How the credit audit is conducted in banks?

In our previous posts we talked about (1) Tax audit, (2) What is the stock audit, and (3) What is a forensic audit?  (4) What is a Legal Audit? (5) Concurrent Audit System in bank. (6) What is a statutory audit? In this post let us study how the loan accounts are verifying the loan accounts?

The principles of lending revolve mainly around the concepts of safety, profitability and liquidity of advance. The auditors or inspectors of loan accounts very cautiously. The verification of Loan Accounts is divided into three parts viz. Preliminary Check, Disbursement and Post Disbursement Inspection.

 Preliminary Check:

The selection of a borrower is the most important factor to be considered at care. There are numerous instances of parties indulge in various types of frauds and forgeries to cheat banks and avail finance. Banks can avoid most of such instances by sticking to principles of KYC (Know Your Customer) in letter and spirit. An auditor should look at the following documents for checking the bank preliminary process: () Loan Application in the prescribed application form (ii) KYC compliance,(iii) Assessment of project report, projected turnover,  Projected balance sheet and P&L, Cashflow /funds flow statements, (iv) confirmed order in hand (v) List of Sundry creditors and Sundry debtors during the current financial year and estimated balance sheet as at the end of the current financial year, etc.(vi) Latest Audited Financial papers  (vii) Technical review (viii) Board Resolution for availing credit facilities in case of Limited companies(ix) caution advice and defaulter list of RBI/ECGC caution list/CIBIL Report/Reports from other banks must be verified. (x) Valuation of Securities (xi) External & Internal Credit Rating.

B. Disbursement:

An auditor should check that the disbursement should happen only if all the terms and conditions of the sanction letter have been fulfilled and an acceptance letter for the same has been acquired. Execution of the loan documents should be as per the terms and conditions of the sanction letter.  Direct payment shall be made towards goods/machinery purchased as per invoice made by way of demand draft in favour of the supplier. It is wrong to credit the loan proceeds to borrower’s SB/CD account, as it is observed that many a time bank finance was diverted by the borrower for the purpose other than loan was actually sanctioned. All the original documents are held in the safe custody in fire resistance safe.

C. Post disbursement inspection:

The important elements that a bank inspector /statutory auditor can check are as follows:

(i)The inspection shall be conducted for the purpose of ascertaining the end use/creation of assets from bank finance. (ii) Care shall be taken by the inspecting official that old/defunct machinery is not shown to him as new machinery. (iii) Bank’s board of hypothecation/pledge shall be prominently displayed where the stocks/machinery are placed. (iv)The working capital limits sanctioned, are usually valid for one year, hence proposals for ‘Renewal /Enhancement of limits’ should be completed before the expiry of the limits. (v) The documents obtained while releasing the limits shall be properly maintained, revival letters, acknowledgment of debts, etc. to be obtained at the periodical interval, to keep the documents alive. (vi) An asset created by bank finance shall be fully insured with a bank clause. (vii) Verify the drawing power of the accounts is calculated properly and a margin is maintained as per the sanction letter. (viii) Verify any adverse comments on the stock audit report or the audited balance sheet. (ix) Verify the payment schedule as per the sanction letter is implemented. (x) Verify the existence of NPAs if any and check whether the same is properly classified and reported to the administrative office.

To know more,  read below post ‘principles of lending’