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The recent non-compliance of KYC norms of RBI by Paytm Payment Bank has opened up a Pandoras Box on compliance effectiveness of RBI guidelines and notifications which has far more ramifications on the financial sector and also economy and national security via money laundering, triggering concern about data privacy and data sharing. Besides, it is reported that the compliance report submitted by Paytm Payment Bank “was found to be false when verified by external auditors of regulatory supervisors.” Principles of transparency propagated by RBI are also been compromised. Paytm case is not an isolated one but if an unbiased investigation and without prejudice view is taken, it may be found that violations of not only KYC norms but also non-compliance of other RBI guidelines and notifications by banks and regulated financial entities are rampant and that they have become habitual offenders. Many circulars issued by RBI penalising the banks and other regulated financial entities as per their transparency policy giving details of such violations stand testimony to these blatant violations.   

RBI has clarified that “Banks need to ensure compliance to all applicable statutory provisions, rules and regulations, various codes of conducts (including the voluntary ones) and their own internal rules, policies and procedures. It is, however, reiterated that compliance is a shared responsibility of the business units and the compliance function. Therefore, adherence to applicable statutory provisions and regulations needs to be the responsibility of each staff member of the bank and it is the work of the compliance function to ensure the same.”

RBI state, “In some banks, there may be separate departments looking after compliance to different statutory and other requirements while the compliance function may be responsible for monitoring compliance with the regulations, internal policies and procedures and reporting to Management. The concerned departments would hold the prime responsibility for their respective areas, which should be clearly outlined, while compliance function would need to ensure overall oversight. If serious gaps are observed in such compliances, the compliance function should take necessary action to correct the compliance culture. There should also be appropriate mechanisms for co-operation among departments and with the Chief Compliance Officer.”

The OBJECTIVE OF SUPERVISION as stated in the report is ensuring “Along with protection of depositors’ interests and ensuring financial health of individual banks/FIs, an implicit overarching objective of RBI’s supervisory process should also be to ensure financial stability and customer protection.”

RBI observes and admits, “The compliance function in banks however, has not received the required attention by banks, as a number of instances of non-compliance and lack of proper interpretation of regulatory guidelines are being reported in successive RBI inspection reports. Further, in the absence of a comprehensive compliance structure, policy and manual for addressing compliance risk in most of the banks, compliance processes remain weak and the role of the Compliance Officer has not been an effective instrument for which it was created. Such wanton violations by banks and regulated entities are found out only when inspections and audits are undertaken at random or on account of specific reasons and not on a regular and continuous basis because of which many such incidents are swept under the carpet.

Concurrent audit has been introduced in banks which “aims at shortening the interval between a transaction and its independent examination. It is, therefore, integral to the establishment of sound internal accounting functions and effective controls and is regarded as part of a bank's early warning system to ensure timely detection of serious errors and irregularities, which also helps in averting fraudulent transactions and preventive vigilance in banks.” A comprehensive circular was issued by RBI giving detailed instructions on implementing concurrent audit. The said circular also enumerates minimum areas to be covered which are given here below.

Minimum areas of coverage under Concurrent Audit

  1. Cash transactions including physical verification of cash, etc.

  2. Loans & Advances including physical verification of securities, delegation of Powers for sanction, Security Charge Creation, end use verification of funds, monitoring of accounts with excess drawings, monitoring of projects, etc.

  3. Adherence to KYC / AML guidelines including monitoring of transactions in accounts, compliance with Foreign Account Tax Compliance Act (FATCA) and Common Reporting Standards (CRS), monitoring of transactions in new accounts/staff accounts, reporting of CTR/STR, etc.

  4. Remittances/ Bills for Collection including SWIFT transactions, monitoring of overdue statements (bills purchased / discounted / negotiated, etc.).

  5. House Keeping including reconciliation of accounts, monitoring of General Ledger/Subsidiary General Ledger/Parking Accounts, opening of internal accounts, etc.

  6. Treasury operations.

  7. Non-fund-based business.

  8. Foreign Exchange transactions.

  9. Clearing transactions.

  10. Verification of Merchant Banking Business.

  11. Verification of Credit Card / Debit card business.

  12. Conduct of employees, mis-selling of products, etc.

  13. Compliance to RBI guidelines and internal Policy guidelines issued from time to time

RBI in their circular on “Prevention of slippage of NPA account” stated as follows: “Auditor’s Responsibility: In case any falsification of accounts on the part of the borrowers is observed by the banks/FIs, they should lodge a formal complaint against the auditors of the borrowers with the Institute of Chartered Accountants of India (ICAI) if it is observed that the auditors were negligent or deficient in conducting the audit to enable the ICAI to examine and fix accountability of the auditors.”

“With a view to monitoring end-use of funds, if the lenders desire a specific certification from the borrowers’ auditors regarding diversion/ siphoning of funds by the borrower, the lender should award a separate mandate to the auditors for the purpose. To facilitate such certification by the auditors, the banks and FIs will also need to ensure that appropriate covenants in the loan agreements are incorporated to enable award of such a mandate by the lenders to the borrowers/auditors.” Is the instruction being followed diligently?

How non-compliance of compliance function of banks and regulated financial entities hurt the recovery proceedings of debts of banks and regulated financial institutions and also the sustenance of honest borrowers? Since recovery of debts by banks and regulated financial institutions are most important considering the health and financial stability of the banks and financial institutions and the economy of the nation, their rights to recover the loans cannot be questioned. But at the same time the rights of the banks and financial institutions are derived out of their duties and responsibilities coming out of their diligent implementation of compliance function to be performed first and also non-contraventions of provisions of recovery of debts Acts and any other applicable laws for the time being in force. Can it be denied?

It is observed from experience that invariably when the question of non-compliance of RBI guidelines and contraventions of provisions of existing recovery laws are brought to the notice of Debts Recovery Tribunal (DRT) or Debts Recovery Appellate Tribunal (DRAT) through the pleadings of the borrower with documentary and RBI guidelines evidences and legal citations, neither it is taken note of nor it is adjudicated and the banks and regulated entities are allowed to go with impunity which leads to miscarriage of justice. The sufferer is the borrower and the employees and workers who depend on him by depriving them of their livelihood creating their existential crisis.

If the non-compliance charges are proved, the banks and regulated financial institutions are penalised with huge penalties and they are paid. How the penalties are paid?  Can the penalty be paid other than from the public funds of which the banks are the custodians?  If the penalty is paid out of the public funds, then another Pandora’s Box may be opened asking whether public funds can be made use to pay penalty for violating the compliance functions of banks and regulated financial institutions and if so, is it justifiable to pay the penalties out of public funds and if not, who is to pay the penalty? If these penalties are paid, will it not affect the profitability of the bank? Will it not erode the faith and public confidence on the banks and regulated financial institutions? These questions are to be pondered over.

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