1. Preface
2. Executive Summary and a Road Map
3. Chapter 1
4. Chapter 2
5. Chapter 3
6. Chapter 4
7. Chapter 5
8. Chapter 6
9. Illustrative Bill

National Law University, Jodhpur
August 31,2001

Dr. N.L. Mitra,
Chairman,
Committee on Legal Aspects of Bank Frauds
Reserve Bank of India

Dear Dr. Jalan,

I am privileged to present to you the Report of the ExpertCommittee on Legal Aspects of Bank Frauds and an illustrative legislation tocombat financial and bank frauds. Financial Fraud, per se, is no offence inIndia at present. Our recommendations include both preventive and curativeaspects. The curative aspects include making financial fraud an offence with ashift of burden of proof. Serious financial frauds are required to beinvestigated by multi-dimensional investigative agency and to be tried in a fasttrack special court. In the preventive aspects, the committee recommended somesystemic adjustment including making legal compliance report necessary andattaching certain functional responsibilities to the financial auditors.

2. We anticipate that there shall now be a national debateover the report and the draft legislation so that the Government may examinepros and cons before taking steps to legislative design. We request Reserve Bankto put the whole report and the draft legislation in its web site for suchnational debate. The report may also be sent to the appropriate authorities whoare now seriously concerned with financial frauds.

3. We like to record our thanks to you in particular for theconfidence reposed on us for this national task and your staff who supported uswith all possible help. We are obliged to your Legal Department for extendingall secretarial and other support.

With personal regards

Sincerely yours,

(N.L. Mitra)

Encl: as above

Dr. Bimal Jalan,
Governor,
Reserve Bank of India,
Mumbai.

The weakness of criminal law and criminal jurisprudence iswrit large in the administration of justice in India. The common law pressure ofthe justice delivery system on account of ‘proof beyond doubt’ is very heavyespecially in the offences relating to finance. The nation is suffering from aserious ‘crisis of confidence’. No one can repose faith in others includingentities and institutions. In such a situation, the banks and financialinstitutions can hardly grow. Such an atmosphere inflicts serious injury to theproduction and distribution system.

A fair economic system requires a fair financial system withpublic confidence bestowed on it. If we carefully note, India does not have aquality legal system to ensure quality credit. There is no single law to ensurequality of credit. Presently the only law that is used for creating securityinterest against credit is the Transfer of Property Act, 1882, which wasdesigned in a feudal society and not for a dynamic system of ensuring comfort intrade, commerce and industry. In a feudal society predominantly with subsistenceagriculture, possession and ownership of real property determines the social andpolitical power structure. In a society with free trade, commerce and industry,movable properties including intangible are very important to ensure quality inthe credit line. The main comfort in the credit system is thecontract-sovereignty. Unfortunately, in India, parties to the contract cannotadd efficiency in the mechanism of enforcement of security interest created in acredit-contract by the consent of both the parties.

Added with the above weakness, there is weakness in theadministration of criminal justice. Financial fraud is not an offence in spiteof the fact that the banks and financial institutions suffer heavily in fraudscommitted by the borrowers, more often than not, in collusion with the employeesof the banks and financial institutions. In the last decade, instances of ‘scam’have gone up. People, banks and financial institutions have suffered losses ofthousand of crores. The situation is becoming explosive and can lead to anarchyat any time unless ‘scam’ is legally contained. Financial fraud is a verysensitive issue. It affects the public faith in the system structure. The wholebanking system is predominantly based on public faith. Market systems arestructured in a society to ensure public confidence. Repeated market failure,undetected frauds in financial institutions and collusion of employees infinancial fraud cause frustration in the public, which is a challenge to anygood governance.

The Reserve Bank of India, by constituting this committee,following many other studies in this respect, has shown urgency in dealing withthe menace through law and legal instruments. This committee devotedconsiderable time in researching into the issue and examined legal system ofvarious countries in order to draw some analogy. The Committee ultimatelysubmits its recommendations with a proposal of suitable legal intervention. Someprovisions have been suggested to be added to the Indian Penal Code and theCriminal Procedure Code and some amendment suggested in the Indian Evidence Act.The Committee has suggested a Bill for establishing a Bureau for investigatingserious financial fraud and has also suggested a fast track special court withsitting or retired High Court Judge to preside over. The Committee would like tohave a national debate on its suggestion before the government acts on thisreport.

I am personally obliged to the Governor of the Reserve Bankof India for reposing faith in me for such an important task. I am also thankfulto all the members of the Committee for very active participation anddeliberation. Each one of them merits special mention. I will be failing in myduties if I do not mention the distinguished service of Mr. Antia, Advocate andPartner of Mulla and Mulla, Mr. Umarji, Executive Director of the Reserve Bankof India, Mr. P.R. Kulkarni, Deputy General Manager, Janakalyan Sahakari BankLtd., and our Member-Secretary Mr. S.C. Gupta, the Legal Adviser of the ReserveBank. The Committee likes to put on record the services of the staff of theReserve Bank of India who supported the Committee with all assistances in themeetings. We cannot forget those who from back ground sustained us with delicatedishes.

N.L. Mitra
Chairman,
Committee on Legal Aspects of Bank Frauds

Dated August 31, 2001

1. Financial Fraud and its ugly tentacles : Financialfraud involving public fund is a matter of serious public concern and is anissue of governance. Presently, fraud as defined in the Law of Contract is onlya civil wrong. But financial fraud is far too complicated to be treated merelyas contractual or civil wrong. Of course, if an act of cheating, forgery,criminal breach of trust or embezzlement of funds or manipulation of accounts isinvolved in the fraud, it is an offence.

2. Twofold approach : There has to be two-foldapproach to tackle bank and financial fraud. Firstly, preventive approach tominimize the number of incidents and secondly, prohibitive approach to dealfirmly with incidents of financial fraud.

3. System reform in banking practice : Every bank,financial institution and financial intermediary should be required to developBest Practice Code (BPC) within a time frame and submit the same to theregulator; make effective measures to internalize the BPC in its staff,effectively supervise the fictionalization of the BPC, control and monitorvariation from the BPC, enforce BPC in the use of discretionary power and makedocumentation of the same, periodically review the use of discretionary power,conduct periodical legal system, audit and obtain compliance certificate.

4. Insisting scrupulous following of regulator’sguideline : The job of the regulator is to insist on the compliancecertificate from the institutions on regulator’s guidelines. The degree ofregulator’s supervision and control has to be based on the number of defianceand non-compliance of guidelines and BPC. Growth of NPA must be linked with thedegree of supervisory control and regulation and must relate inversely to futurepower of use of discretionary power.

5. Financial fraud to be defined as an offence : Financialfraud always calls for attention of the people. As a matter of fact, media hasalready distinguished ‘scam’ from ‘fraud’. According to media practice,any act of defrauding the public that involves public fund such as governmentfund, public deposit, public investment, is an act of scam. The definitionattributed to ‘scam’ by media and the public at large, is now worth for thelegislature to recognize. In countries like UK or US, serious fraud or majorfraud is an offence. Financial fraud in which a party commits a fraud by suggestiofalse or by suppressio veri or by culpable negligence, which resultsin loss of public fund or in denudation of public deposit or investment, is amajor fraud, specially investigated by special agency in both UK and USA. InIndia there is an urgent need to attract legislative attention to such financialfraud to be seriously dealt with.

Financial frauds are required to be criminalized with theburden of proof to be shifted on the accused to prove absence of commission offraud.

6. Serious Financial Fraud : A financial fraudinvolving an amount singly or in totality with series of transactions, rupeesten crore or more or causing national publicity and causing wide public concern;or where investigation and prosecution are likely to require high specializedknowledge of financial market conditions; or where cases require legal,financial, investment and investigational skills; or in cases which appear to becomplex to the regulators, banks, capital market or appropriate governments; orcases involving international dimension, can be called serious financial fraud.It has to be treated separately.

7. Separate Investigation authority for serious fraud : Aseparate investigation bureau should be constituted with a Director at the head.The Bureau shall investigate all serious fraud cases (There is now a specialcell in the CBI to deal with economic offences, which is to be made a full bodyon account of increase of such offences and complexity of the fraud.)Similarly,there should be a Committee to constituted by nominees from all financialregulators, such as Banking, Insurance and Capital market to make preliminaryinquiries in the allegations of frauds and advise the regulator whether such actamounts to financial fraud or to deal with such incidence of contractual ortortuous fraud.

