Author: Simran Shirvoikar, KLE’s society law college, Bengluru
Abstract
An efficient and good banking is considered as the main requirement that is needed for smooth operation of the economy. When it comes to indian banking system it has started growing rapidly but with rapid growth it also faces a lot challenges and issues and with all this there are few frauds that are made in banks that too with a huge transactions and one of the known example was it was the fraud that was made by nirav modi, which was known to complete world in the year 2018. This fraud has shown that the bank is vulnerable to many risks including fraud, scams, embezzlement etc.this all fraud that take place in our country these scams have undermined the integrity of financial report. At a time when the objective of a bank is recapitalization, at that point of time if any scam happens it is a huge problem for the overall banking sector. The default that was made in Punjab National Bank was of worth 12,700 crores and it was being noted in the five years that in the public sector bank has lost at least 227 billion in all the banks fraud and all this frauds that are found they basically question the credibility of third party i.e auditing firms.
Nirav Modi who was an Indian merchant and who was the owner of Gitanjali gems and Firststar diamond, he was the person who was involved in the Punjab National Bank scam and he did all this fraud with the help of higher officials of Punjab National Bank Mumbai branch. Reserve Bank of India is considered as a apex bank of the country and as it is not able to find about this kind of fraud and scams hence it is being criticized by the public and as this fraud should stop hence now in all public sector banks all the procedures are evaluated as an internal possess and if anything is found appropriate steps are taken so that further no issue can be face.
Introduction
The Punjab National Bank (PNB) scam, one of the largest banking frauds in India’s history, came to light in early 2018. The Fraudulent Transaction amount that was involved in this scam approximately worth 12,700 crores ($1.8 billion). The scam was orchestrated by billionaire jeweler Nirav Modi, his wife Ami Modi and his uncle Mehul Choksi, who were owners of Firestar Diamond and Gitanjali Group, respectively. They allegedly colluded with PNB officials to secure unauthorized Letters of Undertaking (LoUs) and Foreign Letters of Credit (FLCs) without proper collateral. These Letter of Undertaking were used to obtain loans from overseas branches of other Indian banks. The fraud was not detected for many years due to lapses in internal controls and regulatory oversight. This incident or scam brought a major revelation in our nation which led to a major upheaval in the banking sector, prompting tighter regulations and scrutiny of banking practices.After all this incident came in picture and when investigation came up all of the parties who are involved in this incident run away from India but Nirav Modi and Mehul Choksi fled India and are currently facing extradition proceedings. The case has highlighted significant issues in India’s banking system, including the need for better risk management and stricter enforcement of banking regulations.
Few Terms involved
SWIFT:
Society for worldwide interbank financial telecommunication (SWIFT) system is a system that deals with most international money and security transfers. This system is a vast messaging network that is used by financial institutions for sending secure information and to accurately receive the same information. This is a member owned cooperative that provides secure and safe financial transactions for their members and It also provides a unique ID code that identifies the bank’s name, country, city, and branch. This payment network enables both individuals and businesses to make electronic or card payments, even if the customer has an account with a different bank.
Buyers Credit
Buyers credit is a short term loan that is given by the oversea lender banks or any financial institution to all the importers who want to do business with exporter. The importer whom the loan is being granted is basically the buyer of the goods and the seller i.e exporter. Buyers credit is a financial method which is very useful for the importer to get a cheaper fund as compared to what may be available to importers in their local banks for international trade. Buyers credit allows the exporter to take big orders from the importers of other countries and helps the importer to get a financial loan which can be paid by the importer at less interest rate.
Letter of undertaking
Letter of undertaking is a written declaration Which is made by the bank or any financial institution on behalf of the client or the import to pay the loan that has been taken by any foreign supplier or beneficiary. It basically means an assurance that is issued by the bank or a financial commitment made by the client to pay back the money that has been taken. This undertaking plays a major role when there is any default made by the importer or any client to pay back the money or to meet the obligation that was required to be made.
Foreign Letter of Credit
Foreign Letter of Credit is a financial instrument issued by a bank on behalf of an importer (buyer) that guarantees payment to the exporter (seller) for goods or services provided and also promises that the buyer will complete all the specified conditions that are mentioned in the letter. It is commonly used in international trade to ensure that the exporter (seller) will receive complete payment once the shipment is made and the terms of the contract are fulfilled. The Foreign Letter of Credit reduces the risk for both parties: the seller is assured of payment, while the buyer can ensure that the goods are shipped and meet the agreed upon specifications before making the payment.
Case analysis
According to RBI fraud is defined as any deliberate act or omission that is carried or made by a person in the course of any transaction or in book of accounts which is maintained manually or computerized in banks which result in any gain to a person for temporary period which can take place with or without monetary loss to the bank. One of the basic requirements that is needed for proper functioning of the economy is an efficient and good banking system. As the banking system is growing rapidly in our country with its growth there are many challenges that are faced by the bank and one of them is fraud or scam that is made by the clients.
Nirav Modi who was an Indian diamond Merchant and alo the owner of Firestar Diamond and Gitanjali Diamonds. As he was a dealer of diamonds he wanted to import diamonds from outer countries and hence there was a requirement of money to Nirav Modi and therefore he requested Punjab National Bank to provide him with Buyers credit and this request was made in Punjab National Bank, brady house, Mumbai so that they can give him with loan and he can import those diamonds but Punjab National Bank put a clause that loan would be provided but Nirav Modi has to pay charge on that loan which was 10% interest. Nirav thought a lot over the clause but refused to accept the loan because there was a lot of interest rate that was charged hence Nirav Modi decided to take loan from an overseas bank because there the interest rate is very low. In this case Letter of undertakings was send to two banks, one was Axis bank of Hong Kong and Allahabad bank where in there was no proper procedure that was followed rather he bribed two senior officials of Punjab National Bank, who helped him internally and without following proper procedure sended the Letter of Undertaking. In a fraudulent method, both Punjab National Bank officials sended letter of undertaking of approx 12,000 crores and this is how by using fraudulent method buyers credit was being issued to Nirav Modi companies.
