As you are aware of the frauds, in order to have all current instructions on the subject at one place, the Reserve Bank of India issues updated circulars/notifications of the company registration. The instructions issued on the captioned subject as updated on June 30, 2014 are reproduced in the Master Circular enclosed. The master circular has also been placed on the RBI website.

Introduction

frauds

  • Incidence of Frauds in NBFCs is a matter of concern. While the primary responsibility for preventing frauds lies with NBFCs themselves, a reporting system for frauds is prescribed in the following paragraphs, which may be adopted by NBFCs.
  • It is possible that frauds are, at times, detected in NBFCs long after their preparation. NBFCs should, therefore, ensure that a reporting system is in place so that frauds are reported without any delay. NBFCs should fix staff accountability in respect of delays in reporting of fraud cases to the Reserve bank.   
  • Delay in reporting of frauds and the consequent delay in altering other NBFCs and issue of caution advices against unscrupulous borrowers could result in similar frauds being perpetrated elsewhere. NBGFCs may, therefore, strictly adhere to the timeframe fixed in this circular for reporting fraud cases to the Reserve bank failing which NBFCs would be liable for penal action as prescribed under the provisions of Chapter 5 of the RBI Act, 1934.
  • NBFCs should specifically nominate an official of the rank of the general manager or equivalent who will be responsible for submitting all the returns referred to in this circular.
  • It may be noted that NBFCs are not required to submit ‘Nil’ reports to Frauds monitoring Cell/ Regional offices of Department of Non-banking supervision. At the same time, enough precautions may be taken by the deposit taking NBFCs to ensure that the cases reporting by them are duly received by Frauds Monitoring Cell/ Regional Offices of Department of Non-banking supervision as the case may be.
  • It is advised that all non-deposit taking NBFCs with asset size of Rs.100 crore and above and deposit taking NBFCs shall disclose the amount related to fraud, reported in the company for the year in their balance sheets. NBFCs failing to report fraud cases to the Reserve Bank would be liable for penal action prescribed under the provisions of Chapter 5 of the RBI Act for Company Registration.

Classification of Frauds

frauds

In order to have uniformity in reporting, frauds have been classified as under based mainly on the provisions of the Indian Penal Code:

  • Misappropriation and criminal breach of trust.
  • Fraudulent encashment through forged instruments, manipulation of books of account or through fictions accounts and conversion of property.
  • Unauthorized credit facilities extended for reward or for illegal gratification.
  • Negligence and cash shortages.
  • Cheating and Forgery.
  • Irregularity in foreign exchange transactions.

Any other type if fraud not coming under the specific heads and above.

Cases of negligence and cash shortages and irregularities in foreign exchange transactions’ referred to n items (d) and (f) above are to be reported as fraud if the intention to cheat /defraud is suspected or proved.  However, the following cases where fraudulent intention is not suspected/proved.

  • Cases of cash shortages more than RS.10,000 and
  • Cases of each shortage more than Rs.5000, if detected by management/auditor/ inspecting officer and not reported on the occurrence by the persons handling cash.

NBFCs having overseas branches/offices should report all frauds prepared at such branches/offices also to the Reserve Bank as per the format and procedure of the Company registration.

Reporting of Frauds to Reserve Bank of India

The Reserve bank of India’s fraud monitoring cell attached to Department of Banking supervision, central Government has shifted from 2nd floor, world trade center -1, Cuffs Parade, Mumbai to Bangalore Regional office of the reserve bank. The Central Fraud monitoring cell continues to be the part of Department of Banking supervision, Central office Mumbai and has started functioning from the new location at Bangalore from July, 2013.

Frauds involving Rs.1 lakh and above

frauds

  • Fraud report should be submitted in all cases of fraud of Rs.1 lakh and above perpetrated through misrepresentation, breach of trust, manipulation of books of account, fraudulent encashment of FDRs unauthorized handling of securities charged to the NBFC, misfeasance, embezzlement, misappropriation of funds, conversion of property, cheating , shortages, irregularities, etc.,
  • Fraud reports should also be submitted in cases where central investigating agencies have initiated criminal proceedings and/or where the Reserve bank has directed that they be reported as frauds.
  • NBFCs may also report frauds perpetrated in their subsidiaries and affiliates/joint ventures. Such frauds should, however, not be included in the report on outstanding frauds and the quarterly progress reports.
  • The fraud reports in the prescribed format should be sent to the Central office(CO) of the Reserve Bank of India, Department of Banking supervision, Frauds Monitoring cell, where the amount involved in fraud is Rs.25 lakhs and above and to Regional office of the Reserve Bank of India, Department of non-banking supervision under whose jurisdiction the registered office of the NBFC falls where the fraud amount involved in fraud is less than Rs.25 lakhs, in the format given in FMR-1, within three weeks from the date of detection. A copy of FMR-1 where the amount involved in the fraud is Rs.25 lakhs and above should also be submitted to the Regional office of the Department of non-banking supervision of Reserve bank of India under whose jurisdiction the registered office of the NBFC falls.