8. Who can approach the Bureau : Concernedinstitution, concerned regulator, party suffering from fraud, CentralGovernment, Court or the District Superintendent of Police within whosejurisdiction the offence has been committed and FIR lodged in a police station,may refer the matter to the Bureau if it appears to the party to be a fit casefor serious fraud investigation. The Bureau shall establish in such places asthe Bureau may determine from time to time.

9. Special Court : There shall be a Special Court orCourts constituted to try the cases investigated by the Bureau. Appeal againstthe decision of the Special Court shall lie to the Supreme Court.

10. Search, seize and attachment of properties and funds :The Bureau shall have sufficient number of investigators to be assisted byexperts drawn from banks, insurance, capital market regulator, financial expertsand information technologists appointed by the Bureau for such purpose. Theinvestigator shall have power subject to the permission of the Court to search,seize and attach any fund, account or properties acquired with such funds. TheSpecial Court may confiscate such properties and restore the properties to theinstitutions defrauded.

11. Tracing and restoration of property : Propertiesacquired with amount defrauded can be traced even after conversion and the samecan be attached. The court shall then forfeit the properties and restore thesame to the institution from which the amount has been defrauded. The right onthe restoration shall be date ante, i.e. as if the fraud has notbeen taken place. However, a purchaser or seller in good faith shall obtaincompensation.

12. Statutory Fraud Committee : There shall be a FraudCommittee under the chairmanship of the nominee of the Governor of Reserve Bankof India and one nominee each from SEBI and IRDA. The nominee shall be an experthaving knowledge and experience in banking, insurance, capital market operationand management, finance and management of financial systems. Any affectedinstitution having an allegation against its own employee may either lodge FIRor may refer the matter to the regulator who shall send the matter to theCommittee for enquiry and advise as to whether the case is fit for investigationby the Bureau or to be departmentally dealt with. If any case is referred by theDistrict Superintendent to the Bureau, in such a case the Bureau shall alsorefer the matter for the advise of the Committee.

13. Regular meeting of the Bureau with regulators sharinginformation:

The regulators of the financial market shall periodicallymeet with the Bureau under the chairmanship of the Governor of Reserve Bank ofIndia to share information and review actions taken in bank and financial fraudcases.

14. Special prosecutors : There shall be specialprosecutors appointed by the Government for carrying on prosecution in majorfinancial fraud cases investigated by the Bureau.

1. Draft a Financial Fraud Bill to :

(a) Definition of terms;

(b) Establishment of Financial Fraud Committee with allocatedpowers;

(c) Establishment of multi-disciplinary bureau for investigation of majorfinancial fraud

(d) Power of the investigators

(e) Special prosecutor

(f) Special Court for major financial fraud

(g) Annexure –1 to criminalize financial fraud by amendingIndian Penal Code

(h) Annexure –2 to amend the Indian Evidence Act to shiftthe burden

(i) Annexure –3 to amend Criminal Procedure Code toincorporate provisions for investigation by the officials of the Bureau

2. Preventive aspects to be notified by the regulator though guideline. The same is required to be infused and internalized by periodical motivational training
3. Fraud Committee may be constituted
4. Until the Act is passed, experts from banks, insurance, financial market regulators and finance should reinforce the financial offence investigation cell of the CBI. When the Bureau is constituted, the body has to be multi- disciplinary.

5. The liability of the Auditor is required to be fixed with provision for submission of report with required disclosure to the appropriate regulator.
6. In case of any allegation on account of fraud, the concerned bank and institution may (1) file an FIR with the Police; or (2) refer the matter to the Bureau/CBI; or (3) refer the matter to the Regulator to inquire whether the action of the in-house official was fraud or an act bona fide done in pursuance of business prudence.
7. The regulator may (1) refer the matter to the Bureau for investigation; or (2) refer the matter to the Fraud Enquiry Committee seeking its advice; or (3) refer the matter to the Government for taking appropriate action.
8. Annual report of the Fraud Enquiry Committee and the CBI/Bureau on Financial Fraud should be placed before the Parliament through the Ministry of Finance.
9. The regulator may stipulate time to institutions to draft their Practice Code and submit the same to the regulator to finally approving the BPC.
10. BPC for the discretionary power to be framed.
11. Monitoring strictly the variation where certificate of compliance is not given.
12. Annual legal system audit and compliance certificate to be insisted.
13. Regulator’s guideline must be scrupulously followed.

1.Constitution of the Committee: The Board ofFinancial Supervision of the Reserve Bank of India has, for some time, beenconcerned with the increasing level and complexity of frauds and thedifficulties being faced by the banks. Therefore, at the directions of the Boardfor Financial Supervision (BFS), the Reserve Bank of India constituted aCommittee on Legal Aspects of Bank Frauds in August 2000. The Committee wasconstituted under the Chairmanship of Dr. N. L. Mitra, now Vice Chancellor,National Law University, Jodhpur, with the following members.

1. Mr. Raju Ramachandran, Senior Advocate, Supreme Court, New Delhi

1. Mr. K.S.Ravisankar, F.C.A.; Advocate, Bangalore.

3. Mr. B.H.Antia, Senior Partner, Mulla & Mulla and Craigie Blunt and Caroe,Mumbai
4. Mr.S.N.Sahai, Chief General Manager, State Bank of India, Mumbai
5. Mr. R.V.Iyer, General Manager, Bank of Baroda, Mumbai
6. Mr. M.R.Umarji, Executive Director, Reserve Bank of India, Mumbai
7. Mr.R.M.Joshi, Chief General Manager, Reserve Bank of India, Mumbai.
8. Mr. S.C.Gupta, Legal Adviser, Reserve Bank of India, Mumbai (Member-Secretary).

At the first meeting of the Committee, Ms. D.N. Raval,Executive Director, Securities & Exchange Board of India, Mumbai wasco-opted as a member of the Committee. Subsequently, Shri P.C. Sharma, SpecialDirector, Central Bureau of Investigation, New Delhi and Shri D.K. Tyagi,Director, Ministry of Finance (Banking Division), Government of India, New Delhiwere inducted as Members. Later on, since Shri P.C. Sharma was elevated to therank of Director of CBI and Shri R.M. Joshi was deputed to SEBI as ExecutiveDirector, their places were taken by S/Shri J.C. Dabas, Joint Director, CentralBureau of Investigation and M. Chellikutty, General Manager, Reserve Bank ofIndia, Mumbai, respectively. Shri P.R. Kulkarni, Deputy General Manager,Janakalyan Sahakari Bank Ltd., was associated with the Committee as a specialinvitee.

The Reserve Bank of India (RBI) constituted this ExpertCommittee to examine issues related to fraud and to submit its report by the endof December 2000. In view of the fact, that the Committee wanted to send a teamof the members to UK and USA to examine the legal framework and the procedure ofinvestigating and proceeding the term of the Committee was extended twice andthe report of the Committee was required to be submitted within August 31,2001.

2.The Terms of Reference: The term of reference forthe committee to address itself were as follows:

(a) To define financial fraud and lay down procedural law to deal withfinancial fraud including the need for a special enactment in this regard;

(b) To examine the process of investigation of bank frauds and prosecution ofpersons involved therein and suggest measures for improvement;

(c) To examine and suggest measures to operationalise the recommendations ofthe Narasimham and Andhyarujina Committees relating to legal aspects of bankfrauds;

(d) To examine the need for special provisions for frauds perpetrated bystaff of public sector banks; and

(e) To examine the role of Reserve Bank of India with regard to fraudsreported by banks.

(f) In its second meeting, at the instance of the then RBI Deputy Governor,the Committee agreed to go into the frauds arising out of letter of credit, billof lading and FCNR/NRI deposits accounts, etc.

3.Debate Between Bank Fraud and Financial Fraud:Since the terms of reference for the Committee included two terms, namely, ‘financialfraud’ and ‘bank fraud’ there was a considerable confusion to go for aconceptual clarity. Several issues came up for discussion, such as,

(a) RBI expected the Committee to examine the issues relating to bank fraudsin the light of recommendations of Narasimham and Andhyarujina Committee (ThisCommittee did not deal with bank fraud. The Chairman of the present Committeeand Shri Umarji a member of this Committee were also members of thatAndhyarujina Committee);

(b) Financial fraud may need to be comprehensively definedand it should not be dealt with half way through, specially because allfinancial frauds have somewhere involvement of bank frauds;

(c) Financial frauds relating to capital and securitiesmarket are already dealt with SEBI regulations and hence dealing with allfinancial fraud in this committee would be difficult but gray areas may becovered to regulate areas which presently facilitate commission of fraud.

