Major Bank Fraud Cases: A Critical Review

By R.S. Pillai

The entire Banking system in India stood firm even during the world Economic Crisis in 2008 because of the strong principles of systems and procedures evolved well over 200 years. Even though multifarious banks operate as Public Sector, Private Sector, Co-Operative sector, Foreign Banks etc., each Bank evolved its own time tested internal controls to keep its basic structure as strong as a Solid ROCK. But of late this rocky structure appears to be getting eroded by high value frauds and if this trend is not arrested it may ultimately weaken the base and contribute for the collapse of the entire system.

• Language: English
• Publisher: R.S. Pillai
• Release date: Aug 2, 2014
• ISBN: 9781310362118

R.S. Pillai

I was an Executive of a Public Sector Bank and was deputed to Central Bureau of Investigation on secondment basis as Advisor (Banking) with protocol rank Superintendent of Police and retired on superannuation after serving 5 years and 4 months and involved in more than 176 cases in all stages of investigation to prosecution. One of the few bank executives with wide experience in Bank Fraud Internal Investigation (12 cases), Police Fraud Investigation (170 cases), Trainer (6 years), Author (7 books 5 ebooks and 2 printed versions), Researcher (11 Ex-Post valuation Studies)and now conducting one to 1 1/2 days Preventive Vigilance Workshops on Major Fraud Prone Areas for Bank Officials and Auditors.

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ABOUT THE AUTHOR:

The author R.S.Pillai is a Post graduate in Agriculture and a Certified Associate of Indian Institute of Bankers and took up the Banking profession with great interest and dedication after working 3 years in an International Organization He has put in a total of 37 years service in various capacities and also as a Senior Faculty Member in Bank’s Staff Training College for 6 years having written more than 85 articles and 4 books and the last 10 years in examining various Bank Fraud cases. He has been involved in one stage or other in examining 150 Bank Fraud cases and his observations are brought out in this book and your comments and feedback are most welcome and mailto:[e-mail].

The other two ebooks of the author published in smashwords.com and available with their retailers’ world wide are:

1. CICADA on the Firing Line – Life as a Banker – True Stories – July 2013

2. Honey Dews for Soul Nourishment - True Stories based on everyday life – August 2013

ABOUT THIS BOOK

The entire Banking system in India stood firm even during the world Economic Crisis in 2008 because of the strong principles of systems and procedures evolved well over 200 years. Even though multifarious banks operate as Public Sector, Private Sector, Co-Operative sector, Foreign Banks etc., each Bank evolved its own time tested internal controls to keep its basic structure as strong as a Solid ROCK. But of late this rocky structure appears to be getting eroded by high value frauds and if this trend is not arrested it may ultimately weaken the base and contribute for the collapse of the entire system.

As a timely reminder for all Bankers and those involved in critically examining bank fraud cases this book traces out what went wrong in each of the Major Bank Fraud cases, what was the modus operandi and what were the major deviations which facilitated this fraud and learning points based on the experience gained in critical examination of more than 150 cases. 50 case studies are discussed in this book elaborately as a preventive vigilance tools to all Bankers and all those examiners of Bank fraud to cover a broad spectrum of activities.

TABLE OF CONTENTS

Chapter I: Introduction

Chapter II: Definition of Bank fraud and misrepresentation

Chapter III: Indian Penal Code and Prevention of Corruption Act

Chapter IV: Classification and Criminality in Bank fraud cases

Chapter V: Bribery

Chapter VI: Case Studies

A. GENERAL ADVANCES

Case 1: IPO Scam and KYC Compliance

Case 2: Fraud on Corporate Bulk deposits

Case 3: Diversion of Funds through Fictitious Account

Case 4: Fraud with Fake Fax And E-Mail

Case 5: Bank fraud due to Criminal Breach of Trust Under Essential Commodities Act

