Banking Fraud – Prevention and Control
Banking Fraud is posing threat to Indian Economy. Its vibrant effect can be understood be the fact that in the year 2004 number of Cyber Crime were 347 in India which rose to 481 in 2005 showing an increase of 38.5% while I.P.C. category crime stood at 302 in 2005 including 186 situations of cyber fraud and 68 situations cyber forgery. consequently it becomes very important that occurrence of such frauds should be reduced. More upsetting is the fact that such frauds are entering in Banking Sector in addition.
In the present day, Global Scenario Banking System has acquired new dimensions. Banking did spread in India. Today, the banking system has entered into competitive markets in areas covering resource mobilization, human resource development, customer sets and credit management in addition.
Indian’s banking system has several noticeable achievements to its credit, the most remarkable of which is its reach. In fact, Indian edges are now spread out into the remotest areas of our country. Indian banking, which was operating in a highly comfortable and protected ecosystem till the beginning of 1990s, has been pushed into the choppy waters of intense competition.
A sound banking system should possess three basic characteristics to protect depositor’s interest and public faith. Theses are (i) a fraud free culture, (ii) a time tested Best Practice Code, and (iii) an in house immediate grievance remedial system. All these conditions are their missing or extremely ineffective in India. Section 5(b) of the Banking Regulation Act, 1949 defines banking… “Banking is the accepting for the purpose of lending or investment, deposits of money from the purpose of lending or investment, deposits of money from the public, repayable on need or otherwise and withdraw able by cheque, draft, order or otherwise.” But if his money has fraudulently been drawn from the bank the latter is under strict obligation to pay the depositor. The bank consequently has to ensure at all times that the money of the depositors is not drawn fraudulently. Time has come when the security aspects of the edges have to be dealt with on priority basis.
The banking system in our country has been taking care of all segments of our socio-economic set up. The Article contains a discussion on the rise of banking frauds and various methods that can be used to avoid such frauds. A bank fraud is a deliberate act of omission or commission by any person carried out during banking transactions or in the books of accounts, resulting in wrongful gain to any person for a permanent period or otherwise, with or without any monetary loss to the bank. The applicable provisions of Indian Penal Code, Criminal Procedure Code, Indian Contract Act, and Negotiable Instruments Act relating to banking frauds has been cited in the present Article.
EVOLUTION OF BANKING SYSTEM IN INDIA
Banking system occupies an important place in a nation’s economy. A banking institution is indispensable in a modern society. It plays a pivotal role in economic development of a country and forms the chief of the money market in an progressive country.
Banking industry in India has traversed a long way to assume its present stature. It has experienced a major structural transformation after the nationalization of 14 major commercial edges in 1969 and 6 more on 15 April 1980. The Indian banking system is rare and perhaps has no parallels in the banking history of any country in the world.
save BANK OF INDIA-ECONOMIC AND SOCIAL OBJECTIVE
The save Bank of India has an important role to play in the maintenance of the exchange value of the rupee in view of the close interdependence of international trade and national economic growth and well being. This aspect is of the wider responsibly of the central bank for the maintenance of economic and financial stability. For this the bank is entrusted with the custody and the management of country’s international reserves; it acts also as the agent of the government in respect of India’s membership of the international monetary fund. With economic development the bank also performs a variety of developmental and promotional roles which in the past were registered being outside the normal purview of central banking. It also acts an important regulator.
BANK FRAUDS: CONCEPT AND DIMENSIONS
edges are the engines that excursion the operations in the financial sector, which is vital for the economy. With the nationalization of edges in 1969, they also have emerged as engines for social change. After Independence, the edges have passed by three stages. They have moved from the character based lending to ideology based lending to today competitiveness based lending in the context of India’s economic liberalization policies and the time of action of linking with the global economy.
While the operations of the bank have become increasingly meaningful banking frauds in edges are also increasing and fraudsters are becoming more and more complex and clever. In a bid to keep speed with the changing times, the banking sector has diversified it business manifold. And the old philosophy of class banking has been replaced by mass banking. The challenge in management of social responsibility with economic viability has increased.