The Committee was very categorical and clear in its viewsthat fraud as a ‘market foul game’ has to be regulated by the Regulatoraccording to the nature of the work. It was also noted that if there was noregulator in any field of operation of law, it was the matter for the individualto bring the matter before the Court of law under the statutory legal provisionor under the law of tort for seeking legal redresses. Regulators do not have anyrole to play once any act of a person or persons falls within the fold ofcriminal law. It was also noted that a regulator cannot criminalize any act of amarket player by any regulation. Any foul play was required to be controlled orremedied by the Regulations. Criminalisation of an act of a person or persons isabsolutely and exclusively the legislative power of the Union and the State.Naturally mandate of the committee cannot overlap with the functional power ofany regulatory authority. However, the Reserve Bank of India requested thecommittee to advise the Reserve Bank about its responsibility in case any bankreports to the RBI about any fraud caused. So the Committee proposed to advisethe RBI about its role within the regulatory framework as well. It was alsonoted that ‘Financial fraud’, if defined for the purpose of criminalisation,will be is applicable in all cases when the same can be charged under a crime.

4. Fraud: its dimension and typology: The legalposition in respect of frauds has three dimensions, viz., contractual;tortuous and criminal and are summarised as under:

(a) Contractual dimension of fraud: Fraud is defined insection 17 of the Indian Contract Act (unlike UK law, where fraud is not definedand is based on common law practice) for the purpose of a contract and in so faras the operation of the Contract Act is concerned. In such event the contractbecomes voidable. The party suffering from the fraud may terminate the contracton his option. He may also like to continue with the contract. Law providesabsolute option to the concerned party as a special additional right toneutralize the advantage or gain by the party committing fraud. The court mayalso compensate him if he suffers from any damage before terminating thecontract. But he has a burden of proof to show to the court that he wasdefrauded by the other party intentionally according to the definitionalconditions laid down by the Act, that (a) a party having the knowledge of factessential to the contract did not disclose the fact which would have altered thedecision of the other party; (b) or a material misstatement was made knowingthat the statement was false; and (c) that the party intended to obtain afavorable decision from the other party by committing such an act.

(b) Tortuous dimension of fraud: As a civil wrong with inthe parameter of right in rem discourse, fraud covers any action orabstinence, statutory or otherwise, which may cause damages to other. Everyonehas a right not to be defrauded in any situation. So if any fraud is caused onany person in any other situation other than the contractual situation whetherit does or does not fall under any specified crime, the person can bring thematter to the notice of the district court for obtaining remedies. Thus, in anymarket situation, fraud is regarded as ‘foul’ play in the market game and assuch, the regulator may neutralize the impact of the act by (a) penalizing theplayer by giving him warning for minor foul so that he does not dare it repeat(like showing a green card in a soccer game); (b) suspend him from the game; (c)debar him from playing the game permanently; and (d) impose penal compensationto indemnify the person suffering from fraud. For example, if the CEO of a bankhas deliberately violated the financial prudential norm or guidelines inproviding loan for any transaction, the Regulator may remove the CEO. If theregulations so provide, the regulator may even ask him to compensate theinstitution. This Committee has nothing to do with these kinds of fraudrelated issues falling within the domain of the regulatory authorities exceptingadvising the RBI about its role in such a situation.

(c) Criminal dimension of fraud: Fraud as such, is not acriminal offence in India. If any fraud is committed in a bilateral contractualsituation or otherwise whether involving personal fund or public fund, also anact of cheating or if such an act involves impersonation, criminal breach oftrust or criminal conspiracy, or forgery, or falsification or destruction ofdocuments for wrongful gain, or embezzlement of funds, then and only then, suchfraud can be an offence. Big ‘scams’ that often take place in the secondarycapital market by way of ‘price rigging’ or ‘insider trading’ are notoffences. These are ‘foul play’ only. In the next chapter these activitiesare examined so as to see how much gap exists in the substantive criminal law.However, in the example given in the last para, if the Regulator has any primafacie proof that the same act was done with an intention of wrongful gain toone or causing wrongful loss to another, or both, it becomes an offence. In sucha situation, regulator may file an FIR and hand over the matter to the policefor investigation and prosecution. The Committee shall consider how the offencerelating to financial fraud, specially the major ones, can be effectively dealtwith and how these offences are required to be investigated and prosecuted toobtain effective result. Very often, such activity or chain of activities bringslong term and serious impact on the economy or/and adversely affect the interestof the public or interest of the investors. The committee has tocritically look into this area and point out the definitional limitations, ifany, to adequately deal with financial fraud; procedure for expeditiousinvestigation; steps for faster prosecution and judicial institution. If a newAct is necessary for all these, then the committee shall recommend the same aswell.

5. Is there any speciality in a financial fraud requiringa separate treatment? It is important to bear in mind the distinctionbetween a contractual or tortuous fraud and a financial fraud, briefly stated asfollows :

(i) In contractual or tortuous relation, only two parties’ interest is involved. It may be either of the contracting parties in case of fraud committed under a contract or one of the parties whose general interest is subjected to tortuous fraud. But in a financial fraud, interest of a third party or interest of the public is at stake, for example, a fraud involving public deposit, public investment or government fund.

(ii) Parties to the contract or in a tortuous situation having inverse relation each having strict interest to checkmate the other party to prevent commission of fraud but in a financial fraud, the interests of the contracting parties are not necessarily in adverse relation.

(iii) In a contracting situation or in tort, parties to the contract or the party defrauded in a tortuous situation, have the right to move the court to either terminate the contract or obtain compensation. But in a financial fraud, affected people do not have any status in the contract. As such, law has to provide special status to the affected people.

(iv) In a contract or tortuous situation, fraud may not necessarily involve direct financial interest, but in a financial fraud fund is a necessary condition.

(v) Dimension and impact of financial fraud often takes a shape of public concern. So the government has to be necessarily concerned. For example, whenever there is a story of a scam, the government becomes concerned. It disturbs the financial market, if not weaken it. It is the duty of the market regulator and the government to ensure that the market remains undisturbed. So financial fraud involves the public policy.

(vi) In both contractual fraud and criminal cheating by misstatement or suppression of essential fact as an element, is present at the beginning of the transaction. But all frauds do not become cheating mainly because of two issues:

(1) Fraud in contract is for obtaining an additional advantage. So if that additional advantage can be taken off from the party, why should it be called a cheating!

(2) In cheating, a public policy dimension is essential calling the attention of the state. In fraud that public policy dimension is not there in all cases because personal interest are the only criteria.

(vii) Financial fraud may not have suppression of information or misstatement. It may be concerned with deliberate attempt to price rigging in a financial market or playing with inside information to the detriment of hundreds of investors.

6. Methodology of the Enquiry by the Committee: TheCommittee decided to follow both narrative and investigative methods forexamining whether the present criminal law prescription is enough for dealingwith the financial fraud faced by banks and financial institutions. Accordingly,the Committee outlined the following:

1. A comparative study shall be made on criminalisation of financial fraud and dealing with the same in US, UK, Australia and European Community with that in India.
2. Study reports to be placed before the committee by various investigating agencies and the Department of Banking Supervision of the Reserve Bank.
3. Case studies are to be presented by CGM, State Bank of India, General Manager, Bank of Baroda; and DGM, Janakalyan Sahakari Bank Ltd.
4. A field study in UK and US by a team of Committee members to be made and a report on the study is presented before the Committee.
5. Investigational and procedural report is to be presented by CBI.

In pursuance of this, a team of members under the leadershipof Mr. S.C.Gupta comprising, Mr.Sahay of SBI and Mr. J.C.Dabas of CBI visited UKand US and submitted the report before the committee.

7. Job Analysis: While Chapter two of thisreport deals with status of law and practice of Criminal law dealing with fraud,it is appropriate to note the nature of the present law and practice. TheCommittee in its meetings developed two opposite opinions on the adequacy orotherwise of the present realm of law and practice on criminalized fraud. Thefirst opinion is in view of the Narasimham Committee report, which talks aboutabsence of any coherent policy on financial fraud as financial fraud was neverkept in view while defining offences of various kinds under our criminal legalregime. As a result, one-to-one offence of cheating or forgery is dealt with inthe same manner as is done in case of financial fraud. Investigation isone-dimensional and the justice delivery is slow for which reason partiesinvolved get enough time to destroy evidences and siphon all funds. According tothis opinion, this committee is required to examine critically the presentposition in view of the need for protective cover to be provided for thefinancial institutions and banks and embellish the present legal situation byenactment of a new law. The other strong opinion was that there is no necessityof any new legislation. What is required is a multi-dimensional and specializedprofessional investigative system and a fast track justice delivery system.Keeping both these opinions in view, the following issues are discussed.

