Audit of Banks – CA Inter Audit Notes

Audit of Banks – CA Inter Auditing Notes is designed strictly as per the latest syllabus and exam pattern.

Audit of Banks – CA Inter Auditing Notes

Question 1.
The functioning of banking industry in India is regulated by the Reserve Bank of India which acts as the Central Bank of our country. Explain.
Answer:
Regulation of Banking Industry:
In India, banking industry is regulated by the Reserve Bank of India (RBI) known as the Central Bank. Major functions and responsibilities of RBI are:

development and supervision of the banks and non-banking financial institutions
determining, the monetary and credit policies.
issuance and regulation of currency;
acting as banker to the central and state governments, commercial and other types of banks including term-lending institutions.
to regulate the activities of commercial and other banks.

Question 2.
Write short note on: Principal Enactments governing Bank Audit.
Answer:
Principal Enactments governing Bank Audit:
(a) Banking Regulation Act, 1949;
(b) Reserve Bank of India Act, 1934;
(c) Banking Companies (Acquisition and Transfer of Undertakings) Act, 1970;
(d) State Bank of India Act, 1955;
(e) State Bank of India (Subsidiary Banks) Act, 1959;
(f) Regional Rural Banks Act, 1976;
(g) Companies Act, 2013;
(h) Cooperative Societies Act, 1912 or the relevant State Cooperative Societies Acts;
(i) Information Technology Act, 2000;
(j) Prevention of Money Laundering Act, 2002;
(k) Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act, 2002;
(l) Credit Information Companies Regulation Act, 2005; and
(m) Payment and Settlement Systems Act, 2007

Question 3.
In the case of a nationalised bank, the auditor is required to make a report to the Central Govern-ment. The report of auditors of State Bank of India is also to be made to the Central Government and is almost identical to the auditor’s report in the case of a nationalised bank. Explain what would the auditor state in his report. [MTP-Oct. 18]
Answer:
Auditor’s Report in case of Nationalised Banks:
In the case of a nationalised bank, the auditor is required to make a report to the Central Government
in which the auditor should state the following:

Whether, in the auditor’s opinion, the balance sheet is a full and fair balance sheet containing all the necessary particulars and is properly drawn up so as to exhibit a true and fair view of the affairs of the bank.
In case the auditor had called for any explanation or information, whether it has been given and whether it is satisfactory.
Whether or not the transactions of the bank, which have come to the auditor’s notice, have been within the powers of that bank.
Whether or not the returns received from the offices and branches of the bank have been found adequate for the purpose of audit.
Whether the profit and loss account show a true balance of profit or loss for the period covered by such account.
Any other matter which the auditor considers should be brought to the notice of the Central Government.

Question 4.
Write a short note on Long Form Audit Report.
Answer:
Long Form Audit Report:

The long form Audit Report has to be furnished by the auditor of a bank in addition to the audit report as per the statutory requirement.
The matters which the banks require their auditor to deal with in the form of Long Form Audit Report have been specified by the RBI.
The LFAR is to be submitted before 3 0th June every year. To ensure timely submission of LFAR, proper planning for completion of the LFAR is required. While the format of LFAR does not require an executive summary to be given, members may consider providing the same to bring out the key observations from the whole document.

Question 5.
“If an accounting professional, whether in the course of internal or external audit or in the process of institutional audit finds anything susceptible to be fraud or fraudulent activity or act of excess power or smells any foul play in any transaction, he should refer the matter to the regulator. Any deliberate failure on the part of the auditor should render himself liable for action”. Analyse and explain the above RBI Circular regarding liability of accounting and auditing profession.
Answer:
Reporting of Fraud to RBI:

