Jilani Committee recos

Bank Branch Audits – Unique Dynamics

• Most of us have no familiarity with the branch and we somehow need to hit the ground running

• We can however derive strong comfort from the following documents which would be available at the branch

• Concurrent Audit reports • Inspection Reports • Risk based internal audit

reports where the branches are objectively rated

Inspection Reports

Concurrent Audit reports

RBIA reports

The Landscape

Bank Branch Audits True and Fair - Asset quality /

Income Assurance

Internal controls and fraud risks

Specific Certifications

LFAR

Fin. statements

Certificates

Compliance Tests and

Substantive Tests

Master Circular on IRAC norms

Concurrent Audits , RB

audits, Inspections

Engage and Planning

Audit working papers

Reports

Bank Branch Audits – The delicate balance

Against us For Us

GAAP – benefit of sampling

Inspection, RBIA and Concurrent audit process

Robust Control frameworks and CBS

Enormous Guidance and Training and Literature

Volume and complexity

Availability of Time

• Balance Sheet of a Bank as finally presented

Understanding Financial statements

Schedule –1 Capital Schedule –2 Reserve and surplus Schedule –3 Deposits Schedule –4 Borrowings Schedule –5 Other Liabilities and provisionsSchedule –6 Cash and bank balance with RBI Schedule –7 Balance with bank and money at call and short notice Schedule –8 InvestmentsSchedule –9 Advances Schedule –10 Fixed Assets Schedule –11 Other AssetsSchedule –12 Contingent Liability

1. Receipt of appointment letter 2. Address qualifications and disqualifications of auditors - (Concurrent ,Internal,

Revenue, Stock, System, Credit Risk or other Special Audits conducted in same previous year)

3. The following category of persons ( Section 226(3) of Companies Act 1956) • Body Corporate • An officer or employee of the Bank • A person who is a partner, or who is in the employment, of an officer or

employee of the Bank • A person who is indebted to the Bank for an amount exceeding one

thousand rupees, or who has given any guarantee or provided any security in connection with the indebtedness of any third person to the bank for an amount exceeding one thousand rupees

• person holding any security of that bank, Security means an instrument which carries voting rights.

• Member associated with bank in the capacity as concurrent auditor, stock auditor, revenue auditor etc., except systems auditor.

4. Communication with Previous Auditor by Registered AD (clause 8 of First Schedule to the Chartered Accountants Act, 1949

5. Expected date of submission of reports

Engagement formalities

What we certify - an indicative checklist

Make your own checklist of what is expected as the end state deliverable in order to ensure that we understand what we are to do and to ensure that there are no omissions

What we certify - an indicative checklist

Make your own checklist of what is expected as the end state deliverable in order to ensure that we understand what we are to do and to ensure that there are no omissions

Understanding CBS environment

• Core Banking solutions are integrated farmeworks that automates all aspects of core banking operations across entities, languages and currencies.

• Master data , transaction data , access restrictions and business process logic is all in built in the CBS platform minimising and mostly eliminating need for manual intervention beyond input stages

• Core banking solutions helps banks with:• Entire range of banking products including savings, checking, overdraft and

deposit accounts• Entire range of lending products• Complement of transactional services including remittance, foreign exchange,

cards and trade finance• Accessibility through multiple channels, including mobile banking and web• Full integration of front-, middle-, and back-office processes• Accurate, timely and actionable information about customer relations• Single view between bank and customer• “Anytime anywhere” banking

Understanding CBS environment

• CBS does not obviate the need for bank branch audits because

• NPA classifications are system driven, however cannot replace human intelligence

• Work flow integration for documentation aspects is not complete across all banks. Hence documentation and security cover lapses may still impair asset quality

• No scale and complexity of automation can substitute human intuition

• Window dressing and borderline cases – analytical reviews

• CBS is a good audit enabler as it permits simple views of large transactions , by excel manipulation of text files and helps us to profile and stratify data for sample selection

Master Circular on IRAC norms

• The classification of assets of banks has to be done on the basis of objective criteria, which would ensure a uniform and consistent application of the norms.

• The provisioning should be made on the basis of the classification of assets based on the period for which the asset has remained non-performing and the availability of security and the realisable value thereof.