Case 6: Fraudulent diversion of subsidy under Government sponsored schemes

Case 7: Fraud under Out of Court Settlement

Case 8: Accommodation in One Time Settlement

Case 9: Discounting of Local Clearing Cheques

Case 10: Window Dressing and Performance Incentive

B. WORKING CAPITAL ASSISTANCE

Case 11: Fraud in Working Capital Assistance

Case 12: Manipulated Stock and Receivable Statements

Case 13: Turnover is the Mantra

Case 14: Bogus and Fictitious Invoices

Case 15: Readymade Companies For Sale

Case 16: Pit Falls In Take Over Loans

Case 17: Fake Insurance Policies and Taking over account

Case 18: Overdraft Limit Against Insurance Polices

Case 19: Influential Mistress of the Company

C. TERM LOANS

Case 20: Role of Financial Consultants

Case 21: Term Loan For Plant and Machineries

Case 22: Term Loan for Coffee estate and purchase of shares of tea estate

Case 23: Fraudulent Housing Loans

Case 24: Fraudulent Housing Loans and Connivance with Bank Officials

Case 25: Manipulated Warehouse Receipts

Case 26: Advance Against Warehouse Receipts

Case 27: Factoring and Reverse factoring

Case 28. Fraud on Factoring Services

Case 29: Loan for Transport Operators

Case 30: Personal Loan to Society Members

Case 31: Fraudulent Sanction of Education Loan

Case 32: 40000 Improvised Bullock Carts

D. MORTGAGE OF PROPERTIES

Case 33: Bank fraud with connivance of Bank Officials

Case 34: Fake title deeds and connivance of public servants

Case 35: Mortgage of Properties with Fake Gift deeds

Case 36: Import of software and fake title deed

Case 37: Fake title deeds and fudged Balance sheet

Case 38: Fake Title Deeds and Diversion of Funds

Case 39: Second Equitable Mortgage of Property Mortgaged to another Bank

Case 40: Disposed Property Offered as Security

Case 41: Bank fraud with disputed property as security

Case 42: Fraud with fake valuation certificate

Case 43: Fabricated Marriage Certificate and Mortgage by Legal (illegal) Heir

E. NON FUND BASED – LETTER OF CREDIT

Case 44: Fraud in Inland letters of Credit

Case 45: Issuance of Fake Letters of Credit with connivance

Case 46: Negotiation and discounting of new LC opened

Case 47: Letter of credit issuing branch negotiates and discounts the same letter of credit

Case 48: Back to Back LC

Case 49: Fake export bills

Case 50: Frauds under Packing Credit

Chapter VII: ALL IN A NUTSHELL

Chapter 1: Introduction

The first nationalization of 14 private sector Banks in India in 1979 as public sector Banks paved the way for vast expansion of banking services in semi-urban and rural areas. This accelerated the growth of various sectors like Agriculture, Animal Husbandry & Allied Activities, village and cottage industries, Small Scale Industries and various service sectors. The expansion of banking sector was followed by computerization and consolidation. Today with the technological advancement, banking has grown leaps and bounds. But at the same time, the quantum of loss and fraudulent transactions have also started gaining momentum when banks, in order to face the stiff competition from private and foreign Banks, introduced various new products and also liberalized various lending policies, so as to make available timely credit to various industries. The number and quantum of bank fraud cases and fraudulent transactions resulted in huge loss not only to banks but also to the individuals. With the opening of the economy the availability of luxurious items like vehicles, fast moving consumer goods and standard of living some of the people started investing / diverting the bank funds from productive purpose to investment in real estate and other purposes. The total Gross Non Performing Assets of all the Banks jumped from Rs. 1.55 Lakhs Crores as on 31.3.2013 to Rs. 2.03 Lakhs Crores as on 30.09.2013, a matter of grave concern to every one. Hence it was thought that compilation of cases, with focus on modus operandi and the lapses would be of immense help to bankers and officers involved examining Bank fraud cases to focus their attention to improve or fine tune the systems and procedures so as to prevent reoccurrence of such frauds.