DEFINITION OF FRAUD
Fraud is defined as “any behavior by which one person intends to gain a dishonest advantage over another”. In other words , fraud is an act or omission which is intended to cause wrongful gain to one person and wrongful loss to the other, either by way of concealment of facts or otherwise.
Fraud is defined u/s 421 of the Indian Penal Code and u/s 17 of the Indian Contract Act. consequently basic elements of frauds are:
1. There must be a representation and assertion;
2. It must relate to a fact;
3. It must be with the knowledge that it is false or without belief in its truth; and
4. It must generate another to act upon the assertion in question or to do or not to do certain act.
Losses consistent by edges as a consequence of frauds go beyond the losses due to robbery, dacoity, burglary and theft-all put together. Unauthorized credit facilities are extended for illegal gratification such as case credit allowed against potential of goods, hypothecation of goods against bills or against book debts. shared modus operandi are, pledging of spurious goods, inletting the value of goods, hypothecating goods to more than one bank, fraudulent removal of goods with the knowledge and connivance of in negligence of bank staff, pledging of goods belonging to a third party. Goods hypothecated to a bank are found to contain out of use stocks packed in between goods stocks and case of shortage in weight is not uncommon.
An examination made of situations brings out broadly the under mentioned four major elements responsible for the commission of frauds in edges.
1. Active involvement of the staff-both supervisor and clerical either independent of external elements or in connivance with outsiders.
2. Failure on the part of the bank staff to follow meticulously laid down instructions and guidelines.
3. External elements perpetuating frauds on edges by forgeries or manipulations of cheques, drafts and other instruments.
4. There has been a growing collusion between business, top edges executives, civil servants and politicians in strength to defraud the edges, by getting the rules bent, regulations flouted and banking norms thrown to the winds.
FRAUDS-PREVENTION AND DETECTION
A close study of any fraud in bank discloses many shared basic features. There may have been negligence or dishonesty at some stage, on part of one or more of the bank employees. One of them may have colluded with the borrower. The bank official may have been putting up with the borrower’s sharp practices for a personal gain. The proper care which was expected of the staff, as custodians of edges interest may not have been taken. The bank’s rules and procedures laid down in the Manual instructions and the circulars may not have been observed or may have been deliberately ignored.
Bank frauds are the failure of the banker. It does not average that the external frauds do not defraud edges. But if the banker is upright and knows his job, the task of defrauder will become extremely difficult, if not possible.
Detection of Frauds
Despite all care and vigilance there may nevertheless be some frauds, though their number, periodicity and intensity may be considerably reduced. The following procedure would be very helpful if taken into consideration:
1. All applicable data-papers, documents etc. Should be promptly collected. Original vouchers or other papers forming the basis of the investigation should be kept under lock and meaningful.
2. All persons in the bank who may be knowing something about the time, place a modus operandi of the fraud should be examined and their statements should be recorded.
3. The probable order of events should thereafter be reconstructed by the officer, in his own mind.
4. It is advisable to keep the central office informed about the fraud and further developments in regard thereto.
Classification of Frauds and Action Required by edges
The save Bank of India had set-up a high level committee in 1992 which was headed by Mr. A… Ghosh, the then Dy. Governor save Bank of India to inquire into various aspects relating to frauds malpractice in edges. The committee had noticed/observed three major causes for perpetration of fraud as given hereunder:
1. Laxity in observance of the laid down system and procedures by operational and supervising staff.
2. Over confidence reposed in the clients who indulged in breach of trust.
3. Unscrupulous clients by taking advantages of the laxity in observance of established, time tested safeguards also committed frauds.
In order to have uniformity in reporting situations of frauds, RBI considered the question of classification of bank frauds on the basis of the provisions of the IPC.
Given below are the Provisions and their Remedial measures that can be taken.
1. Cheating (Section 415, IPC)
The preventive measures in respect of the cheating can be concentrated on cross-checking regarding identity, genuineness, verification of particulars, etc. in respect of various instruments in addition as persons involved in encashment or dealing with the character of the bank.
2. Criminal misappropriation of character (Section 403 IPC).
Criminal misappropriation of character, presuppose the custody or control of funds or character, so subjected, with that of the person committing such frauds. Preventive measures, for this class of fraud should be taken at the level the custody or control of the funds or character of the bank generally vests. Such a measure should be sufficient, it is extended to these persons who are truly handling or having actual custody or control of the fund or movable similarities of the bank.