(i) On the question of intention in a chain oftransaction: Financial fraud is generally committed not merely inindividualized situation. They are committed in a series of contractualtransactions between two parties in which public interest becomes the victim. Anindividualized definition of fraud-driven offence, like ‘cheating’ or ‘forgery’makes intention as apriori condition. Most of the financial fraudscommitted between the contracting parties develop in course of transactions andthe impact on the public interest being the victim is the result of aposterioriaction of the contracting parties. An act of cheating requires an act to be donewith the intention 'up-front’. Intention later on developed inside thetransaction does not make it cheating. There is a typical contradiction intreatment under the Civil and Criminal law in matters of financial fraud. If thecourt finds an accused guilty in a financial fraud case in a contractualsituation, the entire chain of transactions becomes void ab initio underthe present contractual system. In some fraud related offence cases, the elementof cheating is found by the court in later incidents also. It therefore meansthat Courts are inclined to believe that offences relating to fraud can be basedon aposteriori intention. In a chain of contract, the intention at thebeginning might not be to defraud the people but for earning profit in abusiness but it may emerge after several years of contractual relationshipbetween the parties. This is a typical scenario in banking fraud. The question,therefore, depends in all cases, whether these transactions are divisible orindivisible. In the eyes of Civil law, if these transactions are divisible, themoment a transaction becomes criminal, that transaction becomes void andterminated. Unfortunately Indian courts have never gone into this aspect ofrelation between civil and criminal law and did not develop compensatoryjurisprudence though there are a few instances of the same. It is because courtseither deal with criminal law or civil law at a time. Courts do not look at thelegal system as a whole. One of the reasons for the trial courts to be bothDistrict and Sessions court is that courts are allowed to look to the inter-twinof the legal system as a whole.

(ii) On the issue of relationship between the parties tocheckmate each other to prevent fraud: Narasimham committee was right inobserving this definitional inadequacy. Definition given to fraud-drivenoffences, such as cheating, in individualized situation cannot respond to casesof multi-transactional financial fraud situation. There is extremely importantdifference between individualized fraud and financial fraud. In the former,parties to the contract (provided there is a contract) have adversarialrelation, that is one will invariably try to checkmate the other in the rulegame of contract so that the other cannot easily commit any fraud. But in afinancial fraud case, the contracting parties do not necessarily have anyadversarial interest. The aims of both the parties may converge. Thus, in such asituation both the parties to the contract may be willing partners or one cantake advantage of negligence or ignorance of the other. This gives rise to acomplicated situation of conspiracy. Proving criminal conspiracy in theframework of individualized situation is extremely complicated. Added with thesame is the functional co-relation in institutionalized system. It is true thatmodern Criminal law in advanced countries has made corporate entities alsosubject to criminal liabilities. In India we are experimenting in the same linebut not through classical Criminal law that is, through amendment to IndianPenal Code and Criminal Procedure Code. In some cases criminalizing throughbusiness law, say, Companies Act or by Negotiable Instrument Act has backfiredcreating confusion in the administration of Criminal law. Criminal law as amatter of fact, has to attain definitional perfection and at the same timedelimit the area of offence with proper care. Police, prosecution, criminalcourts and the prison are the ones to act in unison to maximise the effect ofcriminal justice.

(iii) Tracing and restoration of the property:Effective application of all the institutions can only ensure efficacy ofcriminal administration of justice. Weakest link in criminal administrationof justice is tracing of the property, especially in a financial fraud case.There has to be special power given to the investigator to trace forwardthe money or properties acquired with the amount defrauded and restoring thesame from where these are taken. Only this can ensure protection to publicinterest and at the same time guarantee individual’s rights. Fraud-drivenoffences prescribed in the Indian Penal Code have definitional limitations in sofar as organized financial frauds are concerned.

(iv) Common law definition of fraud and its inadequacies: TheCommon law definition followed in England is that any false statement ormisleading statement or a statement recklessly made which is false or misleadingin a course of transaction is a fraud. The Criminal Justice Act, 1987 of Englandfollows the same tradition in two ways; firstly, by not defining fraud andsecondly, by adopting a similar common law definition in constituting certainassociated offences related to serious fraud investigation. Therefore, Englishlaw takes the view that fraud in the contract can become serious if it takes apublic dimension. The fraud then becomes an offence. The Act has also notdefined when a fraud becomes serious and leaves the matter to the discretion of SeriousFraud Office(SFO). By way of a convention, SFO hasalready build up a practice of looking into all transactional frauds in whichthe amount involved is more than a million pounds.

It is quite logical to think that any contractual relation,if it is confined in its entire 'rights- duties-obligations,' mustremain confined to parties themselves. In such a case if fraud is perpetrated byany party within the definition of fraud and does not fall into the offences ofcheating or criminal breach of trust or embezzlement of funds, may be dealt withby a civil court for causing fraud in a contract. But any such fraud committedby any of the contracting parties, which involves public money like depositorsfund or investors fund, or government’s fund may be an offence if thetransactional basis exceeds business prudence. As such, a fraud may be committednot only by suppression of essential fact or misstatement as to fundamentalbasis of contract at the beginning of a chain of transactions but may also takeeffect due to access to price sensitive information which may disturb thesecondary capital market to the detriment of millions of investors or may evenby forming a cartel by some market makers for rigging the price. Financial fraudtakes different shape and character. Therefore, it is quite justified todifferentiate financial fraud as a special offence because of the fact thatthere is the element of fraud in the sense of suppression of fact, ormisstatements or playing with price sensitive information in a concealed manneror attempting to rig price in a market where thousands of investors’ or publicfund is involved.

(v) Major frauds: Usual police and court system candeal with cheating or other existing fraudulent minor frauds. But a major fraudtakes such a character, shape and size that it often takes a serious dimensionhaving impacts on economy and administration of justice. As such, in suchtransactions, quicker multi-disciplinary investigation body and special courtsystem may become necessary. Any misstatement or concealment of material fact orrash and negligent act or a statement, which is misleading resulting in thirdparties’ loss, should be a serious matter to be investigated. The incident isnot required to be only at the initiation of the contract. The difficulty isthat business is not a profession in India. No business bodies have taken theresponsibility of defining business prudence either as an ethical standard or asa professional rule and prescribed best practice code and ethical standards. Assuch, suppression of material fact or falsification with or without intention isa common practice in our country. Rash and negligent statements are made withoutverification, which often causes material loss not only to the contracting partybut also to many third parties. Thus, there is a justification forcriminalizing financial fraud falling beyond the purview of cheating andconstitutionally validating serious fraud to be investigated by a specializedagency on the ground of reasonable classification.

b) Evidential Complexity: From the point of viewof law of Evidence, it becomes a challenge to prove (1) multi-transactionalrelations as separable, (2) identifying the causes of separability, (3) provingintention apriori in a transaction so as to make the offence explainableunder the present framework as an individualized offence with only subjectiveproof without requiring any objective analysis. Though 'motive' inCriminal jurisprudence provides the opportunity of objective analysis, alloffences relating to fraud under Indian Penal Code do require no'motive' analysis. It is true that motive analysis is placed sometimesbefore the Court by the prosecution only for the purpose of proving ‘intention’.In a multi-transactional relation, this is the real hurdle. The committee had todiscuss in length the evidential process as well. The Committee was of opinionthat involvement of public fund or third parties investment or deposit orcontribution in any manner requires greater care and higher prudence. Similarlyall the financial intermediaries and financial institutions dealing with publicinvestments are required to prove beyond doubt their financial prudence toestablish that there is no culpable negligence. Therefore, wherever publicfund, public deposit or public investments are involved and amount involved ismore than ten crore and there is any suppression of a material fact or anynon-disclosure of facts or negligence, or playing secretly with price sensitiveinformation to corner the market, the burden of proof should lie on the partyconcerned to prove that the act or abstinence does not have any intention andhence not constitute financial fraud. Similarly if more than one party areinvolved in the act or suppression, the burden of proof should lie on all theparties jointly and severally to prove that there is no criminal conspiracy.Similarly, there should be legal presumption that all amounts deposited orinvested by the party involved or his/her near relations after the commission offraud without any definite explanation, shall be deemed to be a part of thefunds alleged to have been defrauded. Properties acquired in own name or in thename of near relations, immovable or movable, the buying source of which cannotbe explained, would also be presumed to be acquired with the whole or part ofthe amount defrauded.