In one of the recent judgments in a Bank fraud case the bench of Supreme Court of India observed that fraud against bank is offence against society and Offences related to banking activities are not only confined to banks but have a harmful impact on their customers and society at large. Further observed that:

The offences when committed in relation with banking activities including offences under Sections 420 (cheating), 471 (using forged document) have harmful effect on the public and threaten the well-being of the society. These offences fall under the category of offences involving moral turpitude committed by public servants while working in that capacity. Prima facie, one may state that the bank as the victim in such cases but, in fact, the society in general, including customers of the bank is the sufferer, the bench said.

In the above case a person had obtained a loan of Rs 1.5 Crore on the basis of forged documents with the aid of officers of a Bank and all the accused were prosecuted under various sections of Indian Penal Code (IPC). During the pendency of the trial, they refunded the amount and later on moved the high court for quashing the proceedings against them. The high court allowed their plea and quashed the trial but the Supreme Court set aside the impugned judgment and order passed by the high court and directed the trial court to proceed further in the matter in accordance with law and to conclude the trial expeditiously. Banking is continuous process of collecting deposits and providing timely credit to all sections for developing economy. Hence lending cannot be stopped for fear of vigilance action. The objective of this book is to prepare them indicating various pit falls and prepare the Branch Managers and Credit Officers to equip them to face the challenges to ensure and adopt sound lending policies and Bankers are the trustees of Public Money.

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Chapter: 2

Definition of Bank Fraud

Indian banks have lost a whopping Rs 4,448 Crore to frauds in the year 2011-12. The revelation by the finance minister came in response to a parliament query. As per Reserve Bank of India’s (RBI) record, the incidents of frauds reported by the banks during FY 2011-12 was 5569 cases involving an amount of Rs 4,448 Crore and almost doubled to Rs. 8646 Crore in 2012-13 , the minister said in a statement in response to a query by a member. Citing RBI, the statement said, major frauds included misuse of loans sanctioned for purposes other than those for which these are sanctioned, lack of proper due diligence by the banks and direct sales agents (DSA), fake title deeds submitted as collateral security and disposal of assets created by loans without the knowledge of the bank. In some cases, the banks had not carried out the pre sanction inspection of property for the acquisition of which the loan was being sanctioned to ascertain if the unit/ property really existed. There were also instances where the borrowers fooled the banks by submitting fake documents related to Know Your Customer (KYC) compliance and could not be found at the given addresses after the release of the loan amount. Banks also succumbed to fake and fabricated financial statements and salary slips that showed an improved financial position of the borrowers. Detailing the steps taken by RBI, the minister’s statement said, Reserve Bank of India has issued detailed instructions vide Master circular dated July 1, 2012, on Frauds- classification and reporting containing all the details/ aspects relating to frauds. On receipt of fraud reports from banks, various aspects related to frauds are examined and concerned banks are advised to report the case to CBI/police/ Serious Fraud Investigation Office (SFIO). Banks are also advised to examine staff accountability, complete proceedings against erring staff expeditiously, take steps to recover the amount involved in the fraud, claim insurance wherever applicable and streamline the system and also procedures so that frauds do not recur", the statement said. (Source: Business Standard, 13.12.2012)

But the position has reached an alarming proportion. As the economy grows, the quantum of corporate fraud too is on the rise in the country. Corporate frauds that were investigated by various enforcement agencies in the last 15 years (1997-2011) worked out to Rs. 43815 Crores. And the number of companies involved is 115. Companies belonging to manufacturing, information technology, banking/financial services and retail sectors have dominated the corporate fraud scene. Manufacturing tops the list with 35 percent, followed by IT, 21 percent and Banking/financial services, 16 percent. The average size of corporate fraud was put at Rs. 381 Crores for the 15 year period. After 2009, it was put at Rs. 502 Crore and during 1997-2008, Rs. 228 Crores. The quantum of impact is evident from the fact that the total number of frauds reported by commercial Banks as of 31 March 2013 was 1.69 Lakhs involving Rs. 29910 Crores. The public sector Banks have cumulatively lost Rs. 22743 Crores due to cheating and forgery in the three years ending March 2013.