• Master Circular dated 1st July 2012 on IRAC Norms.

• Other Circulars : Master Circular on Capital Adequacy norms

• Master Circular on Priority sector lending

• Master Circular on SLR / CRR

• Master Circular on Fraud

• Definition of Infrastructure lending.

Asset Type

• STANDARD ASSET / PERFORMING ASSETThe account is not non-performing and does not carry more than the normal risk attached to the business.

• NON-PERFORMING ASSET (NPA) The asset ceases to generate income for the bank. Higher risk than normal risk attached to business. Non performing as per criteria for various types of loans.

Identification of Account as NPA

Loans or Advance Interest and/or installment remains overdue for a period of more than 90 days in respect of a term loan.

As per para 2.1.3, an account is classified as NPA only if interest due and charged during any quarter is not serviced fully within 90 days from the end of the quarter.

Exceptions Loans with moratorium for payment of interest .

Housing Loan or similar advance to staff.

Loan against banks own deposits, against surrender value of LIC policies, government securities such as NSC, NSS etc.,

Bills Purchased and discounted

Bill remains overdue for a Discounted period of more than 90 days.

Agricultural Advances Interest or installment remains overdue for two crop seasons for short duration crop, one crop season for long duration crop.

Derivative Transaction Overdue receivables representing positive mark to market value of a derivative contract remaining unpaid for a period of 90 days from specified due date.

Liquidity facility Remains outstanding for more than 90 days in respect of Securitisation transaction.

Identification of Account as NPA ...

Identification of Account as NPA ...

Cash Credit / Overdrafts Account remains ‘out of order’

The account is treated as ‘out of order’ if : Outstanding Balance remains continuously in excess of sanctioned

limit/drawing power for 90 days or No credit continuously for 90 days as on the date of Balance Sheet or Credits in the account are not sufficient to cover interest debited during the

same period.

Exceptions / Clarifications

• Temporary Deficiencies:

• TOD : Outstanding Balance in account based on the drawing power calculated from stock statements older than 3 months would be deemed as irregular & if such irregular drawing are permitted for a period of 90 days, account needs to be classified as NPA.

• Non-renewal/ Non-regularisation of regular/ adhoc limit within 180 days from the due date would also qualify for NPA

• Advances against term deposits, NSCs, IVPs, KVPs and Life Insurance Policies need not be treated as NPAs, till security cover is sufficient to cover outstanding balance.

• Income to be recognised subject to availability of margin.

• Advance against gold ornaments / Government securities not exempt.

Exceptions / Clarifications …

• Central Government guaranteed advance to be classified as NPA only if Government repudiates the guarantee when invoked.

• Classification Qua Borrower - All facilities granted to a borrower shall be treated as NPA & not only that facility which has become irregular. Exception: Credit facility to Primary Agricultural Credit Society (PACS) and Farmers Service Societies (FSS) under on lending arrangement.

• Consortium Advance - Member banks shall classify the accounts according to their own record of recovery. Bank needs to arrange to get their share of recovery or obtain an express consent from the Lead Bank

•

Exceptions / Clarifications …

Straightaway Classification

Where realisable value of security is less than 50% of the value assessed, account to be straightaway classified as Doubtful Asset.

Where realisable value of security is less than 10% of outstanding balance, account to be straightaway classified as Loss Asset.

Valuation of Securities

In respect of NPAs with the balance of Rs. 5.00 crores & above, bank needs to formulate policy for annual stock audit by external agencies & in respect of immovable properties, valuation to be carried out once in 3 years by approved valuer.

Exceptions / Clarifications …

Solitary Credit Entry

Care should be taken that a solitary or few credits in the account made at/near the balance sheet date extinguishing the overdue interest/principal is not the only criteria for classifying the asset as standard.

Regularisation of Account

Account need not be classified as NPA if account has been regularised by the date of Balance sheet by payment of overdue through genuine sources & not by sanction of additional facility or transfer of funds between accounts.

Income Recognition

For NPA accounts income should be recognised on realisation basis. When an account becomes non-performing, unrealised interest of the previous periods

should be reversed or provided. Interest income on additional finance in NPA account should be recognised on cash

basis. In project loan, funding of interest in respect of NPA if recognised as income, should be

fully provided. If interest due is converted into equity or any other instrument, income recognised

should be fully provided.