c) Procedure of Investigation and InvestigatingAgency: The most intricate problem relating to fraud-driven offences inmulti-transactional financial relations between two contracting parties is theprocedure of investigation. The investigation necessarily requiresmulti-disciplinary knowledge along with the expertise in the art and science ofinvestigation. Often in a multi-transactional relation the intention or motiveremains invisible at the time when the caucus is visible. In other words, thevirus has been injected invisibly long back. Sometimes this is not so. Sometimesit is difficult for the investigators to analyze the motive and prepare a mapsheet with motive analysis. The committee therefore devoted considerable time inevaluating the present procedure. Presently the Central Bureau of Investigation(CBI) has a special wing to investigate the financial fraud cases. The cell hasrepresentatives from the banking and financial sector. The way the onslaught onpublic funds and investments has been made in the last ten years is reallyphenomenal. Financial frauds are given a terminology called 'scam' bythe journalists. As a matter of fact ‘corruption’ in the public officeand ‘scam in the financial markets’ are the dreaded impacts of opening ofthe system that eat up all advantages of economic integration. These causeunaccountable misery to the people at large. Unless regulated, these socialevils may explode the public anger and may result in anarchy any moment.

In a Common law system, legislators observe the socialphenomena and recognize such phenomena through enactments. ‘Scam’ has notyet entered into the literature of the legislative system. ‘Scam’ is notdefined nor it is criminalized and therefore any bad name given or a punishmentattributed is not according to the tenor of our present Criminal justice. In theabsence of any definition, the investigators have these limitations forinvestigation. As for example, taking or sanctioning disproportionately largeramount of loan than the security provided is not an offence. Devaluation of thesecurities created in favour of a creditor is also not an offence. Excessivebuying or selling behaviour (being tejiwala or mandiwala) is also not an offencein the absence of any definitional parameter of the behaviour of market players.Sanctioning loan to a debtor in violation of the prudential norm prescribed bythe Reserve Bank of India, by a bank official can at best be a tort even if thebehaviour cannot be explained by any norm of business prudence. Causation ofsuch a tort because of violation of the instructions of the Reserve Bank, whichis law in itself, is also not an offence in the absence of a clear definitionalmandate to the investigators. So the investigators at present have the followinglimitations, (1) absence of clear law; (2) limited access to sectoral knowledgein the team of investigation; (3) limited skill for investigating special kindof financial offences; and (4) the strength of investigating officials being farless than what is needed in a dynamic situation.

d) Inadequate justice delivery system: The Committeeis painfully aware that investment on Justice delivery system in India is poor.Post of Judicial officers are not created, if created not filled, if filled nottrained, if trained no infrastructure is available. If everything is there,there is no trained prosecutor or adequate number of staff or properinvestigators. Input on training and knowledge on Indian judicial officersis either nil or negligibly molecular. The disposal rate though comparativelyhigh in comparison with other countries but 'important' cases continueto pile up. The condition of justice delivery system has become so bad thatforeign parties are afraid of entering into any contract with Indians unlessboth of them agree to abide by the laws of some other country and selectjudiciary of another nation. The situation is really grave in administration ofjustice in financial sector. Proper legal rules are absent. A vigilant brandof judicial officers sufficiently trained in financial systems can make thingsdifferent because India follows the Common law tradition. In England thereis no criminal definition on fraud, yet Serious Fraud Office is establishedunder the criminal law to investigate serious frauds committed in the countryand their implications on the public interest like depositors or investorsinterest. If the impact is very high crossing a definitional threshold, the sameis treated as an offence and prosecution takes place in the usual court ofcriminal jurisdiction. It is true that in advanced countries also jurists talkabout the limitation of definition. What the Committee means to emphasis hereis that a good competent justice delivery system can act as an engine to drivethe financial mobility of a country. The committee therefore spent sometimeon the consideration of this justice delivery system in the matter of financialfraud. It is true that the country is interested to see that parties engaged inmatters of financial fraud are put behind the bar so that their numbers do notincrease. The fear of punishment may moderate their behavior. This is in essencethe center-point of deterrent justice system. But victims of crime in moderndays give more importance to the restoration of their position by way ofcompensation than merely putting persons in jail. People are interested to seethe ill-gotten properties, unaccounted resources obtained through fraud arequickly retrieved and such persons are put to heavy penalty. This is thecore-philosophy in remedies available against tortuous situation. It is truethat tort law in India is not codified but it is also true that regulators arenow prescribing their game rules on specific principles of tort law. Thereforesufficient attention must also be drawn to the tort law for remedying breach of rightin rem of the depositors and investors.

e) Cross-border relationship: With the increasingimpact of global relations, investment flow, recourse to e-banking andcross-border contractual relations, it is quite possible that there shall be aspurt on number of incidence of financial frauds in India. Rule of law is itselfa basic infrastructure in good governance, which includes appropriate game rule,adequate institutions, efficient justice delivery mechanism and immobilizing therogues and ruffians. It also requires induction of knowledge, appropriate skillsand efficiency in output-delivery system. In case this rule of law cannot beensured, it is quiet possible that India may get the worst of globalization andour own capital also may fly. Keeping this in mind, the committee is alsoconcerned with developing adequate game rules to deal with cross-bordersituations in financial frauds with countries having repatriation treaty withIndia.

f) Summary of the task ahead: The tasks ahead are:

(1) Examine how the financial fraud can be defined and brought into an effective criminal justice jurisprudence;

(2) What investigating agencies shall be necessary for effective investigation, tracing and attachment and restoration of the property and prosecution;

(3) What type of justice delivery mechanism should be adopted to have quick and effective justice to investing public;

(4) What effective regulations could be made effective to see that officials taking decisions based on business prudence and bonafide can be protected from unnecessary harassment in cases of investigation and prosecution on account of financial and banking fraud?

(5) How cross-border financial frauds are required to be handled specifically in view of the questions of (i) Foreign judgment; (ii) Foreign proceedings; (iii) Indian Proceedings having foreign players outside the country; (iv) Help of foreign courts; (v) status of foreign and Indian legal representative; (vi) Foreign investigation by Indian investigator; (vii) Cooperation by Indian investigator in foreign investigation; and (viii) Enforcement of court decisions.

8.Suggestions in the basket of the Committee:

In the fourth meeting of the Committee on 15^thDecember, 2001, a draft definition was suggested by Mr.Antia as follows:

'Any person who on or after the appointed day by any statement, promise or forecast which he knows to be misleading, false or deceptive or by dishonest concealment of material facts or by recklessly making, dishonestly or otherwise, any statement, promise, forecast which is misleading, false or deceptive, and induces or attempts to induce another person (a) to make a deposit a sum of money with him or with any other person or (b) to enter into any agreement for that purpose, shall be liable on conviction to imprisonment not exceeding seven years or with fine or both.'

The Committee agreed to seriously consider the definition atthe stage of drafting the statute. The following other suggestions were made bythe members in various meeting of the Committee:

1. Special provisions for frauds perpetuated by staff should extend to banks in general and should not be restricted only to public sector banks.
2. A multi-disciplinary investigative body should be established under the proposed statute with direct accountability to the Parliament. There should be a provision in the Act to define the term ‘fraud’ by the disciplinary body. All bank fraud cases should be referred to the Reserve Bank of India for investigations and it should be left to the discretion of the Reserve Bank to decide whether the cases should be referred to the police for further investigation and filing the case in the court. Audit and inspection department should have cells to report the transactions directly to the Reserve Bank.
3. There must be a Special Court to try financial fraud cases, which are serious in nature. Ordinary criminal courts may try small financial fraud cases. From the Special court, the aggrieved party may take the matter to Supreme Court on appeal.
4. The law should provide separate structural and recovery procedure. The Special court must have criminal and civil jurisdiction. Every bank must have a domestic enquiry officer to enquire about the civil dimension of fraud. Above him there should be an adjudication officer and also a recovery officer to realize the amount and properties subjected to the fraud. The recovery officer should be appointed on the lines of the recovery officer appointed for recovery of debts.
5. A fraud involving an amount of ten crore of rupees and above may be considered serious and be tried in the Special Court.
6. It was suggested that there is a ‘special bank fraud cells’ in the CBI and therefore constituting a separate investigative agency may not be worthwhile. The Committee should also consider the suggestion of the Narasimhan Committee report to have a separate investigation force, which may be multi-disciplinary and having its organization structure like the one established under Customs and Excise Act.
7. The Financial fraud should include in its definition, diversion of fund, kite flying operations and alienation of security furnished to the banks.
8. The auditors and chartered accountants be made professionally liable for issuing false certificates on the financial fitness of the company and such act be treated as abetment to fraud.
9. There must be a provision of shifting of burden of proof upon the accused on the protection of property involving fraud.
10. It was also suggested that agricultural loans and small loans should be kept out of the purview of the fraud act.
11. There should be a separate provision for making the post-loan transfers void and to make provision for tracing up the property on the lines of Transfer of Property Act, 1882 in the proposed legislation.
12. The law must also provide in a separate chapter for trans-border financial frauds.