Circular issued by RBI regarding liability of accounting and auditing profession, provides that “If an accounting professional, whether in the course of internal or external audit or in the process of institutional audit finds anything susceptible to be fraud or fraudulent activity or act of excess power or smell any foul play in any transaction, he should refer the matter to the regulator. Any deliberate failure on the part of the auditor should render himself liable for action”
This requirement is applicable to all scheduled commercial banks excluding Regional Rural Banks. Auditor is not expected to look into each and every transaction but to evaluate the system as a whole.
While reporting such kind of matters as stated in the circular, auditor need to consider the provisions of SA 250, “Consideration of Laws and Regulations in an Audit of Financial Statements”.
SA 240, “The Auditor’s Responsibilities Relating to Fraud in an Audit of Financial Statements” further expounds the concept and states that an auditor conducting an audit in accordance with SAs is responsible for obtaining reasonable assurance that the financial statements taken as a whole are free from material misstatement, whether caused by fraud or error.

Question 6.
Management develops controls and uses performance indicators to aid in managing key business and financial risks. Explain in this reference the requirements of an effective risk management system in a bank.
Or
Write short note on: Requirements of a Risk Management Process/System in a bank.
Or
Mr. Piyush, the Bank Manager develops controls to aid in managing key business and financial risks. Discuss the various requirements for an effective risk management system in a bank. [May 19 (4 Marks)]
Answer:
Understanding the Risk Management Process:
An effective risk management system in a bank generally requires the following:
(a) Involvement of TCWG: Risk Management policies should be approved by TC WG. While approving the policies, TCWG should ensure that the policies should be consistent with the bank’s business objectives and strategies, capital strength, management expertise, regulatory requirements and the types and amounts of risk it considers as acceptable.

(b) Identification, measurement & monitoring of risks: Risks that may significantly affect the achievement of bank’s goals and objectives should be identified, measured and monitored against pre-approved limits and criteria.

effective segregation of duties,
verification and approval of transactions,
setting of limits, and
reporting and approval of exception.

(d) Monitoring activities: Independent risk management unit should be set up which regularly assess the risk management models, methodologies and assumptions used to measure and manage risk.

(e) Reliable information systems: Banks must have a reliable information system that provide adequate financial, operational and compliance information on a timely and consistent basis to management and TCWG.

Question 7.
“The engagement team should hold discussions to gain better understanding of the bank and its environment, Including internal control, and also to assess the potential for material misstatements of the financial statements. All these discussions should be appropriately documented for future reference”. Explain.
Or
The engagement team of FRN & Co.- Auditors of Bank of Baroda held discussions to gain better understanding of the bank and its environment, including internal control, and also to assess the potential for material misstatements of the financial statements.

The discussion between the members of the engagement team and the audit engagement partner are being done on the susceptibility of the bank’s financial statements to material misstatements.
These discussions are ordinarily done at the planning stage of an audit.
Analyse and Advise the matters to be discussed in the engagement team discussion. [MTP-March 18, March 19]
Or
You are appointed as an auditor of Banking Co., and hold discussions with engagement team. List out matters which you would discuss at planning stage of an audit to gain better understanding of the bank and its environment. [May 19 (4 Marks)]
Or
The discussion between members of the engagement team members and the audit engagement partner should be done on the susceptibility of the bank’s financial statements to material mis-statements. Briefly discuss the points ordinarily included in discussion of the engagement team. [Nov. 19 (3 Marks)]
Answer:
Engagement Team Discussions:
Engagement team should hold discussions to gain better understanding of banks and its environment, including internal control, and also to assess the potential for material misstatements of the financial statements. All these discussions should be appropriately documented for future reference. The discussion should be done on the susceptibility of the bank’s financial statements to material misstatements. These discussions are ordinarily done at the planning stage of an audit.

Benefits of discussion:

Opportunity for team members to share their insights based on their knowledge of the bank and its environment.
Opportunity for team members to exchange information about the bank’s business risks.
To make an understanding amongst the team members about effect of the results of the risk assessment procedures on other aspects of the audit, including decisions about the NTE of further audit procedures.