The report said that as many as 44 percent of the 115 companies are listed on stock exchanges with more than two-thirds off them having promoter’s stake of more than 50 percent. They found that a significant motivator for the fraud by the promoters and the management was a personal enrichment at the cost of all other stakeholders. Siphoning off funds by promoters or top management topped the list of instruments of frauds. Defrauding lenders (17 percent), defrauding the Government (13 percent), defrauding investors (13 percent) and evading taxes (12 percent) were the other methods employed by the firms. In many cases they have closed the operations. (Source: Business Line dated: 25.07.2013). Hence it is all the more important to understand the crux of the issues:

Definition of Bank fraud: Bank fraud is a criminal offence or often called as a White collar crime. This means use of potentially illegal means to obtain money, assets or any other properties owned by a financial institution. This also means method to obtain money from depositors by posing as a Bank or financial institution.

Dr.K.C. Chakrabarty, then Deputy Governor, Reserve Bank of India on July 26, 2013 during the national Conference on Financial Fraud organized by ASSOCHAM at New Delhi commented that:

We all know that fraud, and more so, the financial frauds have been in existence for a very long time. Some may be surprised, but, it is interesting to note that Kautilya, in his famous treatise Arthashastra penned down around 300 BC, painted a very graphic detail of what we, in modern times, term as ‘fraud’. Kautilya describes forty ways of embezzlement, some of which are: what is realized earlier is entered later on; what is realized later is entered earlier; what ought to be realized is not realized; what is hard to realize is shown as realized; what is collected is shown as not collected; what has not been collected is shown as collected; what is collected in part is entered as collected in full; what is collected in full is entered as collected in part; what is collected is of one sort, while what is entered is of another sort." As you would all agree, some of the above actions continue to be the modus operandi adopted in many instances of financial fraud that have hit the headlines in recent times. This shows that very little has changed over such a long period in the basics of fraud and brings me to the question why has ASSOCHAM now been forced to devote an entire day for deliberating the issue."

Distinction between Fraud and misrepresentation: A clear distinction has to be made between misrepresentation and fraud. It is to be clearly understood that every fraud is a misrepresentation but every misrepresentation is not a fraud as there is a clear distinction between both as detailed below:

A. FRAUD:

It is generally defined in the law as an intentional misrepresentation of material existing fact made by one person to another with knowledge of its falsity and for the purpose of inducing the other person to act, and upon which the other person relies with resulting injury or damage. Fraud may also be made by an omission or purposeful failure to state material facts, which nondisclosure makes other statements misleading.

Person who knows that it is false

The very purpose of the fraud is to deceive the other party to the contract

The contract is voidable It also gives rise to an independent action in tort for damages

In certain cases is a punishable offence under Indian penal code

But in the case of fraud, the party making a false statement cannot say that the other party had the means to discover the truth with ordinary diligence.

B. Misrepresentation

A false statement of fact made by one party to another party, which has the effect of inducing that party into the contract, is misrepresentation. A finding of misrepresentation allows for a remedy of rescission and sometimes damages depending on the type of misrepresentation.

Believes it to be true

There is no intention to deceive the other party

Renders the contract voidable is not an offence under Indian penal code

The party complaining of misrepresentation can’t avoid the contract if he had the means to discover the truth with ordinary diligence.

Hence in the case of fraud there is a criminality U/s 120B & 420 of IPC (Indian Penal Code) but under misrepresentation no criminality could be established.

Now let us see example:

A person was in possession of 1.30 acres of land and a part of the land say around 80 cents was sold to third parties in 2005 but he retains the mother document. Though now in 2012 he is the owner of only 50 cents, but on the strength of the mother document if he represents and creates a mortgage for 1.3 acres and gets a loan then it is a case of cheating with fraudulent intentions.

In the above example if he had declared his holding as 40 cents and not 50 cents this is only a misrepresentation and will not tantamount to cheating.

Scam vs. Fraud:

This is an era of Scams. During the last 7 years the country is flooded with multifarious scams like, IPO Scam, 2G Scam, NRHM Scam, CWG Scam, Colgate Scam, Saradha Chit Funds scam etc., what exactly is the meaning of Scam and how this is different from a fraud. To put it in very simple terms, "All Scams are frauds, but all frauds are not Scams". Scams are schemes of similar nature covering larger number of people, an act of swindling by a scheme, it can be an illegal trick to swindle money from large number of people whereas frauds relates to a particular person / company or a particular Bank say one to one, whereas in a scam it is one to many or even few to many.