Income Recognition…

Adjustment of Recoveries - Priority

Unrealised Expenses

Unrealised Interest

Amount of Principal Outstanding

Clarification vide Master Circular - in the absence of clear agreement between the Bank and the Borrower, an appropriate policy to be followed in uniform and consistent manner.

Classification Norms

Standard Asset

The account is not non-performing.

Sub-Standard Asset

A sub standard Asset is one which has remained NPA for a period of less than or equal to 12 months.

Loss Assets

These are accounts, identified by the bank or internal or external auditors or by RBI Inspectors as wholly irrecoverable but the amount for which has not been written off.

Classification Norms…

Doubtful Asset - Three Categories Category Period

Doubtful - I up to One Year Doubtful – II One to Three Years

Doubtful - III More than Three Years

Provisioning Norms

Standard Asset

Agricultural and SMEs Sectors 0.25% Housing Loan with teaser rates of interest 2.00% Restructured Advances 2.00% Commercial Real Estate (CRE) Section 1.00% Others 0.40% Restructured Advances upgraded as Standard advance 2.00%

Sub-standard Asset Secured exposure - 15% of total outstanding Unsecured Expsoure – Infrastructure – 20% of total outstanding Unsecured – other than Infrastructure - 25% of total outstanding

unsecured

Provisioning Norms… Doubtful Assets:Period Provision (Secured + Unsecured)Up to 1 year 25% + 100%1to 3 years 40% + 100%More than 3 years 100% + 100%

Loss Asset:100% should be provided for

Provisioning Norms Provision Under Special Circumstances Advance under rehabilitation programme approved by BIFR / Institutions, Provision

should be continued to be made on existing facilities.

Additional facilities no provision for a period of one year.

In case of advances guaranteed by CGTSI/ECGC, Provision should be made only for balance in excess of the amount guaranteed by these corporations.

Guidelines on Restructuring of Advances

Restructuring divided in following four categories;

i. Industrial Units.ii. Industrial Units under CDR Mechanismiii. SMEsiv. All other advances.

Infrastructure lending

Special Regulatory Treatment ( Para 14 of Master Circular)

Eligibility

Any account classified as standard, sub standard or doubtful. Restructuring cannot be done retrospectively and usual asset classification norms

would continue to apply. Restructuring should be subject to customer agreeing to terms and conditions. Financial viability should be established. Borrowers indulging in frauds and malfeasance or in eligible. BIFR cases eligible for restructuring subject to approval from BIFR.

Guidelines on Restructuring of Advances…

Asset Classification Norms

Restructuring of accounts could take place in following stages: Before commencement of commercial production After commencement of commercial production / operation but before the

asset has been classified as ‘Sub Standard’. After the commencement of commercial production / operation but after the

asset has been classified as ‘Sub Standard’ or doubtful.

Guidelines on Restructuring of Advances…

Asset Classification Norms (Cont’d) Standard Asset would get reclassified as sub standard and account which is

already NPA would continue to have the same classification. Additional finance would be treated as standard upto a period of one year. All restructured accounts, classified as NPA upon restructuring would be eligible

for upgradation after observation of satisfactory performance for the period of one year.

Guidelines on Restructuring of Advances…

Provisioning Norms Total provision required would be normal provision plus provision in lieu of

diminution in fair value of advances. Diminution in fair value would be required to be recomputed on each balance

sheet date. Banks have option of notionally computing the diminution in fair value and

providing at 5% in case of all restructured accounts where the total dues to bank is less than one crore.

Guidelines on Restructuring of Advances…

Special Regulatory Treatment for asset classification. Not available to following categories of advances:

Consumer and personnel advances Advances is classified as capital market exposure Advances classified as commercial real estate exposure.

I. Incentive for quick implementation of package The asset classification status may be restored if the approved package is

implemented : Within in 120 days from the date of approval under CDR Within 90 days from the date of receipt of application by Bank in

other cases.