Matters to be discussed:
(a) Errors that may be more likely to occur;
(b) Errors which have been identified in prior years;
(c) Method by which fraud might be perpetrated by bank personnel or others within particular account balances and/or disclosures;
(d) Audit responses to Engagement Risk, Pervasive Risks, and Specific Risks;
(e) Need to maintain professional skepticism throughout the audit engagement;
(f) Need to alert for information or other conditions that indicates that a material misstatement may have occurred.

Question 8.
An asset becomes NPA when it ceases to generate income for the Bank. Explain the criteria for classification of advance as Non-Performing Advance.
Answer:
Criteria for classification of advance as NPA;
An Advance will be classified as NPA if:
(a) It ceases to generate income for a bank.
(b) Interest and/or instalment of principal in respect of such an advance have remain overdue or out of order for a specified period of time

Overdue: An amount is said to be ‘Overdue’, if it is not paid on the due date fixed by the Bank.
Out of Order: An account should be treated as ‘Out-of-order’ if the outstanding balance remains continuously in excess of the sanctioned limit/drawing power.

If there are no credits continuously for 90 days as on the balance sheet date or the credits are not enough to cover the interest debited during the same period.

NPA classification w.r.t. specified advances

Term Loans; Term loan will become NPA if interest and/or Instalment of principal has remained overdue for a period exceeding 90 days.
CC/OD: CC/OD account will become NPA if the account has remained out-of-order for a period exceeding 90 days.
Bills Purchased & Discounted: Bills purchased & Discounted will become NPA when bill re-mains overdue & unpaid for a period exceeding 90 days.

Question 9.
Shy & Co. had been allotted the branch audit of a nationalized bank for the year ended 31st March, 2018. In the audit planning, the partner of Shy & Co. observed that the allotted branches are predominantly based in rural areas and major portion of the advances were for agricultural purpose. He needs your assistance in incorporating the criteria prescribed for determination of NPA norms in respect of agricultural advance, in audit plan.
Answer:
Criteria for determination of NPA norms in respect of agricultural advances;
An agricultural advance is classified as NPA is interest and/or instalment of principal is overdue for

two crop seasons, in case loans granted for Short Duration crops,
one crop season, in case loans granted for Long Duration crops (i.e. more than 1 year)

For this purpose, the following points are to be considered:

Long duration crops mean the crops with crop season longer than one year.
Short Duration Crops means the crops, other than long duration crops.
Crop season means the period up to harvesting of the crops, as determined by the State Level Bankers’ Committee in each State.
The above norms should be made applicable to all direct agricultural advances as listed in the Master Circular on Lending to Priority Sectors. In respect of all other agricultural loans, identification of NPAs would be done on the same basis as non-agricultural advances, which, at present, is the 90 days delinquency norm.
If natural calamities impair the repaying capacity of agricultural borrowers, banks may decide on their own as a relief measure conversion of the short-term production loan into a term loan or re-schedulement of the repayment period; and the sanctioning of fresh short-term loan, subject to guidelines issued by RBI.

Question 10.
“Ramjilal & Co. had been allotted the branch audit of a nationalised bank for the year ended 31st March, 2019. In the audit planning, the partner of Ramjilal & Co., observed that the allotted branches are predominantly based in rural areas and major portion of the advances were for agricultural purpose.”
Now he needs your assistance on the following points so as to incorporate them in the audit plan:
(a) for determine of NPA norms for agricultural advances
(b) for accounts where there is erosion in the value of security/frauds committed by the borrow-ers. [Nov. 18 (5 Marks)]
Answer:
(i) NPA Norms for agricultural advances:
An agricultural advance is classified as NPA is interest and/or instalment of principal is overdue for

two crop seasons, in case loans granted for Short Duration crops,
one crop season, in case loans granted for Long Duration crops [i.e. more than 1 year)

For this purpose, the following points are to be considered:

Long duration crops mean the crops with crop season longer than one year.
Short Duration Crops means the crops, other than long duration crops.
Crop season means the period up to harvesting of the crops, as determined by the State Level Bankers’ Committee in each State.