13. The responsibility of burden of proof is also to be shifted in the case of bank frauds.
14. The diarchic control on co-operative banks be replaced by a one uniform effective system.
15. There must be a separate provision for making the post loan transfer of assets put under security interest without the prior consent of the concerned bank or financial institution void.

9.Highlights of the proceedings: The committee heldsix rounds of meeting.

The first meeting was held on September 30, 2000. Thismeeting primarily discussed about the terms of reference, the methodology offunctioning and analyzing the status report on law and practice relating to bankfrauds. The committee decided to look into the broader framework of financialfraud and examine the issues of bank fraud as a sub-sect. It was nicely put byMr. Umarji that 'in all financial frauds somewhere banks will beinvolved'. It is therefore better to deal holistically the financial fraudand then look to the banking fraud in specialty. The meeting also decided toexamine different types of emerging frauds and also laid down the methodology ofexamining various issues by case study, comparative study with laws of U.S.A,U.K, Australia and some European Countries. The Committee also resolved toconfine itself within the criminal dimension of financial fraud and addressseparately issue of tortuous liability to be handled by the Reserve Bank ofIndia in bank fraud cases as a regulator.

The second meeting was held on December 15-16, 2000.Mr. S.P. Talwar, the Deputy Governor, addressed this meeting. It was alsoattended by Mr. P.C. Sharma, Special Director, CBI. In his address, Mr. Talwarextended the terms of reference by including financial fraud committed in traderelations and payment systems as well as operation of FCNR accounts. Thecommittee agreed to the suggestion of studying eight to ten live cases in orderto understand the size and dimension of frauds committed in the financial world.The committee requested Mr. Sharma to present a report on (a) the profile ofeconomic cell structure constituted as a sub-sect of CBI; (b) a profile on bankfrauds committed in India and ‘investigated by the cell’; and (c)difficulties faced by CBI in investigating financial fraud cases. The committeealso requested Mr. Umerji to give an overview of frauds committed in FCNR/NRIaccounts. In this meeting, several preventive aspects on financial frauds werediscussed. The members stressed the need for development of a best practice codefor banks and financial institutions, internalizing these best practices in thenorms of behavior through motivation and training, both orientation and inservice, developing a legal audit system and submission of compliance reportsspecifically pointing out deviances in rules and the reasons thereof,developments of prudential norms for the in house operation of banks andfinancial institutions and developing a vigilance system. The committee agreedto devote some time for the purpose of laying down essential guidelines forprevention of fraud as advised by the deputy governor. In this meeting, therewere discussions on model definition of financial fraud as proposed by Mr. Antia.By and large the definition was acceptable to the members but the main problemof defining a fraud related offence with a priori intention remains inthe definition. In U.K or U.S.A, a contractual fraud but having implication onpublic deposits or public investments is considered as a ‘serious’ or ‘major’fraud and therefore such an act becomes an offence by virtue of its magnum size.For such a fraud to become an offence, a priori intention is not insistedon account of huge impact on public interest. In U.S such a major fraud happenswhen the amount involved is above ten million dollar. In case of U.K. aneconomic fraud gets the criminal dimension if the public money involved is morethan one million pound. In India we do not have any concept of financial fraudto be criminalized even when the contracting parties are dealing with publicmoney of high volume. Indian legal system makes no distinction betweenindividualized fraud driven offences and financial fraud involving public money.The definition proposed by Mr. Antia does not materially change the position.The committee agreed to further consider the possibility of fine-tuning thedefinition proposed by him.

The committee also devoted considerable time for designing anappropriate investigating institution. There were two opinions firstly, thatfinancial fraud, having regard to its intricate involvement concerning financialtechnique, banking and financial institutional machinery, money and capitalmarket involvement, it is desirable that this ought to be multi-disciplinaryinvestigating agency. The second opinion was that regard being had to specialfinancial investigating cell in CBI, no new institution was needed. It waspointed out that this cell draws experts from banking and financial sectors. Themembers ultimately came to the conclusion that a separate institution willbetter serve the cause on account of involvement of CBI in multifariousactivities and that it would suggest a separate multi-faculty investigativeinstitution to deal with financial frauds.

The meeting also discussed at length about the necessity ofhaving a separate Act to deal with financial and banking fraud in the line ofCriminal Justice Act, 1987 of England. This Act, incidentally, established theSerious Fraud Office in England to investigate into all incidences of seriousfrauds.

The third meeting was held on January 20, 2001. Inthis meeting, the members of the Committee expressed the view that the IndianParliament has legislative competence to create financial fraud as a federaloffence applicable through out the country. In so far as creating a new agencyfor investigation by the Indian Parliament it was felt that there is noConstitutional barrier. Even at present, the Court can allow anyone toinvestigate. The judiciary is relying now more on the investigation by CBI inalmost all variety of cases. Besides Entries 8, 45 and 48 of List I of ScheduleVII of the Constitution relating to Parliament’s legislative competence onCentral Bureau of Investigation and investigation, banking; stock exchanges; andfuture markets provide for the competence of the Union Government to make lawfor prescribing financial offences and providing for investigative machinery.The Entry 1 of List II of Schedule VII of the Constitution of India deals withpublic order, which is concerned with offences that violate public order. It wasnoted that there is no item in these two, which deals with investigation as thesubjects of investigation of the Union List. The Police power to investigateoffences is provided in Section 156 of the Criminal Procedure Code, 1973 whichdeals with enquiry into the offences under their jurisdiction with or withoutthe warrant from the Magistrate, depending upon the cognizable or non-cognizablenature of the offence. Therefore, the members felt that there was no reason whyParliament cannot provide for creation of financial fraud as an offence andprovide for multidisciplinary institution for investigation. By way ofreference, it was pointed out that the Enforcement Directorate or the Customsand Central Excise force have been constituted with investigational power. Also,investigation has been not accorded to the State Police force by way of anyConstitutional provision. So the Parliament can prescribe new offences under theIndian Penal Code or any other Act and can establish specialized investigationagencies.

In this meeting case study reports were presented by Mr. P.K.Sarkar, Deputy Managing Director and CFO of State Bank of India. As a fall outof the presentation, several matters relating to prevention of fraud came up fordiscussion including inter alia (i) in house operation to legalcompliance and certification process; (ii) development of best practice code forobservance of prescribed and professional code; (iii) in house watchdog; (iv)information networking between the member banks; (v) codification of standardaudit practice on fraud and error; (vi) fraud defense networking; and (vii)special program for developing auditor’s consciousness on fraudulenttransactions in banks and financial institutions. The special importance infraud related issue is timely intervention. If it is timely intervenedsubsequent actions can be brought under new offence as has been done in theCriminal Justice Act, 1987. But if one loses the time the virus of fraud maycompletely destroy the evidential system.

The role of internal staff of a bank in financial fraud wasalso examined in the meeting. The role of the staff can be divided under threespecific heads. (1) Action taken with due diligence and in good faith; (2)Action taken negligently without regard to due diligence and (3) Transactionsconducted in collusion. The case studies presented by Mr. Sarkar vividlyexplained that financial and banking frauds could not be accomplished withoutthe participation of an internal staff. Frauds are committed usually in any oneof the following ways – (I) preparation of letter of credit (LC) far in excessof the sanctioned limit, (ii) establishment of LCs in favour of associateconcerns; (iii) sale of goods under an LC, in transit and diversion of saleproceedings; (iv) drawings on cash credit account beyond sanctioned limit; (v)diversion of funds; (vi) removal of stocks and securities; and (vii) nonrealization of receivables.

