Basic terms in Bank audit


This article is specially made for the students who are doing bank audit.

Basic terms in Bank audit:

While doing bank audit one should know the basic terms which are used and important in the banking system:

  1. Schedule Bank
  2. Non- Schedule Bank
  3. Bank Guarantee
  4. Letter of Credit
  5. Equitable Mortgage
  6. Registered Mortgage
  7. Inoperative A/C or Dormant A/C
  8. Special Mention A/C (SMA)
  9. Nostro Account
  10. Vostro Account
  11. Non Resident External Rupee (NRE) Account
  12. Non Resident Ordinary Rupee (NRO) Account
  1. Schedule Bank:
  • Scheduled banks include all the commercial banks like nationalized, foreign, development, cooperative and regional rural banks.
  • Listed in the Second Schedule.
  • Scheduled banks is a banking corporation whose minimum paid up capital is Rs. 25 lakhs and does not harm the interest of the depositors.

2) Non- Schedule Bank:

  • Non-scheduled banksare the banks that do not adhere to the norms prescribed by the Reserve Bank of India (RBI).
  • Non-scheduled banks are the banks which do not comply with the rules specified by the Reserve Bank of India, or say the banks which do not come under the category of scheduled banks.
  • Not listed in Second Schedule.

3) Bank Guarantee:

  • Bank guarantee is a service by which bank gives a guarantee to the seller on behalf of his client for assurance of payment.
  • In bank guarantee, if the opposing party doesn’t fulfil contractual obligations the Bank will make payment.
  • Bank has determined that the buyer is a reasonable risk, a monetary limit is placed on the agreement. The bank agrees to be obligated up to, but not exceeding, the limit. This protects the bank by providing a specific threshold of risk.
  • Bank guarantees are often used in real estate contracts and infrastructure projects.

4) Letter of credit:

  • L/C is a written commitment issued by the bank or some other financial institutions for payment assurance to the seller party from buyer’s request.
  • It is used while doing import and export transactions with international companies.
  • In L/C, the seller gets a guarantee of payment from the buyer’s banks on the due date payment will receive only if the seller meets all the conditions of deal like timely delivery etc.
  • If the buyer fails to make payment to the seller, the bank pays on behalf of a buyer and then the bank will recover it from a buyer anyhow.
  • It is often used in a transaction to mitigate the risk of not being paid post-delivery of the products.
  • L/C is issued to the buyer after carrying out the necessary due diligence and collecting sufficient collateral. The letter is then presented to the seller as a proof of the buyer’s credit quality.

5) Equitable Mortgage:

  • A mortgage in which the lender is secured by taking possession of all the original title documents of the property that serves as security for the mortgage.
  • It gives the mortgagee the right to foreclose on the property, sell it, or appoint a receiver in case of non payment.
  • An equitable mortgage is also known as an implied or constructive mortgage.
  • No legal procedure is involved in an equitable mortgage, but it is considered mortgage in the interest of justice (under equity).
  • The borrower has to submit his title deed to the lender as security for the money borrowed.

6) Registered Mortgage:

  • In this mortgage, the borrower has to create a charge on the property with the sub-registrar through a formal, written process, as a proof of transfer of interest to the lender as security for the loan.
  • Registered mortgage is also known as ‘Deed of Trust’.
  • In case of borrower’s failure to repay the loan, lender/ bank will have the right to take possession of the property. When the borrower repays the loan to lender/ bank, the title of the property is given back to the borrower.
  • It involves legal procedures for creating the charge on the property.

7) Inoperative A/C or Dormant A/c

  • A savings as well as a current account is classified as ‘inoperative’ or ‘dormant’ if there are no transactions in the account for over a period of two years.
  • For the purpose of classifying an account as inoperative, both the types of transactions i.e. debit as well as credit transactions induced at the instance of customers as well as third party should be considered.
  • If there are no transactions for a period of ONE year, it will firstly become Inactive bank account and if same is continue for TWO years then it will be classified as Dormant/Inoperative A/c
  • As per RBI notification, if dividend on shares is credited to Savings Bank accounts as per the mandate of the customer, the same should be treated as a customer induced transaction.
  • The Savings Bank account can be treated as inoperative account only after two years from the date of the last credit entry of the dividend, provided there is no other customer induced transaction.