Guidelines on Restructuring of Advances…

II. Asset classification benefits

a. Standard advance will not be reclassified as sub standard upon restructuring if following conditions are satisfied.

i. Dues of the bank are fully secured by tangible security (except SSI borrower with outstanding upto Rs.25 lacs & infrastructure projects)

ii. Unit becomes viable in 10 years, if it is engaged in infrastructure activities and in 7 years in case of other units.

Guidelines on Restructuring of Advances…

iii. Repayment period including moratorium does not exceed 15 and 10 years for infrastructure and other projects respectively ( 10 years ceiling won’t apply to restructured hosing loan accounts)

iv. Promoters sacrifice and additional funds brought by them should be a minimum of 15% of bank’s sacrifice (Ref RBI Circular dated 7th October 2010)

v. Personal guarantee is offered by promoters.vi. The restructuring is not ‘repeated restructuring’

. During the specified period the asset classification of sub standard / doubtful accounts

will not deteriorate, if satisfactory performance is demonstrated during the specified period.

Guidelines on Restructuring of Advances…

Need for MS Excel in bank audits

•Enables a good look and feel of the transactions that are audited

Data Volume

•Identification of samples for audit

Sample Selection

•CBS outputs are there as text files that can be converted to excel

It is possible

•Seamless integration of work done and working papers for the audit

Integration

•Easy to recheck interest calculations, NPA movements etc

Analytical Procedures

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USING MS EXCEL

Obtain Text File

Save to excel work book

Block area of data to be converted ( Select)

Use function Data - text to columns

Finish the Action by clicking finish

Check for texts in number fields

Ensure that numbers are not truncated

Select Fixed Width option

Index all transactions by nature of

advance / deposit type

Eliminate blank rows

Check the balances of the file with the

Balance Comparison report

Sort by Loan type by amount

Report exceptions in LFAR / provision for

NPA

Complete the template

Select data for audit , document in standard Work

template

Classify by year using year() function

Practical Issues in audit of advances• Drawing Power• Classification Date of NPA• Realisable Security Value• Inter Company transactions• Ever greening/ Restructured Advances • Temporary Deficiencies - renewal • Temporary Deficiencies – Stock Statements• Term Loans • EMI Concepts• Circular Credits• SARFAESI notice• Financial Statement Analysis - threat of recovery• Sale of Assets – Threat of recovery

Practical Issues in audit of advances

• Diversion of Funds.• Devolved Letters of Credit / Bank Guarantees invoked• Borrower Wise Classification• Knowledge of business• Physical Stock Verification• Government Guaranteed Advances• Agricultural Advances• Continuous Overdrawing – Discretionary power• Staff Advances against Shares• Window dressing• Premises Loans• PMRY Loans

Case Studies on Advances – Drawing Power

A & Co, a Partnership firm enjoys a Cash Credit Limit of Rs.1,00,000/-, the account is operated within the sanctioned limit. The borrowers Statements Contains the following details stock Rs.1,50,000/- Debtors Rs.50,000/- and creditors Rs.60,000/-

Sanction letter, terms of sanction, margin stipulated to be verified for determining DP

C & Associates, has reported a stock of Rs.10,00,000/- in their monthly stock statements, the Cash Credit limit enjoyed by them is Rs.5,00,000/-. The inspection report of the Concurrent auditors states that the stock figures reported includes dead and slow moving stocks to the tune of Rs.1,75,000/-, creditors is Rs.300000

Access to other information available at branch in determining DP

Darshini, a small hotel, enjoys a Cash Credit Limit of Rs.100000/- against hypothecation of stocks in rural area, their annual turnover is Rs.1080000/-. Operation in the account is satisfactory and within the limit.

Knowledge of business

Case Studies on Advances – Classification Date of NPA

Elango Engineering was reported as an NPA Since 30.9.2012. Certificate versus Statement of True and fair.

Francis Furniture's was reported as NPA since 3.4.2012 Audit perspective

Case Studies on Advances – Realisable Security Value

Gopi Aqua Ltd., an NPA account had 100 acres of coastal land on which aqua culture was carried on. The land was pledged as security against its loan outstanding of Rs.2 crores. The unit was infested with a disease and hence the account turned sick on 30.9.2009.

Realisable Value of Security - Land

During the boom period for aqua culture the price of these lands was Rs.3 lacs an acre, the valuation report dated 31.3.2010 showed the value of land to be Rs.0.5 lac per acre.