In an empirical study in Bangalore by a group of NLSIUscholars it was found that (a) most of the grass root level workers of banks arenot conversant with RBI guidelines, instructions and directives; (b) grass rootworkers also not conversant with management of Non Performing Assets; and (c)most of the banks do not have their own standard of prudential norms, bestpractice code and any system of in-house study regarding legal compliance. Inthe Staff training these issues are required to be highlighted, skills providedand attempt to build up due diligence code inside the organization. Motivationtherefore is very low. Staff concerned with FCNR accounts were found wanting intheir knowledge about the Reserve Bank’s governing principles and standards. Therefore,this committee feels that equal importance must be given, if not more to theconstructive and preventive side of the financial management to save the systemfrom fraud. The committee therefore emphasizes, (i) orientation training coursesfor each staff at the time of recruitment and also at the time of promotionin order to understand the due diligence to be practiced on the desk; (ii)development of best practice code by every bank and financial institution forits own staff to make both internal and external evaluation of the staffperformance; (iii) distribution of RBI and bank management guidelines,directives and instructions to every staff including the security staff; (iv)establishing an in-house legal compliance certification process to be enforcedfrom each desk and specially from each management category staff making thestaff accountable; (v) a reporting system to be introduced for making eachvariation from the norm, guideline, best practices and directives to thewatchdog committee within a reasonable time of a decision taken in defiance tothe guidelines, instructions and best practices; (vi) a critical auditing systemto all credit transactions over a stipulated amount and documenting essentialinformation about the customers for regular review; (vii) initiating motivatingprogram for development of knowledge to critically appreciate fraud methodologyby the auditors; and (viii) last but not the least, ensuring best practices tobe followed in each desk for asserting rule of law in financial management. Lawand legal principles are required to be internalized by each staff instead ofentering into some contractual relations in ignorance of the legal system andthen creating problem for the financial institutions.

The fourth meeting of the Committee was held on February 24,2001. In this meeting Mr. Dabas of CBI presented a report on bank fraudsprepared by the CBI. Mr. Dabas explained that in the majority of the financialcases, prosecution is based on the charges of cheating, criminal breach of trust(when there is trust relationship existing between the operator and thebeneficiary), forgery and criminal conspiracy. According to him unless the malafide intention could be established at the beginning of the transaction, itis not possible to submit the charge sheet. Non-observance or non-compliance orviolation of instructions and guidelines of the regulator by the accused couldbe at best one of the grounds of establishing mala fide intention butcould not be enough ground for ipso facto a charge. It was thereforepointed out by Mr. Sahai, a member of the Committee that intention of the partyis the important factor and not the quantum of loss suffered by a bank. Theopinion immediately highlighted the drawback on account of the definitional gapbetween civil law and criminal law on complicated issues like financial fraud.Here the beneficiary enriching without any cause does not have the burden ofproof to show how such enrichment has been caused. It is the responsibility ofestablishing beyond doubt by the prosecution that the person had the intentionto enrich at the beginning of transactional relationship entered into. In manyof the offences relating to person the action presupposes the intention. Aperson attempting to rape commits the offence without any requirement of a proofthat he intended to do so. In India, the first Law Commission while attemptingto draft the Indian Penal Code deliberately avoided the concept of mens rea.The reason is also explained in the first and second Law Commission reports inwhich it was pointed out that the structure of the Indian society, as it was,warranted stricter criminal law principle than what was obtained in England.Unfortunately the Indian judiciary did incorporate the whole philosophy of mensrea in Indian Criminal jurisprudence. It has been done throughinterpretation of some of the definitions provided in the statute like, ‘fraudulently’,‘dishonestly’, ‘intentionally’ etc. The definition was givenspecifically to these terms for the purpose of Indian judiciary not having theneed to incorporate the Common law philosophy of mens rea. It protects anindividual making an aggression against the rights of public depositors, publicinvestors and financial institutions. Naturally they are the sufferers in thepresent legal system both on account of delay as well as on account of defaultin the codified criminal law.

The Committee also discussed in details about the task of themanagement of the banks and financial institutions on account of involvement oftheir staff. Theoretically contractual liability and tortuous liability can bereposed on the entity through vicarious process. But it is not so in the case ofcrime. There was of course long debate on employer’s liability to meet thelaws due to employee’s indulging in crime. In the Common law such a questionis resolved in two ways. Firstly, everyone has a right not to be defrauded whichis a right in rem. Violation of this right happens to be a tort.Therefore, employer is liable for the act of the employee to compensate thethird party.

Secondly, an insurance product can be created for riskproportionalisation and indemnification through the collection of premiums fromthe entire community of depositors or investors and meeting the claim of thosewho suffer from financial fraud. The management can retrieve their sustainedloss in the case of tort through regulatory mode of prescribing regulationsmaking the staff liable to be penalized by the authorities in the event ofviolation of norms. From various presentations it was very strongly felt thatpublic sector management generally take the regulatory mode with impunity inorder to be good to the erring staff. It could be because of unlawful militancyof trade unionism, which indulges in-group demonstration to save their comradesin default. One can sympathize with such management practice but cannotaccept the standard. Anarchy in the nucleus could completely destroy the system.Therefore, anarchy at any stage cannot be supported. Anarchy in themanagement is far more treacherous than the anarchy amongst the staff. It is notonly the question of capability but it is also the question of character. Afinancial institution and a bank is in itself an SRO. The regulatory authoritystrengthens it further. In between these two organizations what is required tobe ensured is that best practice norms are evolved and practiced by each andeveryone. The regulators have to assure that anyone who indulges in normsbreaking is quickly immobilized and ultimately weeded out. An active andvigilant SRO can minimize financial fraud to occur.

There was a debate on the prosecution of the staff. SRO hasalso to look into the affair and completely rule out participation of its stafffrom an act of crime. No innocent staff should be harassed but at the sametime no offender should go out of the clutch of the criminal law. Therefore eachSRO must have in-house investigator. If the SRO is convinced that the othercontracting party is absolutely responsible for the fraud-driven offence and itsown staff acted absolutely on due diligence and bona fide belief, the SROmay submit its in-house investigation report to the regulator and the regulatormay take steps to see that such officers are not harassed in the case ofinvestigation.

The meeting also discussed the problem in interpretation ofthe legal system. If the employee acted honestly and prudently without anydeviation and following all norms there may not be any complication, though theregulator is put into the shoe of the judge. This itself is an objectionablestep. A regulator cannot be a judge. More complication could arise when thestaff is negligent. When this negligence is culpable, it is a matter to bedecided by the Judge and not the regulator. It is therefore advisable for bothSRO and the regulator to allow the investigating authority to investigate andcollect all evidences from the SRO and the Regulator to show that the staffconcerned does not have participation in the offence either through conspiracyor aid and abetment or by way of culpable negligence. However any act done ingood faith with due diligence shall have to be protected by the statute with aprovision that officers holding the charge of a contractual relationshipcontested in a financial fraud case can be proceeded against only with theapproval or prior consent of an authority of the regulator.

Mr. P.R. Kulkarni presented a detailed study report on fraudscommitted in Co-operative Banks. According to him unsatisfactory level ofcaliber of the employees, lack of expertise, absence of vigilance set-up orpreventive deterrent further the cause of fraud in the Co-operative banks. Ithas also been narrated how co-operative banks are allowed to play with politicalinterference and unprofessional management. Mr. Joshi explained the dichotomyprevalent in the regulatory system of co-operative banks. According to him thesupervisory dichotomy is because of the regulatory control of RBI and ownershipand control of the State Government through the Registrar of Co-operativesocieties. It was suggested that a unified regulatory system must ensureefficient management of funds. Otherwise the Committee apprehends that biggerfrauds may now come through ill-managed co-operative banks.

The meeting also discussed about an outline draft of a Billand suggested that the Bill had to contain definitions like adjudicatingauthority, appellate authority, attachment, financial transaction, financialintermediaries, proceeds of fraud, inter-connected transactions, officer indefault, aiding and abetting fraud, financial fraud and banking fraud. Thereshould be an establishment under the Director General of Investigation offinancial fraud. The office must have power to draw officers from stockmarket, financial market, banks and other financial institutions as also fromthe police staff for investigational purposes. A cabinet sub-committeecomprising the Prime Minister, Home Minister and the Finance Minister couldselect the DGIFF. The Director General must have an investigating authority inthe form of a committee under his chairmanship composed of a nominee each of theGovernor of RBI, Chairman, SEBI, Ministry of Finance, Ministry of Home Affairs,nominee of IRDA and two independent experts drawn from organizations like CBIand Central IB. The investigators must have the power of investigation underCr.P.C and enquiry under C.P.C. In view of this peculiar nature of bankingbusiness there must be a sanctioning authority for prosecution on major frauds,which may be constituted by the RBI. Each investigating team must havemulti-disciplinary framework.