(ii) NPA Norms where there is erosion in the value of security/frauds committed by the borrowers
In case there arise erosion in the value of security or any fraud is committed by Borrowers, banks can directly classify these accounts as Doubtful Assets or Loss Assets, irrespective of the period for which the account has remained NPA.

1. Erosion in the value of securities by more than 50% of the value assessed by the bank or accepted by RBI inspection team at the time of last inspection, as the case may be, would be considered as “significant”, requiring the asset to be classified as doubtful straightaway and provided for adequately.

2. The realisable value of security as assessed by bank/approved valuers/RBI is less than 10% of the outstanding in the borrowal accounts, the existence of the security should be ignored and the asset should be classified as loss asset. In such cases the asset should either be written off or fully provided for.

Question 11.
State the internal controls in the area of Loans and Advances of Banks.
Or
“The Auditor should examine the efficiency ofvarious internal controls over advances, to determine the nature, timing and extent of his substantive procedures.” Discuss briefly.
[Nov. 18 (5 Marks), MTP-April 19]
Or
The auditor should examine the efficacy of various internal controls over advances in case of Banks to determine the nature, timing and extent of his substantive procedures. Explain what is included in the internal controls over advances. [RTP-May 19]
Answer:
Aspects of Internal Control in the area of loans and advances:
To determine the nature, timing and extent of substantive procedures over advances, auditor should examine the efficacy of various internal controls over advances.

Advances should be made only after evaluating credit worthiness of the borrowers and obtaining sanction from the proper authorities of the bank.
All the loan documents like promissory notes, letters of hypothecation, guarantee letter, etc. should be executed by the parties before advances are made.
While determining the loan amount to be sanctioned, sufficient margin should be kept against securities taken so as to cover any decline in the value thereof and also to comply with RBI directives.
Securities should be received and returned by responsible officer and should be kept in the joint custody of atleast two responsible officers,
Securities requiring registration should be registered in the name of the bank.
In the case of physical possession of goods as security, the goods should be test checked at the time of receipts. In respect of hypothecated goods not in possession of the bank, surprise checks should be made.
Personal inquiries should be made so as to determine market value of goods.
For any increase/decrease in the value of securities, drawing power should be adjusted. All the accounts should be kept within both the drawing power and the sanctioned limit at all times.
All irregular accounts should be brought to the notice of the H.O. regularly.
The operation in each advance should be reviewed at least once every year.
There should exist a proper system for post disbursement supervision and follow-up.
Classification of advances should be made as per RBI Guidelines.
Ensure that the funds disbursed should be utilized only for the purpose for which advances has been granted.

Question 12
Your firm of Chartered Accountants has been appointed as the Auditor of two branches of OBC which are located in the Industrial area. Considering that the location of the branches of bank in industrial area, these would be “advances oriented branches and audit of advances would require the major attention of the auditors. Advise how would you proceed to obtain evidence in respect of audit of advances. [RTP-May 18, MTP-Oct. 19]
Or
The auditor can obtain sufficient appropriate audit evidence about advances by study and evaluation of internal controls relating to advances. Explain in the context of Audit of Banks. [RTP-Nov. 19]
Answer:
Collection of Evidences in respect of Advances:
Evidences in respect of advances may be collected by performing compliance and substantive procedures.

Compliance Procedures:
(a) Examine the following:

loan documentation;
validity of the recorded amounts;
existence, enforceability and valuation of the security;

(b] Ensure compliance with the

terms of sanction
end use of funds
loan Policy of Bank as well as RBI norms including appropriate classification and provisioning
review the operation of the accounts.

Substantive Procedures:
(a) Verify that amounts included in balance sheet in respect of advances are outstanding at the date of the balance sheet.
(b) Verify that advances represent amount due to the bank.
(c) Ensure that outstanding amount is appropriately supported by Loan documents.
(d) Ensure that there are no unrecorded advances.
(e) Verify the appropriateness of basis of valuation of advances.
(f) Ensure that the recoverability of advances is recognised in their valuation.
(g) Check that the advances are disclosed, classified and described in accordance with recognised accounting policies and relevant statutory and regulatory requirements.
(h) Ensure that appropriate provisions towards advances have been made as per the RBI norms.