Validity of valuation report

Harsha P Ltd., engaged in leather garments, had an outstanding of Rs.50 laksh the account was classified as a NPA by the branch auditor since August 2012, the unit is not functioning since July 2012, As per stock statement of January 2013 it has a stock of Rs.100 lacs consisting of raw hides / leather of Rs.20 lakhs, Semi finished goods of 70 lakhs and Finished goods of Rs.10 lacs (manufactured to a particular specification)

Common sense approach to audit

Case Studies on Advances – Realisable Security Value (Cont…)

Imaging links, Who had availed of a Term Loan for Purchase of Machinery worth Rs.10 lacs during 2010 has defaulted to repay the loan, the guestimated machinery value as per the branch management as at 29th January 2013 is Rs.10lacs.

Application of generally accepted principles

Jessi & co, owes a bank Rs. 25 lakhs, the owner has given his property in his remote native village, the single largest land of 1000 acres values at Rs.25 lakhs.

Impossibility of performance

Case Studies on Advances – Inter Company Transaction

Khan Bros, is a group concern, enjoying loan facilities along with ghan bros in the same branch, each with Rs.5 lakhs limit. There are periodic inter transfer of funds between these two firms. But there is no business transactions between the same.

Caution in cases of circular credits

Best Shoes is a shoe exporter enjoying Rs.5 crores Packing Credit Limit, Best Leathers is also in the business of exporting of shoe uppers, shoe intermediaries etc., enjoying Rs.2 crores Packing Credit Limit.

Exclusion of credit summations of circular and non genuine credits

Best Shoes did job works for best leathers to the tune of Rs. 50 lakhs during financial year ending 2012. The Turnover of Best Shoes for the year ended 31.3.2012 was Rs.25 crores and that of Best Leathers was Rs.10 Crores, During the year Best Shoes received an advance of Rs. 1.50crores from Best leathers

Accomodation and diversion

Both the companies Fund based Limits are fully utilized throughout the year and periodically beyond the limits, however not for 90 days continuously.

Audit processes enable determination

Case Studies on Advances – Ever Greening / Restructured Accounts

Ever Green P Ltd., Engaged in horticulture, obtained a Term Loan of Rs.100 lacs on 1.6.2011, repayable in 50 Monthly Installments of Rs.2,00,000/- with a moratorium of 15 months. Repayment to commence from 1.09.2012.

However due to delay in commissioning of the project by 18 months, the loan was rescheduled with the following terms:Repayment to commence from 1.12.2012 Though the Company has been functioning, the capacity utilization was less than 50% and the cash flow position of Ever green P Ltd., was not comfortable and hence sought the rescheduling of the Term Loan Repayments from 1.12.2012 vide their letter dated 30.08.2012, which has been sanctioned by the bank on 3.2.2013.

Provisions of Restructuring of Advances, Specifications, special regulatory treatment, para 11.1 and Para 14 of RBI Master Circular on IRAC norms.

Case Studies on Advances – Temporary Deficiency - Renewal of Cash Credit, Overdraft and Demand Loans.

Lawrance & co, enjoying a Cash Credit limit of Rs.5 lakhs sanctioned on 1st October 2011 has been a very good account operating within the sanctioned limit, however due to the branch not having adequate officers his C/C limits has not been renewed since 1.10.2012.

Temporary deficiencies – non renewal

Mohan, a Machinery Manufacture obtained a Temporary Overdraft for 6 months against LIC Policies of Rs.25000/- on 1st July 2012.

Exceptions to asset classification

Nath, a trader was sanctioned an adhoc limit of Rs.1 lac on 15.4.2012 for 6 months and the same was further extended for 4 months on 18.10.2012.

Provisions on Adhoc

Jewel Loans Obtained by Jugraj on 30th December 2010 for a period of 2 years is still not redeemed

Security not a cover for asset classification

Case Studies on Advances – Temporary Deficiency - Renewal of Cash Credit, Overdraft and Demand Loans.

Varadaraj a spare part dealer does not submit his stock statements for 3 months.

90 days after the delay / non submission.