When any bank issues a Letter of undertaking there needs to be registration that has to be made in Core Banking Solution (CBS) but when Letter of undertaking for Nirav Modi companies was made there was no registration made of Letter of undertaking by both Bank officials and with regard to this Letter of undertaking that was issued to both the banks of hong kong i.e Axis bank and Allahabad bank all the communication and instruction with regard to buyers credit was made by using society for worldwide interbank financial telecommunication (SWIFT) and whenever any communication is made on SWIFT it is always registered and later on record can we removed from it .this provision is made so that there is transparency with regard to communication between both the importer as well as the exporter.SWIFT is always linked with Core Banking System but here Punjab National Bank branch was not registered with Core Banking System and hence both the officials took this as an advantage and sended fraudulently letter of undertaking to both the banks in hong kong.
The basic reason why auditor and controller didn’t come about the fraud that took place in the year 2011,
Firstly that this bank was not linked with CBS and hence there was no connection between SWIFT and CBS
There was no entry of letter of undertaking in CBS
These were the major two reasons why this fraud was not able to be detected but in January 2018 again Nirav Modi’s company solar exports and stellar diamond requested Punjab National Bank to arrange with buyers credit but at this moment from those two officials who provided them with buyers credit fraudulently, one of this officials who was deputy manager got retired and in place of him a new deputy manager has come in that branch and when Nirav modi’s company asked with buyers credit, deputy manager asked Nirav Modi to keep collateral in the bank and the amount of collateral should be equivalent to the amount how much he needs buyers credit on this Nirav Modi countered and state that he has taken this same kind of loan before also but he didn’t give any collateral over it and this statement let the deputy manager do some investigation where in he didn’t find any record of letter of undertaking and after more investigation complete fraud came into picture which has started from 2011 and as prior no such procedure was followed hence complete amount of buyers credit which was taken came up on Punjab National bank. After all this fraud was known to the Punjab National Bank complaint that was filed to CBI against Nirav Modi, Nishal Modi, Ami Modi and Mehul Choksi.
On 15th february 2018, enforcement directorate sealed Nirav Modi’s house, offices and whatever property he had and from that 51000 crores assets was captured and when second complaint was filed by bank gitanjali outlets were also captured and sealed up and according to the information given by CBI,on 1st january Nirav Modi went out of India and after him Nishal Modi, Ami Modi and Mehul Choksi even they went out of India. This is not the only matter in which fraud has taken place but when it comes to Punjab National Bank this is one of the major losses that has happened to them for so many years.
Reasons for banking fraud
An order was send to all banks to link CBS with SWIFT but Punjab National Bank violated the order and didn’t links its CSB with SWIFT and as this order was not followed offers fraudulently issued letter of undertaking to Nirav Modi company and also made communication with overseas bank through SWIFT system. This complete fraud in Punjab National Bank took place because of rough behavior of officials, failure of internal control, poor management, incompetent auditor etc and all this kind of scam and fraud lead to breaking of confidentiality that take place between international investors.it is very difficult to recover the loss from this kind of scams or fraud.
Impact of financial fraud
Majorly Impact customers and hence customers switch their banks from government banks to private banks.
Most of the Indian business would be impacted negatively due to bank fraud that takes place
It affect the whole of Indian Economy
When it comes to PNB scam it had a major impact on our Indian Economy
All banks and jewelry sector was under the pressure
Sl the diamond businesses which are present in india they might shift them to other countries
This increase scam brought difficulties to get with loans or credit from all indian banks in all diamond businesses
Conclusion
The Nirav Modi Scam had a significant impact on Punjab National Bank (PNB), Nirav Modi’s companies, the entire banking sector, and the Indian economy. Therefore, it is crucial for banks and regulatory authorities to prevent such frauds from happening again. The Punjab National Bank scam, one of the largest frauds in India’s banking history, involved the fraudulent issuance of Letters of Undertaking (LoUs) by Punjab National Bank (PNB) officials to benefit Nirav Modi and his associates. The scam, which came to light in early 2018, exposed systemic weaknesses in banking practices and regulatory oversight. It highlighted the need for stronger internal controls, improved risk management, and stringent supervision within financial institutions. The scandal also led to significant financial losses for PNB and shook investor confidence in India’s banking sector. Legal proceedings and investigations ensued, leading to arrests and asset seizures, but the recovery of the entire defrauded amount remains uncertain. The PNB scam underscores the importance of transparency, accountability, and robust governance in maintaining the integrity of the financial system.
FAQS
1. What is the PNB Scam?
The PNB scam involves fraudulent activities where Punjab National Bank (PNB) officials issued unauthorized Letters of Undertaking (LoUs) to Nirav Modi and his associates, allowing them to obtain credit from overseas branches of Indian banks.
2. Who is Nirav Modi?
Nirav Modi is a diamond merchant and jeweler who, along with his uncle Mehul Choksi, is accused of orchestrating the PNB scam. They allegedly used fake LoUs to secure large loans from banks without proper collateral.
3. What impact did the scam have on PNB and the banking sector?
The scam resulted in significant financial losses for PNB, eroded investor confidence, and exposed vulnerabilities in the banking sector’s regulatory and oversight mechanisms. It led to a broader scrutiny of banking practices across India.