3. Criminal breach of trust (Section 405, IPC)
Care should be taken from the initial step when a person comes to the bank. Care needs to be taken at the time of recruitment in bank in addition.
4. Forgery (Section 463, IPC)
Both the prevention and detection of frauds by forgery are important for a bank. Forgery of signatures is the most frequent fraud in banking business. The bank should take special care when the instrument has been presented either bearer or order; in case a bank pays forged instrument he would be liable for the loss to the genuine costumer.
5. Falsification of accounts (Section 477A)
Proper diligence is required while filling of forms and accounts. The accounts should be rechecked on daily basis.
6. Theft (Section 378, IPC)
Encashment of stolen’ cheque can be prevented if the bank clearly specify the age, sex and two visible clarify action marks on the body of the person traveler’s cheques on the back of the cheque leaf. This will help the paying bank to easily clarify the cheque holder. Theft from lockers and safe place vaults are not easy to commit because the master-meaningful remains with the banker and the individual meaningful of the locker is handed over to the costumer with due acknowledgement.
7. Criminal conspiracy (Section 120 A, IPC)
In the case of State of Andhra Pradesh v. IBS Prasad Rao and Other, the accused, who were clerks in a cooperative Central Bank were all convicted of the offences of cheating under Section 420 read along with Section 120 A. all the four accused had conspired together to defraud the bank by making false need drafts and receipt vouchers.
8. Offences relating to money notes and edges notes (Section 489 A-489E, IPC)
These sections provide for the protection of money-notes and bank notes from forgery. The offences under section are:
(a) Counterfeiting money notes or edges.
(b) Selling, buying or using as genuine, forged or counterfeit money notes or bank notes. Knowing the same to be forged or counterfeit.
(c) Possession of forged or counterfeit money notes or bank-notes, knowing or counterfeit and intending to use the same as genuine.
(d) Making or passing instruments or materials for forging or counterfeiting money notes or edges.
(e) Making or using documents resembling money-notes or bank notes.
Most of the above provisions are Cognizable Offences under Section 2(c) of the Code of Criminal Procedure, 1973.
FRAUD inclined AREAS IN DIFFERENT ACCOUNTS
The following are the possible fraud inclined areas in Banking Sector. In addition to those areas I have also given kinds of fraud that are shared in these areas.
Savings Bank Accounts
The following are some of the examples being played in respect of savings bank accounts:
(a) Cheques bearing the forged signatures of depositors may be presented and paid.
(b) Specimen signatures of the depositors may be changed, particularly after the death of depositors,
(c) idle accounts may be operated by dishonest persons with or without collusion of bank employees, and
(d) Unauthorized withdrawals from customer’s accounts by employee of the bank maintaining the savings ledger and later destruction of the recent vouchers by them.
Current Account Fraud
The following types are likely to be committed in case of current accounts.
(a) Opening of frauds in the names of limited companies or firms by unauthorized persons;
(b) Presentation and payment of cheques bearing forged signatures;
(c) Breach of trust by the employees of the companies or firms possessing cheque leaves duly signed by the empowered signatures;
(d) Fraudulent alteration of the amount of the cheques and getting it paid either at the counter or though another bank.
Frauds In Case Of Advances
Following types may be committed in respect of advances:
(a) Spurious gold ornaments may be pledged.
(b) Sub-standard goods may be pledged with the bank or their value may be shown at inflated figures.
(c) Same goods may be hypothecated in favour of different edges.
LEGAL REGIME TO CONTROL BANK FRAUDS
Frauds constitute white-collar crime, committed by unscrupulous persons deftly advantage of loopholes existing in systems/procedures. The ideal situation is one there is no fraud, but taking ground realities of the nation’s ecosystem and human character’s fragility, an institution should always like to keep the overreach of frauds at the minimum occurrence level.
Following are the applicable sections relating to Bank Frauds
Indian Penal Code (45 of 1860)
(a) Section 23 “Wrongful gain”.-
“Wrongful gain” is gain by unlawful method of character to which the person gaining is not legally entitled.