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CHAPTER: III

Indian Penal Code and Prevention of Corruption Act

Criminal action: Now when the fraud has clearly been established as bank fraud with criminal lapses then prosecution of the accused persons are initiated under two major acts:

Indian Penal Code -1860, popularly called as IPC

Prevention of Corruption Act – 1988 popularly called as PC act

Indian Penal Code: Some of the important sections applicable for bank frauds are:

a. Connivance 120 (B)

b. Criminal Breach of trust – 405/406/409

c. Cheating: 420

d. Fake and fabricated documents – 467,468 and 471

a. Section 120 A and 120 B in the Indian Penal Code, 1860

120-B under Indian Penal Code is punishment for criminal conspiracy and whoever is a party to criminal conspiracy to commit an offence punishable with death, imprisonment for or rigorous imprisonment for a term of 2 years or more, shall, were express provision is made in the code for the punishment of such a conspiracy, be punished in the same manner as if he had abetted such offence.

Whoever is a party to a criminal conspiracy to commit an offence punishable as aforesaid shall be punished with imprisonment of either description for a term not exceeding 6 months or with fine or both.

Under section 120-A of IPC definition of criminal conspiracy is "When two or more persons agree to do, or cause to be done: an illegal act an act which is not illegal by illegal means, such an agreement is designated a criminal conspiracy

Provided that no agreement except an agreement to commit an offence shall amount to a criminal conspiracy unless some act besides the agreement is done by one or more parties to such agreement in pursuance thereof.

So 120-A of IPC defines criminal conspiracy and 120-B is punishment for Criminal conspiracy. If the act is done by a single person than 120-A cannot be attracted. Under subsection 1 of 120-B of IPC the punishment is in the same manner as he had abetted the offence. So if the offence is punishable with death or life imprisonment than the conspirator is supposed to be punished with death or life imprisonment. So it is difficult to escape from 120-B subsection 1 of IPC if the evidences against the accused are clear, cogent and beyond all reasonable doubts like, prosecution must prove an agreement between 2 or more person to do or cause to be done some illegal act or some act which is not illegal by illegal means, provided that where the agreement is other than one to commit an offence, the prosecution must go further and prove that some act besides the agreement was done by one or more of the parties in pursuance of it. So the crime of criminal conspiracy is established once such an agreement is proved. Though direct evidence cannot possibly be expected to prove criminal conspiracy yet material which is of no consequence at all cannot go to prove a conspiracy.

Merely that a person was an associate of the persons who were party to a criminal conspiracy is not of itself sufficient for the foundation of the conviction of that person, nor can the fact that the person was endeavoring to extricate himself of being accused of something connected with the conspiracy help the case against such person.

120-B of IPC subsection 2, the punishment prescribed is of with imprisonment or a term not exceeding 6 months or with fine or both.

b. Section 405, 406 and 409 in the Indian Penal Code, 1860

405. Criminal breach of trust.-- Whoever, being in any manner entrusted with property, or with any dominion over property, dishonestly misappropriates or converts to his own use that property, or dishonestly uses or disposes of that property in violation of any direction of law prescribing the mode in which such trust is to be discharged, or of any legal contract, express or implied, which he has made touching the discharge of such trust, or willfully suffers any other person so to do, commits" criminal breach.

406. Punishment for criminal breach of trust.—Whoever commits criminal breach of trust shall be punished with imprisonment of either description for a term which may extend to three years, or with fine, or with both.