Question 13.
Mr. A approaches a bank for financial assistance for his upcoming project The bank branch manager, after verifying the proposal, is agreeable to financial Mr. A, but asks for the security of be offered to the bank. Discuss the nature of securities required to be offered to the bank. [May 18 (4 Marks)]
Answer:
Nature of Securities to be offered:
(a) Primary security: Security offered by the borrower for bank finance or the one against which credit has been extended by the bank.

(b) Collateral security: It is an additional security and can be in any form i.e. tangible or intangible asset, movable or immovable asset.

Security may be created by different modes like Mortgage, Pledge, Hypothecation, Lien, Assignment.
(a) Mortgage: Registered Mortgage can be affected by a ‘Mortgage Deed’ signed by the mortgagor. Equitable mortgage, is affected by a mere delivery of title deeds or other documents of title with intent to create security thereof.

(b) Pledge: It involves physical delivery of goods by the borrower to the lending bank with the intention of creating a charge thereon as security for the advance. Legal ownership of the goods remains with the pledger while the lending banker gets certain defined interests in the goods.

(c) Hypothecation: Hypothecation is the creation of an equitable charge, which is created in favour of the lending bank by execution of hypothecation agreement in respect of the movable securities belonging to the borrower. Borrower holds the physical possession of the goods. Neither ownership nor possession are transferred to the bank. Borrower periodically submits statements regarding quantity and value of hypothecated assets (like stocks, debtors, etc.) to the bank on the basis of which the drawing power of the borrower is fixed.

(d) Assignment: Assignment represents a transfer of an existing or future debt, right or property belonging to a person in favour of another person. Only actionable claims such as book debts and life insurance policies are accepted by banks as security by way of assignment. An assignment gives the assignee absolute right over the moneys/debts assigned to him.

(e) Set-off: Set-off is a statutory right of a creditor to adjust, wholly or partly, the debit balance in the debtor’s account against any credit balance lying in another account of the debtor.

(f) Lien: Lien is creation of a legal charge with consent of the owner, which gives lender a legal right to seize and dispose/liquidate the asset under lien.

Question 14.
Advances generally constitute the major part of the assets of the bank. There are large number of borrowers to whom variety of advances are granted. The audit of advances requires the major attention from the auditors. In carrying out audit of advances, the auditor is primarily concerned with obtaining evidence about, among other points, the amounts included in balance sheet in respect of advances are outstanding at the date of the balance sheet. Explain. [RTP-Nov. 19]
Answer:
Audit of Advances: Refer Substantive Procedures in answer of Q. No. 12

Collection of Evidences in respect of Advances:
Evidences in respect of advances may be collected by performing compliance and substantive procedures.

Compliance Procedures:
(a) Examine the following:

loan documentation;
validity of the recorded amounts;
existence, enforceability and valuation of the security;

(b] Ensure compliance with the

terms of sanction
end use of funds
loan Policy of Bank as well as RBI norms including appropriate classification and provisioning
review the operation of the accounts.

Question 15.
“There is no difference in provisioning of NPA as regards to categories of NPA, whether the debt is secured or unsecured.” Critically evaluate the statement on the basis of provisioning norms of NPA of nationalised bank. [Nov. 19 (4 Marks)]
Answer:
Provisioning Requirements of NPA:
Statement that “There is no difference in provisioning of NPA as regards to categories of NPA, whether the debt is secured or unsecured” is not correct as the provisioning requirements for substandard and doubtful categories of NPA are different for secured and unsecured advances.
(a) For Substandard advances: Additional provision is required @ 10% (5% for infrastructure advances).
(b) For Doubtful Advances: Provisioning requirements are given below:

	Secured Portion	Unsecured Portion
Doubtful upto 1 year	25%	100%
Doubtful 1 to 3 years	40%	100%
Doubtful above 3 years	100%	100%

Question 16.
Newton Ltd. has made loans and advances on the basis of following securities to various borrowers. As an’ auditor what type of documents can be verified to ensure that the company holds a legally enforceable security?
(i) Shares and Debentures
(ii) Life Insurance Policy
(iii) Hypothecation of goods. [MTP-May20]
Answer:
Documents to be seen in case of Securities:

Types of Security	Documents etc. to be seen
Shares and debentures	The scrip and the endorsement thereon of the name of the transferee, in the case of transfer.
Life Insurance Policy	Assignment of policy in favour of the lender, duly registered with the insurer
Hypothecation of goods	Deed of hypothecation or other document creating the charge, together with a statement of inventories held at the Balance Sheet date

Question 17.
Distinguish between Primary Security and Collateral Security with reference to audit of Banks. Also give examples of most common types of securities accepted by the Banks. [RTP-Nw 20]
Answer:
Primary Security and Collateral Security:
Primary security refers to the security offered by the borrower for bank finance or the one against which credit has been extended by the bank. This security is the principal security for an advance.

Collateral security is an additional security. Security can be in any form i.e. tangible or intangible asset, movable or immovable asset.
Examples of most common types of securities accepted by banks are the following:

Personal Security of Guarantor
Goods/Stocks/Debtors/Trade Receivables
Gold Ornaments and Bullion
Immovable Property
Plantations (For Agricultural Advances)
Third Party Guarantees
Banker’s General Lien
Life Insurance Policies
Stock Exchange Securities and Other Instruments

Question 18.
Depending on the nature of the item concerned, creation of security may take the form of a mortgage, pledge, hypothecation, assignment, set-off or lien. Explain with specific reference to Audit of Banks. [RTP-Nov. 20]
Answer:
Nature of Securities to be offered:
(a) Primary security: Security offered by the borrower for bank finance or the one against which credit has been extended by the bank.

(b) Collateral security: It is an additional security and can be in any form i.e. tangible or intangible asset, movable or immovable asset.

(e) Set-off: Set-off is a statutory right of a creditor to adjust, wholly or partly, the debit balance in the debtor’s account against any credit balance lying in another account of the debtor.

(f) Lien: Lien is creation of a legal charge with consent of the owner, which gives lender a legal right to seize and dispose/liquidate the asset under lien.

Question 19.
Explain income recognition norms with respect to advances in case of a banking company
Answer:
Income Recognition norms w.r.t. Advances:

Any income which exceeds

one per cent of the total income of the bank if the income is reckoned on a gross basis
or
one per cent of the net profit before taxes if the income is reckoned net of costs, should be considered on accrual as per AS-9 (subject to certainty as to their ultimate collection). Other incomes may be recognised when received.
In case of NPA, RBI guidelines require that banks should not recognize income until it is actually realised.
Interest on advances against Term Deposits, National Savings Certificates (NSCs), Indira Vikas Patras (IVPs), Kisan Vikas Patras (KVPs) and Life policies may be taken to income account on the due date, provided adequate margin is available in the accounts.
In the case of outstanding bills purchased and discounted the discount received thereon should be properly apportioned.
Fees and Commission earned by the bank as a result of rescheduling of advances should be recognized on accrual basis over the period covered by the rescheduled extension of credit period.

Question 20.
Write a short note on reversal of income under bank audit.
Answer:
Reversal of Income:
(a) First time NPAs: If a Loan/Advance is treated as NPA for the first time, interest accrued which has not been realized but credited to the Income Account should be reversed or provided for.

(b) Commission/other Income: If interest income is recognized on cash basis, then Commission and other such income with respect to the same Borrower, which has been recognized on accrual basis in the previous year but has not been realized, should be reversed or provided for with respect to previous year.