(b) “Wrongful loss”
“Wrongful loss” is the loss by unlawful method of character to which the person losing it is legally entitled.
(c) Gaining wrongfully.
Losing wrongfully-A person is said to gain wrongfully when such person retains wrongfully, in addition as when such person acquires wrongfully. A person is said to lose wrongfully when such person is wrongfully kept out of any character, in addition as when such person is wrongfully deprived of character.
(d) Section 24. “Dishonestly”
Whoever does anything with the intention of causing wrongful gain to one person or wrongful loss to another person, is said to do that thing “dishonestly”.
(e) Section 28. “Counterfeit”
A person is said to “counterfeit” who causes one thing to resemble another thing, intending by method of that resemblance to practice deception, or knowing it to be likely that deception will thereby be practiced.
BREACH OF TRUST
1. Section 408- Criminal breach of trust by clerk or servant.
2. Section 409- Criminal breach of trust by public servant, or by banker, merchant or agent.
3. Section 416- Cheating by personating
4. Section 419- Punishment for cheating by personation.
OFFENCES RELATING TO DOCMENTS
1) Section 463-Forgery
2) Section 464 -Making a false document
3) Section 465- Punishment for forgery.
4) Section 467- Forgery of valuable security, will, etc
5) Section 468- Forgery for purpose of cheating
6) Section 469- Forgery for purpose of harming reputation
7) Section 470- Forged document.
8) Section 471- Using as genuine a forged document
9) Section 477- Fraudulent cancellation, destruction, etc., of will, authority to adopt, or valuable security.
10) Section 477A- Falsification of accounts.
THE save BANK OF INDIA ACT, 1934
Issue of need bills and notes Section 31.
Provides that only Bank and except provided by Central Government shall be empowered to draw, accept, make or issue any bill of exchange, hundi, promissory observe or engagement for the payment of money payable to bearer on need, or borrow, owe or take up any sum or sums of money on the bills, hundis or notes payable to bearer on need of any such person
THE NEGOTIABLE INSTRUMENTS ACT, 1881
Holder’s right to duplicate of lost bill Section 45A.
1. The finder of lost bill or observe acquires no title to it. The title remains with the true owner. He is entitled to retrieve from the true owner.
2. If the finder obtains payment on a lost bill or observe in due course, the payee may be able to get a valid release for it. But the true owner can retrieve the money due on the instrument as damages from the finder.
When an Instrument is obtained by unlawful method or for unlawful consideration no possessor or indorse who claims by the person who found or so obtained the instrument is entitled to receive the amount due thereon from such maker, acceptor or holder, or from any party prior to such holder, unless such possessor or indorse is, or some person by whom he claims was, a holder thereof in due course.
Cheque payable to order.
1. By this section, bankers are placed in privileged position. It provides that if an order cheque is indorsed by or on behalf of the payee, and the banker on whom it is drawn pays it in due course, the banker is discharged. He can debit his customer with the amount so paid, though the endorsement of the payee might turn out to be a forgery.
2. The claim protection under this section the banker has to prove that the payment was a payment in due course, in good faith and without negligence.
Section 87. Effect of material alteration
Under this section any alteration made without the consent of party would be void. Alteration would be valid only if is made with shared intention of the party.
Section 138. Dishonour of cheque for insufficiency, etc., of funds in the account.
Where any cheque drawn by a person on an account maintained by him with a banker for payment of any amount of money to another person from out of that explain the release, in whole or in part, of any debt or other liability, is returned by the bank unpaid. either because of the amount of money standing to the credit of that account is insufficient to honour the cheque or that it exceeds the amount arranged to be paid from that account by an agreement made with that bank, such person shall be deemed to have committed an offence and shall, without prejudice.
Section 141(1) Offences by companies.
If the person committing an offence under Section 138 is a company, every person who, at the time the offence was committed, was responsible for, and was responsible to, the company for the conduct of the business of the company, in addition as the company, shall be deemed to be guilty of the offence and shall be liable to be proceeded against and punished consequently.