The branch auditor during the course of verification of the stock statement of X finds that out of the total stocks reported 25 percent is reported as non moving and 15 damaged, the drawings power is less that the limit sanctioned. The borrower has been operating within the Sanctioned Limit.

Consideration of facts and info in audit.

Case Studies on Advances – Term Loans

O' Coffee, has defaulted in repaying their Instalments and are classified as a Sub Standard Asset, they have not paid 3 monthly instalments as on 31.3.2013, a scrutiny of the ledger reveals that the instalments not paid pertains to the period 1.4.2011 to 30.6.2011.

Determination of date of NPA obligation on auditors

Prince Pens have paid their Term Loan dues of 6 months on 3.2.2013 by issuing a cheque of Rs.60000/- from their Cash Credit Account. Upon transfer the balance Loan outstanding in the Cash Credit Account was Rs.135000/- as against a sanctioned limit of Rs.100000/-. The manager has reported the excess drawing to the controlling authority.

Window dressing – analytical procedure enable proper classification – human intelligence

Case Studies on Advances – EMI Concepts

Prince was sanctioned a Housing Loan of Rs.72 lakhs on 10.4.2010 repayable in 180 instalments the EMI fixed was Rs.45000/-. The Borrower has been regularly repaying the EMI of Rs.45000/-. The balance outstanding as at 31st March 2013 is Rs.76.5 lakhs.

Sample selection, parabolic effect and compliance with terms of sanction

Case Studies on Advances – Circular Credits

Rajesh was sanctioned a Demand Loan of Rs.20000/-, on the same day he deposited the money into his firm's account, which was used for paying a creditor S, which S, in turn paid towards his Term Loan account with the same branch.

Careful schemes, unintelligible to systems deduction

Thomas & Unni are related entities both enjoying Cash Credit Limits of Rs.50000/- each. During the year the Credit summation of Thomas was Rs.200000/- and unni was Rs.250000/-, the Cross transfer of funds from Thomas to Unni was Rs.150000/- and from unni to Thomas Was Rs.225000/-.

Circular credits

Case Studies on Advances – SARAFEASI Cases

Zaheer Ltd, Could not repay their Term Loan instalment of Rs.5 lacs for the months of January, February & March 2013 due on 10th of every month, During April the borrower was served with notice u/s 13 for possession of the securities.

Events occuring after balance sheet date

Case Studies on Advances – Financial Statement Sheet Analysis – Threat of recovery

AAA Hosiery, a proprietary firm, was sanctioned a Cash Credit Limit of Rs.10 lakhs during 2011, the operation in the account is satisfactory, all the interest is paid up and credit summations has been good. The Net Profit for the year 31.3.2012 was Rs.1,75,000/- against a turnover of Rs.1.75 crores. The Balance sheet of the firm reflects that debtors beyond 2 years is Rs.15 lakhs. Creditors remain unpaid for more than 6 months.

Tendencies of sickness warrant closer scrutiny and reporting in LFAR

Vikram Ltd whose networth has eroded by 50% was declared sick by the management in the Audited Financial Statements for the y.e. 31.03.2012, the Term Loan repayments are irregular as on 31st March 2013, two intalments are pending. The unit has stopped functioning since February 2013.

Threat of recovery

Case Studies on Advances – Sale of Asset – Threat of recovery

Zen who had obtained a Term Loan for buying a car had an outstanding of Rs.150000/- in his account, he has not paid 2 months installment, however it came to the notice of the branch that he has sold the car on 28th March 2013, there are no other securities/ assets with Zen.

Loss of primary security – threat of recovery – loss asset

Case Studies on Advances – Diversion of funds

Rohan bought a Hyundai Accent Car, his balance sheet reflected capital including Current Account of Rs.5 lakhs, fixed assets including the car Rs.15 lakhs. He enjoys Rs.10 lakhs Cash Credit Limit and there are no other loans.

Absence of drawing power – diversion of funds

Case Studies on Advances – Letters of Credit Devolved / Bank Guarantees Invoked

On 30th March 2013 Vikrams Letters of Credit and Bank Guarantees were devolved and invoked by the respective persons, the branch paid the same on 1st April 2013, by keeping them under other assets.

