1. Statutory Bank Branch Audit - Technical and Practical Aspects Compiled by ANKIT AGRAWAL 1

2. Contents of Balance Sheet (Form A) Schedule –1 Capital Schedule –2 Reserve and surplus Schedule –3 Deposits Schedule –4 Borrowings Schedule –5 Other Liabilities and provisions Schedule –6 Cash and bank balance with RBI Schedule –7 Balance with bank and money at call and short notice Schedule –8 Investments Schedule –9 Advances Schedule –10 Fixed Assets Schedule –11 Other Assets Schedule –12 Contingent Liability 2

3. Contents of Profit and Loss Account (Form B) Schedule-13 Interest Earned Schedule-14 Other income Schedule-15 Interest expended Schedule Schedule-16 Operating expenses 3

4. 4 Circulars Issued by RBI Disclosure in balance sheets dated July 1, 2006 Prudential norms on Income recognition,asset classification and provisioning relating to advances dated 1 st July 6 Management of advances dated January 22, 2007 Loans and advances-statutory and other restrictions dated 1 st July 2006 Guarantees and co-acceptances dated July 1,2006 Guidelines for securitisation of standard assets dated 1 st Feb 2006 Prudential Norms on Capital Adequacy dated July 1,2006 Para-banking Activities dated July 1,2006 Exposure norms dated October 10,2006 Cash Reserve ratio and Statutory Reserve ratio dated October 11,2006 Provisioning Requirement for Standard Assets dated Feb 19, 2007

5. 5 Definition of Non Performing Assets as per Circular dated 01-07-06 An asset, including a leased asset, becomes non-performing when it ceases to generate income for the bank (Para 2.1.1) A non-performing asset (NPA) is a loan or an advance where; i.interest and/ or instalment of principal remain overdue for a period of more than 90 days in respect of a term loan ii.the account remains ‘out of order’ in respect of an Overdraft/Cash Credit (OD/CC) iii.the bill remains overdue for a period of more than 90 days in the case of bills purchased and discounted iv.a loan granted for short duration crops will be treated as NPA, if the instalment of principal or interest thereon remains overdue for two crop seasons. v.a loan granted for long duration crops will be treated as NPA, if the instalment of principal or interest thereon remains overdue for one crop season. (Para 2.1.2 )

6. 6 INCOME RECOGNITION on NPA Income from non-performing assets (NPA) is not recognised on accrual basis but is booked as income only when it is actually received (Para 3.1.1) The Accounting Standard 9 (AS 9) on `Revenue Recognition' issued by the Institute Of Chartered Accountants of India (ICAI) requires that the revenue that arises from the use by others of enterprise resources yielding interest should be recognized only when there is no significant uncertainty as to its measurability or collect ability. Interest on advances against term deposits, NSCs, IVPs, KVPs and Life policies may be taken to income account on the due date, provided adequate margin is available in the accounts (Para 3.1.2) Fees and commissions earned by the banks as a result of re- negotiations or rescheduling of outstanding debts should be recognised on an accrual basis over the period of time covered by the re-negotiated or rescheduled extension of credit (Para 3.1.3)

7. 7 Reversal of Income If any advance becomes NPA as at the close of any year, interest accrued and credited to income account in the corresponding previous year, should be reversed or provided for if the same is not realised.(Para 3.2.1) This will apply to Government guaranteed accounts also. Fees, commission and similar income that have accrued should cease to accrue in the current period and should be reversed or provided for with respect to past periods, if uncollected. (Para 3.2.2)

8. 8 Categories of NPA Classification is only for the purpose of computing the amount of provision that should be made with respect to bank advances and certainly not for the purpose of presentation of advances in the banks balance sheet Sub-standard Assets - which has remained NPA for a period less than or equal to 12 months (Para 4.1.1) Doubtful Assets - has remained in the sub-standard category for a period of 12 months (Para 4.1.2) Loss Assets - loss has been identified by the bank or internal or external auditors or the RBI inspection but the amount has not been written off wholly. (Para 4.1.3)

9. 9 Provision on Standard Assets The banks should make a general provision of a minimum of 0.40 percent on standard assets on global loan portfolio basis Banks would continue to make provision at 0.25 per cent for direct advances to agricultural and SME sectors in the standard category (as per circular issued by RBI on 8 th of Nov 2005) A small scale industrial unit is an undertaking in which investment in plant and machinery does not exceed 1 crore except in certain specified items under hosiery,hand tools, drugs. Pharmaceuticals. Stationery items and sport goods where investment limit has been extended to Rs. 5 crore Units with investment in Plant and machinery in excess of SSI limit and upto Rs 10 crore may be treated as medium enterprise (circular dated 19/08/2005)

10. 10 Provision on Sub-standard Assets (Para 5.4) A general provision of 10 percent on total outstanding should be made The ‘unsecured exposures’ which are identified as ‘substandard’ would attract additional provision of 10 per cent. The provisioning requirement for unsecured ‘doubtful’ assets is 100 per cent. Unsecured exposure is defined as an exposure where the realisable value of the security, as assessed by the bank is not more than 10 percent

11. 11 Provision on Doubtful Assets (Para 5.3) 100 percent of the extent to which the advance is not covered by the realisable value of the security In regard to the secured portion, provision may be made on, at the rates ranging from 20 percent to 100 percent of the secured portion depending upon the period for which the asset has remained doubtful Period for which the advance has remained in ‘ doubtful ’ category Provision requirement (%) Up to one year20 One to three years30 More than three years (i) outstanding stock of NPAs as on March 31, 2004 (ii) advances classified as ‘ doubtful more than three years ’ on or after April 1, 2004 60 per cent with effect from March 31, 2005 75 per cent with effect from March 31, 2006 100 per cent with effect from March 31, 2007 100 percent with effect from March 31, 2005

12. 12 Provision on Loss assets (Para 5.2) Loss assets should be written off. If Loss Assets are permitted to remain in the books for any reason, 100 percent of the outstanding should be provided for.