It was also advised that NBFCs are permitted to close the fraud cases only where the actions are complete and prior approval is obtained from the respective Regional offices of DNBS. The action would be considered complete when

  • The fraud cases pending with CBI/police/court are finally disposed of;
  • The examination of staff accountability has been completed;
  • The amount of fraud has been recovered or written off;
  • Insurance claim whether applicable has been settled; and
  • The NBFC has reviewed the systems and procedures, identified as the causative factors and plugged the lacunae and the fact of which has been certified by the appropriate authority like Board/Audit committee of the board.

Frauds committed by unscrupulous borrowers

frauds

It is observed that a large number of frauds are committed by unscrupulous borrowers including companies, partnership firms/proprietary concerns and/or their directors or partners by various methods including the following:

  • Fraudulent discount of instruments
  • Fraudulent removal of pledged stocks/disposing of hypothecated stocks without the NBFC’s knowledge/inflating the value of stocks in the stock statement and drawing excess finance.
  • Diversion of funds outside the borrowing units, lack of interest of criminal neglect on the part of the borrowers, their partners, etc. and also due to managerial failure leading to the unit becoming sick and due to laxity in the effective supervision over the operations in the borrowable accounts on the part of the NBFC functionaries rendering the advance difficult of recovery.
  • In respect of funds in borrowable account additional information as prescribed under Part B of FMR-1 may also be furnished.

Frauds involving Rs.25 lakhs and above

In respect of frauds involving Rs.25 lakhs and above, in addition to the requirements given at paragraph 3.1 and 3.2 and above, NBFCs may report the fraud by means of a D.O. letters addressed to the Chief General manner-in –Charge of the Department of Banking supervision, Reserve bank of India, frauds Monitoring cell, central office and a copy endorsed to the chief general manager in charge of the Department of Non-banking supervision, Reserve Bank of India, central office within a week of such frauds coming to the notice of the NBFC. The letter may contain brief particulars of the fraud such as amount involved, nature of frauds in brief, name of the branch/office involved, name of the officials involved, and whether the compliant has been lodged with the police, A copy of the D.O. letter should also be endorsed to the Regional office of Reserve bank, Department of Non-Banking supervision under whose jurisdiction the registered office of the NBFC is functioning.

Cases of attempted fraud

frauds

The practice of reporting attempted fraud cases of Rs.25 lakh or more to Reserve Bank of India, fraud monitoring cell, Department of Banking supervision, and central office was discontinued from December 2012. However, individual cases involving Rs.25 lakh or more should be continued to be placed before the Audit Committee of NBFC‘s Board. The report containing attempted frauds which is to be placed before the audit committee of the Board should cover inter alia the following viz.,

  • The modus operandi of the attempted fraud;
  • How the attempt did not materialize in the fraud or how the attempt failed ;
  • New systems and controls put in place in the area where the fraud was attempted;
  • In addition yearly consolidated review of such cases detected during the year containing information such area of operations where such attempt were made, effectiveness of new process and procedures out in place during the year, trend of such cases during the last three years, need for further change in process and  procedures, if any, etc., March 31 every year.

Report on fraud outstanding

  • NBFC should submit the copy of the quarterly report on Frauds outstanding in the format given in FMR-2 to the regional office of the Reserve bank of India, Department of non-banking supervision under whose jurisdiction the Registered office of the NBFC falls irrespective of amount within 15 days of the end of the quartered to which it relate,
  • Part-A of the report covers details of frauds outstanding as at the end of the quarter, part B and C of the report give category-wise and perpetrator –wise details of the frauds reported during the quarter respectively . The total number of and the amount of fraud cases reported during the quartered.

Guidelines for reporting frauds to police

frauds

NBFCs should follow the following guidelines for reporting of frauds such as unauthorized credit facilities extended by the NBFC  for illegal gratification, negligence and cash shortages, Cheating, forgery, etc., to the state police authorities.

  • In dealing with cases of fraud/embezzlement, NBFCs should not merely be actuated by the necessity of recovering expeditiously the amount involved, but should also be motivated by public interest and the need for ensuring that the guilty persons do not go un-punished.
  • Therefore, as general rule, the following cases should invariably be referred to the State police: a) Cases of fraud involving an amount of Rs.1 lakh and above, committed with outsiders on their own and/or with the convenience of NBFC staff/officers; b) Cases of frauds committed by NBFC employees, when it involves NBFC funds exceeding Rs.10000.

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