Accounting treatment and grouping

Case Studies on Advances – Borrower Wise Asset Classification

Raghuram has three accounts with the branch, a Term Loan which was a standard Asset, A Cash Credit account which was also a standard asset however a Bill Purchased for Rs.10,000/- on 18th December 2012 had not been realized as on 31st March 2013 by oversight.

Borrower wise classification

Restructured Accounts – fresh limits. Exceptions to borrower wise classification

Case Studies on Advances – Knowledge of business

The Total Turnover of Yash for the current year is Rs.6,00,000/- which is 10% higher than their previous year turnover, the stocks held by them are Rs.3,00,000/- as against a Cash Credit Limit of Rs.2,00,000/-. Yash is engaged in Bakery business.

Knowledge of business reflect reality

Francis, a retailer of FMCG goods very frequently draws cash other than for salaries and other expenses.

Business considerations

Case Studies on Advances – Physical Stock Verification

Rao, the branch statutory Auditor, during his visit to one of the borrowers premises observed the following:

a. Stock books are not properly maintained.b. The stocks reflected in the stock statement and physical verification showed significant variancec. There was slow moving / seconds stocksd. There was damaged goods.

Inclusion of stock verification of single largest client of the branch to form part of the audit program

Case Studies on Advances – Government Guaranteed Advances

KBG a power project of a state government was outstanding to the tune of Rs.10. lakhs, the original amount sanctioned was Rs.75 crores. The last date for repayment was 31.3.2012. Ledger Account shows that the amount outstanding is disputed interest on account of excess charged by the branch over and above the refinance rate.

Accouting versus asset classification

Loan Sanctioned to a unit with Central Government Guarantee has become overdue, the guarantee is invoked.

Will the answer be different if the guarantor is State Government.

Distinction between asset classification and interest recognition of government guaranteed advances

Case Studies on Advances – Agricultural Advances

Muniyappa had taken a crop loan on 25.3.2012 of Rs.25000/- on 25.3.2013 he took a mortgage loan of Rs. 25000/- which was directly paid to repay his crop loan.

Repayment of one loan with another not permitted

Ramappa had also done the same thing as above towards his sugarcane crop which was affected by drought during the year 2012 -13.

Drought hit – SLBC - norms

Case Studies on Advances – Continuous Overdrawing – Discretionary power

Mahesh Associates ledger account in the branch reflected that they had continuously been using Rs.110000/-as against the sanctioned limit of Rs.100000/- for four months, the branch manager has stated that he has used his discretionary power (up to 20% of sanctioned limit) and hence the account is a performing asset.

Discretionary power not a substitute to sanctioned limit

Case Studies on Advances – Staff Advances against Shares

Prabhu a staff of a bank apart from availing other loans has also availed loans against shares, the market value of such shares has reduced by 50% for the last 1year due to huge volatility in the stock market.

Staff loan does it fall outside the scope for asset classification

Case Studies on Advances – Window Dressing

There is a solitary credit of Rs.15000/-on 31st March into the account of Venkat in his Cash Credit account of Rs.112000/-, by discounting of a cheque.

Window dressing

Case Studies on Advances – Premises Loan

A Term Loan was given to Raja the landlord by the branch, the terms of repayment was the entire rent to be adjusted towards the Term Loan, The EMI was Rs.8,000/- per month, rent was Rs.7,000/- per month. The land lord has not been paying the additional Rs.1000 from his pocket since the repayment commenced during January 2010, the accountwas not classified as a non performing asset since the branch has the possession and security of the premises.

Terms of sanction – non compliance – asset downgrade

The Landlord has also been asking for an increase in the rent of the extent of Rs.10,000/- being the market rent, however as per the agreement rent is to be enhanced one in two years of 10% the matter is pending settlement.

Moc for increased rent or increase in Contingent liability provision as the case may be.

Case Studies on Advances – PMRY Loans

As per PMRY Loan scheme a moratorium of a maximum of 18 months can be offered, however the branch manager has not given any moratorium to Ramesh an unemployed youth to set up his Xerox shop, Ramesh has not paid last 6 months installment. The branch manager states that the account will remain a standard asset considering the moratorium that is permissible.

Scope beyond authority.