(c) Finance Charge of leased assets: The finance charge component of finance income [as defined in AS 19 -Leases] on the leased asset which has accrued and was credited to income account before the asset became non-performing, and remaining unrealised, should be reversed or provided for in the current accounting period.

Question 21.
In view of the significant uncertainty regarding ultimate collection of income arising in respect of non-performing assets, the guidelines require that banks should not recognize income on nonperforming assets until it is actually realised. When a credit facility is classified as non-performing for the first time, interest accrued and credited to the income account in the corresponding previous year which has not been realized should be reversed or provided for. This will apply to Government guaranteed accounts also. Analyse and Explain. [RTP-May 20]
Answer:
Reversal of Income:
If any advance, including bills purchased and discounted, becomes NPA as at the close of any year, the entire interest accrued and credited to income account in the past periods, should be reversed or provided for if the same is not realised. This will apply to Government guaranteed accounts also.

In respect of NPAs, 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.

Further, in case of banks which have wrongly recognised income in the past should reverse the interest if it was recognised as income during the current year or make a provision for an equivalent amount if it was recognized as income in the previous year(s].

Furthermore, the auditor should enquire if there are any large debits in the Interest Income accountthat have not been explained. It should be enquired whether there are any communications from borrowers pointing out differences in interest charge and whether appropriate action has been taken in this regard.

Question 22.
How would you verify the Interest Expenditure while carrying out audit of a bank.
Answer:
Verification of Interest Expenditure:
(a) Obtain from the bank an analysis of various types of deposits outstanding at the end of each quarter and compute a weighted average interest rate. The rate so computed should be compared with the actual average rate and enquire into the difference, if material.

(b) Compare the average rate of interest paid on deposits with the corresponding figures for the previous years and enquire into the difference, if material.

Interest has been provided on all deposits u pto the date of the balance sheet and determine whether there is any excess or short credit.
Interest rates are in accordance with the bank’s internal regulations, RBI directives and agreements with the depositors;
In relation to fixed deposits, examine whether the interest rate in the accounting system are same as mentioned in the Fixed Deposit Receipt/Certificate.
Interest on Savings Account should be checked on a test check basis in accordance with the rules framed by the bank.
Interest on inter-branch balances has been provided at the rates prescribed by the head office.
Interest on overdue/matured term deposits should be estimated and provided for.

(d) Ascertain whether there are any changes in interest rate on saving deposits and term deposits during the period.

Question 23.
Write short note on: Audit procedures for verification of provisions and contingencies in case of bank audit.
Or
You are appointed as Statutory Auditor of DEF Bank Limited for the year 2020-21. As an Auditor how will you verify Provisions created by DEF Bank Limited? [Nov. 20 (4 Marks)]
Answer:
Audit Procedure for Verification of Provisions and Contingencies:

Ascertain compliance with the various regulatory requirements for provisioning as contained in the various circulars.
Obtain an understanding as to how the Bank computes provision on standard assets and non-performing assets. It includes the basis of the classification of loans into standard, sub-standard, doubtful and loss assets.
Obtain the detailed break up of standard loans, non-performing loans and agree the outstanding balance with the general ledger.
Examine whether the provisions in respect of standard loans and NPA comply with the regulatory requirements.
Obtain statement of computation of tax provision from the bank’s management and verify the nature of items debited and credited to profit and loss account to ascertain that the same are appropriately considered in the tax provision computation.
Re-compute the provision for tax by applying the applicable tax rate after considering the allowances and disallowances as per Income Tax Act, 1961.
Other provisions for expenditure should be examined vis-a-vis the circumstances warranting the provisioning and the adequacy of the same by discussing and obtaining the explanations from the bank’s management.

Objective Type Questions {True/False, Correct/Incorrect)

Question 1.
RBI has been entrusted with the responsibility of regulating the activities of commerce l banks only.
Answer:
Statement is incorrect.

