Rising Banking Fraud in India
According to RBI’s Annual Report for 2019-20, the number of reported fraud cases involving ₹1 lakh and above have increased by 28% in volume and a whopping 159% in value in 2019-20.
Public sector banks experienced a 234% yearly increase in the number of reported frauds and private sector banks saw a rise of around 500%!
With rapid digitizations occurring in the financial sector, along with frequent cyber-attacks from within and outside the country, banks are now scrambling to put adequate measures in place to combat fraud and related theft.
Before examining the ideal counter-measures against banking fraud, let’s first look at how the various types of fraud are classified, which types are most frequent, and the measures already in place to prevent banking fraud.
Types of Banking Fraud
RBI issued a Master Circular in 2016, classifying frauds on the basis of the Indian Penal Code (1986). These classifications are –
- Misappropriation and criminal breach of trust.
- Fraudulent encashment through forged instruments, manipulation of books of account or through fictitious accounts and conversion of property.
- Unauthorized credit facilities extended for reward or for illegal gratification.
- Cash shortages.
- Cheating and forgery.
- Fraudulent transactions involving foreign exchange
- Any type of fraud not covered in the above categories
The classifications are self-evident and cover all the possible types of frauds.
In a case analysis published in 2019, researchers examined the distribution of banking frauds amongst these classifications. Their findings are represented in the table below.
Misappropriation & breach of trust. | Forged instruments | Unauthorized credit | Cash shortages | Cheating & forgery | Other | |
Public Sector Banks | 14 | 14 | 18 | 1 | 3 | 4 |
Private Sector Banks | 1 | 0 | 0 | 0 | 0 | 0 |
Cooperative Banks | 1 | 0 | 0 | 1 | 0 | 1 |
Rural Banks | 1 | 0 | 0 | 0 | 0 | 0 |
| Total | 17 | 14 | 18 | 2 | 3 | 4 |
| % | 28.84 | 23.72 | 30.50 | 3.39 | 5.08 | 8.47 |
Therefore unauthorized credit, i.e bad loans, make up the majority of banking fraud, with misappropriation of funds coming in at a close second, and then forged documents.
RBI’s Annual Report reflects these facts. Here is a sector-wise distribution of frauds between April and June of 2020.
Area of Operation | Number of Frauds | Amount Involved (in crores) |
Advances | 787 | 28,545 |
Off-balance Sheet | 4 | 105 |
Forex Transactions | 1 | 0 |
Card/Internet | 530 | 27 |
Deposits | 115 | 107 |
| Inter-Branch Accounts | 2 | 0 |
| Cash | 52 | 15 |
DD/Cheques | 27 | 32 |
Clearing Accounts | 0 | 0 |
| Others | 40 | 12 |
| Total | 1,558 | 28,843 |
Advances, i.e loans make up the bulk of banking frauds in 2020 so far, with card and internet related cyber-fraud being the second most frequent type of fraud.
Frauds concerning loans and advances therefore are a huge problem in banking. But how is fraud in this area perpetrated?
Fraudulent documentation and bad loans
According to Deloitte’s 2018 Indian Banking Fraud Survey, fraudulent documentation is the most frequent type of fraud experienced by banks today according to bankers themselves.
Indian bankers say that fraudulent documentation makes up 15% of all banking fraud, and is the root cause of fraud in loans and advances.
Typically, fraudulent documentation involves misrepresentation of information in loan approval documents, such as fictitious revenue, hidden liabilities, and improper asset valuation. This deliberate misinformation allows for widespread loan fraud.
The same survey pinpoints the lack of a strong KYC as the underlying cause for fraudulent loan documentation and recommends the usage of verification technology and risk assessment techniques to combat fraudulent loan documentation.
KYC may likely be an area to consider when trying to stamp out fraud in the Indian banking sector, but there is also the matter of reporting fraud and catching it before it can get out of hand.
Fraud reporting
According to RBI’s Annual Report, the time between the occurrence and reporting of a fraud in 2019-20 was 24 months. The situation is even worse for frauds above ₹100 crore, where the time lag is 63 months.
RBI blames this on the weak implementation of the Early Warning System (EWS) and recommends the usage of technology and data analysis techniques to revamp this system.
Consider this recommendation along with Deloitte’s survey, which states that more than 20% of fraud was detected by automated data analysis or monitoring software; and you’ve got a recipe to significantly mitigate fraud.
How bankers can effectively combat fraud
As we have seen previously, an effective system to prevent fraud will consist of the following:
- Fraud-proof KYC verification mechanisms
- Automated data analysis
- Overarching monitoring and audit software
- High-tech EWS
Therefore what bankers need is to do is make use of the available technology to automate their KYC processes, data analysis, and auditing methods, to create a fool-proof EWS, which prevents fraud from occurring, and in the worst-case scenario, reports fraud to the concerned people quickly enough to apprehend the perpetrators.
A fraud-proof KYC solution with concrete data verification mechanisms is at the centre of this system, and plays a key role in fraud prevention.
Anti-fraud KYC solution
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