SECURITY REGIME IN BANKING SYSTEM
Security implies sense of safety and of freedom from danger or anxiety. When a banker takes a collateral security, say in the form of gold or a title deed, against the money lent by him, he has a sense of safety and of freedom from anxiety about the possible non-payment of the loan by the borrower. These should be communicated to all strata of the organization by appropriate method. Before staff managers should analyze current practices. Security procedure should be stated clearly and agreed upon by each user in the specific ecosystem. Such practices ensure information security and enhance availability. Bank security is essentially a defense against unforced attacks by thieves, dacoits and burglars.
PHYSICAL SECURITY MEASURES-CONCEPT
A large part of edges security depends on social security measures. Physical security measures can be defined as those specific and special protective or defensive measures adopted to deter, detect, delay, defend and defeat or to perform any one or more of these roles against culpable acts, both covert and covert and acclamations natural events. The protective or defensive, measures adopted include construction, installation and deployment of structures, equipment and persons respectively.
The following are few guidelines to check malpractices:
1. To rotate the cash work within the staff.
2. One person should not continue on the same seat for more than two months.
3. Daybook should not be written by the Cashier where an other person is obtainable to the job
4. No cash withdrawal should be allowed within passbook in case of withdrawal by pay order.
5. The branch manager should ensure that all staff members have recorder their presence in the attendance registrar, before starting work.
Execution of Documents
1. A bank officer must adopt a strict specialized approach in the execution of documents. The ink and the pen used for the execution must be maintained uniformly.
2. Bank documents should not be typed on a typewriter for execution. These should be always handwritten for execution.
3. The execution should always be done in the presence of the officer responsible for acquire them,
4. The borrowers should be asked to sign in complete signatures in same style throughout the documents.
5. Unless there is a specific requirement in the document, it should not be got attested or witnessed as such attestation may change the character of the instruments and the documents may unprotected to ad volrem stamp duty.
6. The paper on which the bank documents are made should be pilfer proof. It should be rare and obtainable to the edges only.
7. The printing of the bank documents should have highly artistic complicate and complicate graphics.
8. The documents executed between Banker and Borrowers must be kept in safe custody,
CHANGES IN LEGISLATIONS AFTER ELECTRONIC TRANSACTIONS
1. Section 91 of IPC shall be amended to include electronic documents also.
2. Section 92 of Indian Evidence Act, 1872 shall be amended to include commuter based communications
3. Section 93 of Bankers Book Evidence Act, 1891 has been amended to give legal sanctity for books of account maintained in the electronic form by the edges.
4. Section 94 of the save Bank of India Act, 1939 shall be amended to ease electronic fund transfers between the financial institutions and the edges. A new clause (pp) has been inserted in Section 58(2).
RECENT TRENDS OF BANKING SYSTEM IN INDIA
In the banking and financial sectors, the introduction of electronic technology for transactions, settlement of accounts, book-keeping and all other related roles is now an imperative. Increasingly, whether we like it or not, all banking transactions are going to be electronic. The thrust is on commercially important centers, which explain 65 percent of banking business in terms of value. There are now a large number of fully computerized branches across the country.
A switchover from cash-based transactions to paper-based transactions is being accelerated. Magnetic Ink character recognition clearing of cheques is now operational in many cities, beside the four metro cities. In India, the design, management and regulation of electronically-based payments system are becoming the focus of policy deliberations. The imperatives of developing an effective, efficient and speedy payment and settlement systems are getting sharper with introduction of new instruments such as credit cards, telebanking, ATMs, retail Electronic Funds move (EFT) and Electronic Clearing sets (ECS). We are moving towards smart cards, credit and financial Electronic Data Interchange (EDI) for straight by processing.
Financial Fraud (Investigation, Prosecution, Recovery and Restoration of character) Bill, 2001
Further the Financial Fraud (Investigation, Prosecution, Recovery and Restoration of character) Bill, 2001 was introduced in Parliament to curb the menace of Bank Fraud. The Act was to prohibit, control, probe financial frauds; retrieve and restore similarities unprotected to such fraud; prosecute for causing financial fraud and matters connected therewith or minor point thereto.