RBI has been entrusted with the responsibility of regulating the activities of entire banking system in India which covers commercial as well as other banks.

Question 2.
In the computerised environment, the auditor is not required to be familiar with latest applicable RBI guidelines that have bearing on the classification/provisions and income recognition.
Answer:
Statement is incorrect.

While carrying out audit of a bank whether in a Computerised environment or manual, auditor must be familiar with all the norms/parameters as per the latest applicable RBI guidelines that have a bearing on the classification/provisions and income recognition.

Question 3.
Collateral security refers to the security offered by the borrower for bank finance or the one against which credit has been extended by the bank.
Answer:
Statement is incorrect:

Security offered by the borrower for bank finance or the one against which credit has been extended by the bank is known as primary security.
Collateral security is an additional security and can be in any form i.e. tangible or intangible asset, movable or immovable asset.

Question 4.
Registered mortgage is affected by a mere delivery of title deeds or other documents of title with intent to create security thereof.
Answer:
Statement is incorrect.

Registered Mortgage can be affected by a ‘Mortgage Deed’ signed by the mortgagor.
Equitable mortgage, is affected by a mere delivery of title deeds or other documents of title with intent to create security thereof.

Question 5.
Any amount due to the bank under any credit facility is ‘overdue’ if it is not paid within 90 days of becoming due.
Answer:
Statement is incorrect.

An amount is said to be ‘Overdue’, if it is not paid on the due date fixed by the Bank.

Question 6.
An account should be treated as ‘out of order’ if the outstanding balance remains continuously in excess of the sanctioned limit/drawing power.
Answer:
Statement is correct.

An account should be treated as ‘Out-of-order’ if the outstanding balance remains continuously in excess of the sanctioned limit/drawing power, or
If there are no credits continuously for 90 days as on the balance sheet date or the credits are not enough to cover the interest debited during the same period.

Question 7.
The matters which the banks require their auditors to deal with in the long form audit report have been specified by the Central Government. [MTP-March 18, March 19]
Answer:
Statement is incorrect.

The matters which the banks require their auditors to deal with in the long form audit report have been specified by the Reserve Bank of India.

Question 8.
Banks recognize income on Non-Performing Assets on accrual basis. [Nov. 18 (2 Marks)]
Answer:
Statement is incorrect.
In case of NPA, RB! guidelines require that banks should not recognize income until it is actually realised.

Question 9.
Auditor of a Nationalised bank is to be appointed at the annual general meeting of the shareholders. [May 19 (2 Marks)]
Answer:
Statement is incorrect.
Auditor of a nationalised bank is to be appointed by the bank concerned acting through its Board of Directors.

Question 10.
An account should be treated as ‘out of order’ if the outstanding balance remains continuously in excess of the sanctioned limit/drawing power. In cases where the outstanding balance in the principal operating account is less than the sanctioned limit/drawing power, but there are no credits continuously for 180 days as on the date of Balance Sheet or credits are not enough to cover the interest debited during the same period, these accounts should be treated as ‘out of order’. [RTP-May 20]
Answer:
Statement is incorrect:
An account should be treated as ‘out of order’ if the outstanding balance remains continuously in excess of the sanctioned limit/drawing power.

In cases where the outstanding balance in the principal operating account is less than the sanctioned limit/drawing power, but there are no credits continuously for 90 days as on the date of Balance Sheet or credits are not enough to cover the interest debited during the same period, these accounts should be treated as ‘out of order’.

Question 11.
Classification as NPA should be based on the availability of security and asset classification would be facility wise and not borrower wise. [Nov. 20 (2 Marks)]
Answer:
Statement is incorrect:
Classification as NPA should be based on the record of recovery. Availability of security or net worth of borrower/guarantor is not to be taken into account for purpose of treating an advance as NPA or otherwise,

Asset classification would be borrower-wise and not facility-wise. All facilities including investments in securities would be termed as NPA.

Audit of Banks – CA Inter Auditing Notes

Leave a Comment Cancel Reply