13. 13 Key RATIOS for Analysis Non-performing loans to total loans Cash and liquid securities (for example, those due within 30 days) to total assets Interest income as a percentage of average interest bearing assets Non-interest expense as a percentage of operating income Capital adequacy ratios Return on average total assets

14. 14 Analytical Procedures Analytical procedures consist of the analysis of significant ratios and trends including the resulting investigation of fluctuations and relationships that are inconsistent with other relevant information or deviate from predicted amounts. By using analytical procedures, the auditor may detect circumstances that call into question the appropriateness of the going concern assumption, such as undue concentration of risk in particular industries or geographic areas and potential exposure to interest rate, currency and maturity mismatches.

15. 15 Verification of Loans and Advances (General) Check the individual balance in each loan ledger with the trial balance book Verify the head office sanction /renewal for advances sanction as per appropriate authorities See that margins are maintained in respect of secured advances Examine that the operation of each advance is reviewed at least once in a year Examine that advances represent amount due to the bank All the necessary documents (e.g., agreements, demand promissory notes, letters of hypothecation, etc.) should be executed by the parties before advances are made Advances are classified in such a way that information required in schedule 9 of Banking Regulation Act, 1949 can be gathered.

16. 16 Verification of Advances against Goods Examine the stock statements and ascertain that the loans availed is with in the drawing power/limits sanctioned Verify that letter of hypothecation has been executed in favour of bank Verify that charge is duly registered with ROC in case of loan on hypothecation to limited company Verify the fire insurance policy and ascertain that polices are alive as at 31 st March 2006 Banks should have a system in place to ensure that the borrower does not avail the advantage double financing on same stock, i.e., financing from bank for the portion of stock not paid to the creditors

17. 17 Verification of Advances against Fixed Deposits See that bank’s lien have been marked on deposit receipts as in their respective ledger folio See that no advance is granted against duplicate receipt without proper verification In case of advances against deposit receipts of other branches,to verify the intimation to that branch to mark the lien and to see that the same has been acknowledged by other branch See that deposit receipts /pass books/ cash certificates have been duly discharged in favor of bank at the time of discharge

18. 18 Verification of Advances against Vehicle Verify the copies of registration certificate See that vehicle has been comprehensively insured and verify the banker’s clause in insurance policy Test check the original certificate and ascertain that endorsement is made in favor of bank

19. 19 Verification of Advances against Immovable Property Go through the legal opinion of bank’s lawyer about title of property to the borrower Verify the latest tax receipts towards the payment of property tax and verify the encumbrance certificate Verify the valuation reports for the fixed assets charged to bank Verify whether building has been properly insured and policy has been taken in the joint name of bank and the mortgagor

20. 20 Verification of Advances against Insurance Policy Scrutinise the insurance policy and ascertain the surrender value If surrender value is subject to payment of certain premium the amount of such premium has been deducted from the surrender value Verify the latest premium receipts Verify whether policies have been duly assigned by the insured in favour of bank and assignment is noted by insurance company

21. 21 Verification of Advances against Bills Purchased and Discounted All the outstanding bills have been taken in the balance sheet All the details, including the nature of the bills and documents, are mentioned in the register and that the bills have been correctly classified The bills purchased or discounted from different parties are in accordance with the agreements with them and the total of outstanding bills of each party is not in excess of the sanctioned limit The bills are not overdue. If there are any overdue bills, the auditors should ascertain the reasons for the delay and the action taken by the bank

22. 22 Documentation A certificate stating that the Branch did not hold any investments on behalf of the Head Office (if there are no such investments held by the Branch List of large advances i.e. those in respect of which the outstanding amount is in excess of 5% of the aggregate advances of the Branch or Rs.2.00 crores whichever is less duly certified by the Branch Manager A copy of the letter from Head Office regarding Sanction limit of the Branch Manager; List of cases where the Branch has not obtained stock/book debts statements at the end of the year; List of cases where insurance copies are yet to be received at the end of the year A copy of the Head office instructions for identification of NPAs and classification of advances List of major items pending for reconciliation under Inter-Branch Accounts List of all fraud cases reported to RBI as fraud upto March 31st

23. 23 Documentation (AAS-3) Following certificates should be obtained from management: Cash Retention Limit duly certified by the Branch Manager A photo copy each of the confirmation certificates for Balances with RBI, SBI and other banks A copy of the reconciliation statement in respect of differences in such balances with RBI, SBI and other banks List of overdue or matured investments at the end of the year duly confirmed by the Branch Manager;

24. 24 Various Reports / Certificates 1.Tax Audit Report 2.Position of Advances above certain amount 3.PMRY Audit Certificate 4.DICGC Certificate 5.Verification on Friday Statements Certificate(Form X sec 27) 6.Service Tax Certificate 7.Income on Insurance Business 8.Frauds 9.Ghosh Committee Recommendations 10.Jilani Committee Recommendations 11.LFAR 12.MOC-Classification 13.MOC-Income Recognition 14.Other reports 15.AUDIT REPORT- U/S 30 OF The Banking Regulation Act,1949 r.w.s.228(3) of the Companies Act,1956