409. Criminal breach of trust by public servant, or by banker, merchant or agent.—Whoever, being in any manner entrusted with property, or with any dominion over property in his capacity of a public servant or in the way of his business as a banker, merchant, factor, broker, attorney or agent, commits criminal breach of trust in respect of that property, shall be punished with imprisonment for life or with imprisonment of either description for a term which may extend to ten years, and shall also be liable to fine.

c. Section 420 in the Indian Penal Code, 1860

420. Cheating and dishonestly inducing delivery of property.-- Whoever cheats and thereby dishonestly induces the person deceived to deliver any property to any person, or to make, alter or destroy the whole or any part of a valuable security, or anything which is signed or sealed, and which is capable of being converted into a valuable security, shall be punished with imprisonment of either description for a term which may extend to seven years, and shall also be liable to fine of fraudulent deeds and dispositions of property.

However in the case of diversion of funds unless fabricated documents like invoice or lorry receipts or fake Letter of Credit are there mere diversion cannot be considered as cheating.

While every crime violates the law, not every violation of the law counts as a crime; for example: breaches of contract and of other civil law may rank as offences or as "infractions.

A contract is a legally binding agreement or promise that is made between two or more parties. The law recognizes that promises contained within a contract become duties. When a contract is breached, the person who suffers is guaranteed protection under civil legal statues. When a person suffers losses because of a breach of contract, they have the legal right to seek compensation for their losses in a civil legal case.

A breach of contract is not a criminal offense, and therefore the victim can seek only monetary damages.

d. Section 467, 468 in the Indian Penal Code, 1860

467. Forgery of valuable security, will, etc.-- Whoever forges a document which purports to be a valuable security or a will, or an authority to adopt a son, or which purports to give authority to any person to make or transfer any valuable security, or to receive the principal, interest or dividends thereon, or to receive or deliver any money, movable property, or valuable security, or any document purporting to be an acquaintance or receipt acknowledging the payment of money, or an acquaintance or receipt for the delivery of any movable property or valuable security, shall be punished with 1 [ imprisonment for life], or with imprisonment of either description for a term which may extend to ten years, and shall also be liable to fine.

Examples are: Preparing fake title deeds of property, fake invoices, and fake payment receipts etc., fall under this category.

Section 468 in the Indian Penal Code, 1860

468. Forgery for purpose of cheating-- Whoever commits forgery, intending that the document forged shall be used for the purpose of cheating, shall be punished with imprisonment of either description for a term which may extend to seven years, and shall also be liable to fine.

Two different sets of activities are covered in 467 and 468 of IPC. Section 467 deals with preparation of fabricated documents and section 468 deals with using the fabricated documents for the purpose of cheating.

Section 471 in the Indian Penal Code, 1860

471. Using as genuine a forged document-- Whoever fraudulently or dishonestly uses as genuine any document which he knows or has reason to believe to be a forged document, shall be punished in the same manner as if he had forged such document.

The third dimension to this act of fake and fabricated documents is about his knowledge that the documents are bogus and yet he uses as genuine.

Important sections in Prevention Corruption Act (PC Act) 1988

1. Criminal misconduct by a Pubic Servant – Section 13 of PC Act

2. Obtained valuable thing for himself or other person – Section 13 (1) (d)

3. Sanction from Competent Authority – Section 19

1 & 2. Criminal misconduct of a public servant and obtained valuable thing

The criminal misconduct of a public servant is defined is defined under section 13 of PC act if:

(1) A public servant is said to commit the offence of criminal misconduct.-

(a) if he habitually accepts or obtained or agrees to accept or attempts to obtain from any person for himself or for any other person for himself or for any other person any gratification other than legal remuneration as a motive or reward such as is mentioned in section 7; or

(b) if he habitually accepts or obtains or agrees to accept or attempts to obtain for himself or for any other person, any valuable thing without consideration or for a consideration which he knows to be inadequate from any person whom he knows to have been, or to be, or to be likely to be concerned in any proceedings or business transacted or about to be transacted by him, or having any connection with the official functions of himself or of any public servant to whom he is subordinate, or from any person whom he knows to be interested in or related to the person so concerned; or

(c) if he dishonestly or fraudulently misappropriates or otherwise converts for his own use any property entrusted to him or under his control as a public servant or allows any other person so to do; or

(d) if he,--

(i) by corrupt or illegal means, obtains for himself or for any other person any valuable thing or pecuniary advantage; or

(ii) by abusing

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