AUDIT PLANNING

Phase Actions

One • Call the Branch manager to confirm the size of the branch and the unique advances of the branch, restructuring, audit level ( covered under concurrent etc)

• Document the key data on total advances, total deposits ( value and volume ) to form an idea on the time to be taken and the resources to be deployed

• The audit can be commenced and completed even for a date prior to March 31, 2013 and the final movements can be analysed after the Balance Sheet date

• Understand the CBS reports that are being pushed on a daily basis ( 200+ ) including Specially Marked Accounts, Irregular loans, NPA reports

• Obtain opening balance files for NPA as at April 1, 2012 and reconcile to previous Balance Sheet

AUDIT SAMPLING

Phase Actions

Two • The Balance Sheet totals ( general ledger ) are reflected in the loan balances , CC OD and deposits file

• Take samples of high value transactions on • transactions initiated during the year • transactions initiated during previous years

• The focus will be on documentation for current year disbursements and asset backing for previous year cases as documentation would be more or less verified by the previous auditors

• Large advances need to covered completely anyway

• Pareto is a good, tested, safe and acceptable sampling protocol ( 20 % of transactions will account for 80% by value ) . The certification is under GAAP

AUDIT PROCEDURES

Phase Actions

Three • Audit procedures are the same for bank audits like in the case of other audits and include the following

Inspection ObservationInquiry & confirmationComputationAnalytical Procedures

• The auditor should apply commensureaudit procedures to obtain sufficient and appropriate Audit evidence to confirm his opinion on the component / branch being audited

AUDIT DOCUMENTATION

Phase Actions

Four • Audit Documentation should cover

• What was checked – particular account / group • Why it was checked – rationale for sample selection • When it was checked – date of review / visit • How it was checked – base documents / visit / system review /

calculation verification etc• Who checked – audit staff who performed the work

• A checklist driven approach will ensure speed and confidence in the performance of work especially when assistants are engaged

• Illustrative checklists are attached

The key risks associated with audit of Deposits are KYC, AML compliance, deposit related documentation, interest rate application , TDS compliance and Lien on deposits

DEPOSIT – CHECKLIST ILLUSTRATION

The key risks associated with audit of Deposits are KYC, AML compliance, related documentation, authorization to operate, identity of entity, interest rate application. The checklist should cover all entity types to be filled up after audit as Yes, No or Not applicable

SB / CURRENT ACCOUNTS – CHECKLIST

CHECKLIST – LOAN AGST DEPOSITS

Key risks : Loan without deposit, duplication of loan against same

deposit and escaped security due to lien not marked

CHECKLIST – LOAN AGST FINANCIAL ASSETS

Key risks : Loan without asset, duplication of loans for same asset

, decline in value of security, not lien to bank

CHECKLIST – VEHICLE LOAN

Key risks : Loan without original RC, non availability of security

CHECKLIST – HOUSING LOAN

Key risks : Loan without housing documents, title issues, unapproved

constructions, non registration of mortage in favour of the bank,

Delayed constructions ( land and building ) and possession not complete within 24

months cannot be “housing loans”

CHECKLIST – EDUCATION LOAN

CHECKLIST – CC / OD

CHECKLIST – TERM LOAN

REPORTING

Bank Branch audit reports will be covered by SA700 and stands revised for the present year and audit reports in respect of audits of financial statements for periods beginning on or after 1st April 2012 are to be issued in this revised format.  T

he text of the revised auditor’s report format appears in the Appendix to the Revised SA 700 and can be downloaded from website of the Institute of Chartered Accountants of India at URL: http://220.227.161.86/17874sa700annx1.pdf .

For the ready reference of members carrying out audit of banks/ bank branches, the Auditing and Assurance Standards Board of ICAI has developed relevant audit report formats in line with the requirements of the revised SA 700 which are once again attached for your perusal.

Further, members undertaking bank branch audits are also requested that, pursuant to a recent communication by the Reserve Bank of India to ICAI in this regard, the total number and amount of debits/ credits arising pursuant to the Memorandum of Changes submitted by them, be given under the heading “Other Matters Paragraph” on the face of the bank branch audit report/s issued by them.

Necessary guidance in this regard is being provided in the 2013 Guidance Note on Audit of Banks which would be issued soon.

PRECAUTIONS

Questions ?