PNB fraud case: RBI discontinues system of issuing Letters of Undertaking system

In the backdrop of Punjab National Bank (PNB) scam that is being blamed on two jewellers Nirav Modi and Mehul Choksi, the Reserve Bank of India (RBI) on Tuesday, made a decision to discontinue the Letter of Undertaking (LOU)/ Letter of Credit (LOCs) for trade credits for imports with immediate effect.

"On a review of the extant guidelines, it has been made a decision to discontinue the practice of issuance of LoUs/ LoCs for Trade Credits for imports into India by AD Category banks with immediate effect", the central bank said in a notification. Bankers say the scrapping of LoU/LoC is unlikely to impact trade credit as banks can issue Letters of Credit (LC) and Bank Guarantees for trade credits for imports.

The RBI's action comes almost a month after PNB announced that it had detected fraudulent and unauthorised transactions at its Brady House branch in Mumbai.

PNB, the second-biggest Indian state-run lender, uncovered in January the alleged fraud in which certain bank officials were suspected of colluding with Modi and Choksi to issue fraudulent letters of undertaking (LoUs) for their firms to raise loans from overseas branches of mostly Indian banks. The fraudulent issuance of LoUs came to light when one of the branch officials asked the firms associated with the diamantaires to furnish at least 100 per cent cash margin for issuing LoUs.

The Bank has reported a Gross Non Performing Assets (Gross NPAs) of Rs 57519.41 Crore (12.11 % of total assets) and Net Non Performing Assets (Net NPAs) of Rs 34075.65 Crore (7.55% of total assets). On the other hand, an LoC is an instrument which is similar to an LoU, except that it is an intra-bank transaction.

As a trade financing measure, overseas banks usually lend to importers based on the LoUs issued by the importers' bank.

Experts said the RBI's move to bar LoUs could affect genuine importers.

(Copyright © 2015. All Rights Reserved.)
 
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