Under the said act the term Financial Fraud has been defined as under:
Section 512 – Financial Fraud
Financial frauds method and includes any of the following acts committed by a person or with his connivance, or by his agent, in his dealings with any bank or financial institution or any other entity holding public funds;
1. The suggestion, as a fact, of that which is not true, by one who does not believe it to be true;
2. The active concealment of a fact by one having knowledge or belief of the fact;
3. A potential made with out any intention of performing it;
4. Any other act fitted to deceive;
5. Any such act or omission as the law specially declares to be fraudulent.
Provided that whoever acquires, possesses or transfers any proceeds of financial fraud or enters into any transaction which is related to proceeds of fraud either directly or indirectly or conceals or aids in the concealment of the proceeds of financial fraud, commits financial fraud.
513(a) – Punishment for Financial Fraud
Whoever commits financial fraud shall be: (a) Punished with demanding imprisonment for a term, which may extend to seven years and shall also be liable to fine.
(b)Whoever commits serious financial fraud shall be punished with demanding imprisonment for a term which may extend to ten years but shall not be less than five years and shall also be liable for fine up to double the amount involved in such fraud.
Provided that in both (a) and (b) all funds, bank accounts and similarities acquired using such funds placed under the financial fraud as may reasonably be credited by the investigating agency shall be recovered and restored to the rightful owner according to the procedure established by law.
The Indian Banking Industry has experienced tremendous growth since nationalization of 14 edges in the year 1969. There has an almost eight times increase in the bank branches from about 8000 during 1969 to mote than 60,000 belonging to 289 commercial edges, of which 66 edges are in private sector.
It was the consequence of two subsequent Committees on Computerization (Rangarajan Committee) that set the tone for computerization in India. While the first committee drew the blue print in 1983-84 for the mechanization and computerization in banking industry, the second committee set up in 1989 paved the way for integrated use of telecommunications and computers for applying technogical breakthroughs in banking sector.
However, with the spread of banking and edges, frauds have been on a continued increase. It could be a natural corollary to increase in the number of customers who are using edges these days. In the year 2000 alone we have lost Rs 673 crores in as many as 3,072 number of fraud situations. These are only reported figures. Though, this is 0.075% of Rs 8,96,696 crores of total deposits and 0.15% of Rs 4,44,125 crores of loans & advances, there are any numbers of situations that are not reported. There were nearly 65,800 bank branches of a total of 295 commercial edges in India as on June 30, 2001 reporting a total of nearly 3,072 bank fraud situations. This makes nearly 10.4 frauds per bank and approximately 0.47 frauds per branch.
An Expert Committee on Bank Frauds (Chairman: Dr.N.L.Mitra) submitted its Report to RBI in September 2001. The Committee examined and suggested both the preventive and healing aspects of bank frauds.
The important recommendations of the Committee include:
o A need for including financial fraud as a criminal offence;
o Amendments to the IPC by including a new chapter on financial fraud;
o Amendments to the Evidence Act to shift the burden of proof on the accused person;
o Special provision in the Cr. PC for similarities involved in the Financial Fraud.
o Confiscating unlawful gains; and preventive measures including the development of Best Code Procedures by edges and financial institutions.
consequently it can be concluded that following measures should necessarily be adopted by the Ministry of Finance in order to reduce situations of Fraud.
o There must be a Special Court to try financial fraud situations of serious character.
o The law should provide separate structural and recovery procedure. Every bank must have a domestic enquiry officer to enquire about the civil size of fraud.
o A fraud involving an amount of ten crore of rupees and above may be considered serious and be tried in the Special Court.
The Twenty-ninth Report of the Law Commission had dealt some categories of crimes one of which is “offences calculated to prevent and obstruct the economic development of the country and endanger its economic health.” Offences relating to Banking Fraud will fall under this category. The most important characterize of such offences is that ordinarily they do not include an individual direct victim. They are punishable because they harm the whole society. It is clear that money involved in Bank belongs to public. They place there whole life’ security in edges and in case of Dacoity or Robbery in edges the public will be al lost. consequently it is important that sufficient efforts should be taken in this regard.
There exists a new kind of threat in cyber world. Writers are referring it as “Salami Attack” under this a special software is used for transferring the amount from the account of the individual. Hence the culprits of such crimes should be found quickly and should be given strict punishment. additionally there is requirement of more number of IT professionals who will help in finding a solution against all these security threats.