8) Special Mention Accounts (SMA)

  • Special Mention Accounts are those assets /accounts that shows symptoms of bad asset quality in the first 90 days itself.
  • Such Accounts can also be called as Potential NPA’s.
  • Banks are required to identify incipient stress in the account by creating three sub-categories under the Special Mention Account (SMA1) category as given in the table below:
SMA Sub-categories Basis for classification
SMA-0 Principal or interest payment not overdue for more than 30 days but account showing signs of incipient stress
SMA-1 Principal or interest payment overdue between 31-60 days
SMA-2 Principal or interest payment overdue between 61-90 days
  • Following is the Illustrative list of signs of stress for categorising an account as SMA-0:
  1. Delay of 90 days or more in (a) submission of stock statement/other stipulated operating control statements or (b) credit monitoring or financial statements or (c) non-renewal of facilities based on audited financials.
  2. Actual sales/operating profits falling short of projections accepted for loan sanction by 40% or more; or a single event of non-cooperation/prevention from conduct of stock audits by banks; or reduction of Drawing Power (DP) by 20% or more after a stock audit; or evidence of diversion of funds for unapproved purpose; or drop in internal risk rating by 2 or more notches in a single review.
  3. Return of 3 or more cheques (or electronic debit instructions) issued by borrowers in 30 days on grounds of non-availability of balance/DP in the account or return of 3 or more bills/cheques discounted or sent under collection by the borrower.
  4. Devolvement of Deferred Payment Guarantee (DPG) instalments or Letters of Credit (LCs) or invocation of Bank Guarantees (BGs) and its non-payment within 30 days.
  5. Third request for extension of time either for creation or perfection of securities as against time specified in original sanction terms or for compliance with any other terms and conditions of sanction.
  6. Increase in frequency of overdrafts in current accounts.
  7. The borrower reporting stress in the business and financials. 8. Promoter(s) pledging/selling their shares in the borrower company due to financial stress
  • There will not be any particular provisioning for SMA assets.

9) Nostro Account:

The terms nostro and vostro are used, mainly by banks, when one bank keeps money at another bank. Both banks need to keep records of how much money is being kept by one bank on behalf of the other. In order to distinguish between the two sets of records of the same balance and set of transactions, banks refer to the accounts as nostro and vostro.

From the point of view of the bank whose money is being held at another bank:

  • In short, A nostro is our account of our money, held by the other bank
  • The nostro account is a way of the bank whose money it is, keeping track of how much is being held by the other bank.
  • For example, an Indian bank authorized to deal in foreign exchange maintain an account with overseas bank in USA in US Dollar  such account  maintained in the foreign currency at foreign center by Indian bank is said as ‘Nostro Account’

10) Vostro Account:

From the point of view of the bank whose money is being held at another bank:

  • A vostro is our account of other bank money, held by us
  • A vostro account is the same as any other bank account. It is a record of money held by a bank or owed to a bank by a third party (an individual, company or bank).
  • For example XYZ bank of USA maintains an account with a Bank in India in Indian Rupee such account maintained in the foreign currency at foreign center by Foreign bank is said as ‘Vostro Account’.

 11) Non Resident External Rupee (NRE) Account:

  • A bank account in which NRI’s can deposit income generated from external sources is known as NRE Account.
  • The account can be opened in the names of two or more non-resident individuals provided all the account holders are persons of Indian nationality or origin.
  • NRE account may be in the form of savings, current, recurring or fixed deposit accounts.
  • Accrued interest income and balances held in NRE accounts are exempt from Income tax.
  • Amount held in the NRE account are freely repatriable (Principal and interest earned)
  • Account Holder of this account cannot send money by any other means except as remittance from abroad or transfer from another NRE account.
  • Deposits in foreign currency only and withdrawals in Indian rupee.

12) Non Resident Ordinary Rupee (NRO) Account:

  • A bank account opened by NRI to deposit income mainly generated from an Indian source is known as NRO account.
  • The interest earned in NRO account and credit balances are subject to respective income tax bracket
  • NRO account has restricted repatriabilitye permitted remittance allowed from NRO is up to USD 1 million net of applicable taxes in a financial year after giving undertaking along with a certificate from a chartered accountant.
  • NRO account can be held with NRI as well as resident Indian (close relative)
  • Account Holder of this account can transfer money into an NRO account from any account – even other individuals residing in India can transfer money into an NRI’s NRO account.
  • Deposits can be made in foreign currency as well as Indian rupee but withdrawals only in Indian rupee.
  • NRO accounts may be opened or maintained also in the form of rupee denomination could be in the form of current, savings, recurring or fixed deposit accounts.

-Monika N Rathi

            In next article I will cover how to check loan file under types of loans.

About Author

CA Monika Rathi

Name: CA Monika N. Rathi

-The author is Chartered Accountant and she working as a partner in the M/s SSRPN. & Co.




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