The fifth meeting was held on May 19, 2001. In thismeeting the delegates comprising Mr. S.C. Gupta, Mr. Dabas, Mr. Sahai placedtheir accounts on their visit to U.S and U.K to study the regulatory andCriminal justice system in so far as financial and bank frauds are concernedwith. They explained how U.K had an open-ended definition of fraud and left thematter to the honest discretion of the SFO and the Crown’s Court. Theexperience of civil society’s participation in the fraud management network inthe U.S was a novel experience. The Committee made detailed suggestions and alsoopined that existence of hard evidence could be the only good protection forproceeding against honest officers, but in case of any doubt; honest officerswere not proceeded against.

The meeting again discussed about the position of officers infraud related cases. Mr. Umerji’s argument of ensuring the system where frommere deviation of norms or on the doubt of negligence a bank official ought notto be harassed was well appreciated for the purpose of defining a fair-trialsystem.

The sixth meeting was held on June 23, 2001. In thismeeting the Chairman presented the draft of the Report of the Committee as alsothe draft illustrative Bill prepared by Shri Antia. While presenting the Report,the Chairman referred to the complexities connected with evidence mechanismfollowed by the common law judiciary. The draft Report also contained thediscussions undertaken by the Committee and the status report of the fraudrelated legal systems prevailing in India. It also contained a comparative studyof US and UK law as also the principles adopted by the European convention onhuman rights. The draft Report also elaborately discussed the functions ofSerious Fraud Office in UK. It also proposed the classification of frauds intoserious and other frauds. Thereafter the Committee deliberated on draftlegislation prepared by Shri Antia. It was decided that instead of Preamble, thedraft Bill would provide an extended title. At the instance of the members ofthe Committee, it was agreed that the provisions relating to shifting of burdenof proof, appeal to the Supreme Court, authority under the Act to investigateand the non-bailable and cognisable nature of the offence would also be broughtinto the Act.

1. Jurisprudential test of a good legal system: Thecompetence of a government to tackle financial fraud is in doubt not only inIndia but also throughout the common law countries. Lord Ruskill’s Committeemade 112 recommendations for tackling the financial fraud in England. Based onthe Committee Report the Serious Fraud Office (SFO) was established in 1988. TheCommittee Report, however, did not look into the philosophical basis and thecomparative strength and weakness of the Common Law System and the Civil Lawsystem.

In any legal systems, the following characters determine theeffectiveness and efficacy of the legal system:

1. Certainty, clarity and definiteness of legal propositions;
2. Predictability of decisions;
3. Procedural equality in the rules according to principles of natural justice;
4. Appropriate institutional certainty and regulatory authority;
5. Definite imperatives, both moral and physical; and
6. Efficiency of the dispute resolution system based on proportionality to time, space and motion

It is therefore necessary for any law reform exercise to testthe legal propositions suggested in the context of the above characters. It maybe pointed out that the post 1956 syndrome of legislative process in Indiacannot pass any of the above tests. Legal propositions are not understood by thepeople for whom these are meant. There is no certainty in the legal system bothon account of incompleteness and superfluous provisions. Legal propositions arefar too complicated to have clarity. There is a high degree of proceduralcomplexity and uncertainty. Sometimes appropriate authorities are not designed.If there are authorities, training learning device is not appropriately planned.Procedure of sanction is too poor and complicated. It is necessary therefore toexamine the appropriate legal structure and test the same according to the aboveneeds.

2. The Concept of Fraud in Common Law

Fraud as a concept not only involves criminal but civilliability as well. In legal parlance, a mere false statement cannot be said toamount to fraud. Fraud is said to be committed when one person causes another toact on a false belief by a representation, which she/he does, not believe to betrue. Thus a person may not have definite knowledge or belief that a particularstatement is not true.

English law incorporates the principle of fraudulentmisrepresentation as a ground for recession of a contract or a bindingtransaction into which the parties was induced to enter. In Derry v. Peek,it was stated that fraud is proved when it is shown that a false representationhas been made either knowingly, or without belief in the truth, or recklessly orcarelessly, whether it be true or false.

A fraudulent contract or transaction is voidable at theinstance of the party suffering from the fraud or misrepresentation. Theremedies available to that party who has been fraudulently induced to refrainfrom entering into a contract, extends to a claim for damages. In case themisrepresentation is such that a person is induced to enter into a contract, therepresentee can file an action for damages or repudiate the contract. Therepresentee may also institute proceedings for the recession of the contract ortransaction, or set up the misrepresentation as defense to any action orproceedings instituted for direct/indirect enforcement of the contract ortransaction.

As far as criminal liability for fraud is concerned, thereexists a significant linkage with the concept of deceit. English statutory lawfails to provide a definition of the offence of fraud. Stephens however providesa classic definition of fraud, which consists of the following two essentialelements: first, deceit or an intention to deceive or in some cases meresecrecy; and secondly, either actual injury or possible injury or anintent to expose some person either to actual injury or to a risk of possibleinjury by means of that deceit or secrecy.

Deception forms a very important part of the definition offraud. Deception in this context induces the victim to act to his own detrimentand to the deceivers profit. A deception may also be fraudulent in the absenceof an intention of leaving the victim financially worse off in the long run. Itis sufficient that the deception induces the victim to take a risk which she/hewould not have otherwise taken. In the context of financial fraud, this mayinclude a situation wherein a company falsely projects its market valuation, inorder to attract investors to invest in the same. In the context of conspiracyof defraud, it had been held that this element of deception stands proved if itcan be shown that the conspirators had the intention to defraud, irrespective ofthe outcome.

As has already been stated above, deception may induceconduct of a particular nature. For example, by fraudulently representing to abank official, a person may manage to transfer funds from someone else’saccount to her/his own.

Apart from deception, fraud in common law may also becommitted by evasion of statutory prohibitions. Thus in a case where a personsmuggled goods without encountering a customs officer, it was held that eventhough there was no element of deception, fraud could be said to be committedbecause the smuggling had been done in violation of statutory prohibitions. Hereagain the principle that it is objective of the fraudster and not the methodsemployed by her/him is important, is reiterated.

In the context of organized crime such as financial fraud,the offence of conspiracy to defraud is also important. At common law it is inindictable conspiracy for two or more persons to agree to act unlawfully, andfor this purpose it is unlawful to defraud a third party. The offence ispunishable with 10 years imprisonment. In order to prove conspiracy to defraud,it is important to show that the prejudice caused to the victim was intended tobe caused by the conspirators, that is either it was their purpose or at leastthey knew this would be the effect of what they had agreed to.

The issue in the case of transnational crime however is thatif the conspiracy took place outside the territory of a country, then where mustthe alleged offenders be sued? The Whisky label case created someconfusion in this regard. In this case, the respondents had agreed to produce,label and distribute bottles of whisky in such a way that at the point of salethey could be passed off as a well-known brand. There was no question of theconspirators themselves selling the whisky to someone else. The court expressedthe view that this was a conspiracy to defraud the purchasers, but since theoffence was to be committed in Lebanon, the prosecution could not frame theabove charge. This judgment has been criticized on the basis that theconspirators here had also intended to cause damage to the company by sellingproducts fraudulently under its name, and that since the company was an Englishcompany, the jurisdictional problems could have been overcome. Subsequent caseswhich held that if the object of a conspiracy is to defraud within thejurisdiction then it is no bar to a prosecution that everything done inpursuance of the agreement is done elsewhere: it is enough that the partiesultimate intention is to defraud within the jurisdiction.

Since intention forms a very important part of criminal lawjurisprudence, the test must be the core intention of the offender. Applyingthis logic the Whisky label case seems to be correctly decided. This is becausethe main intention was to defraud Lebanese purchasers, and hence it was rightlydecided by the court that due to jurisdiction problems the offence could not bepunished. Common law thus has wide confusion and uncertainty in formulating thebasic legislative framework as to what is a financial fraud, which ought to becriminally treated.

Though followers of Bentham were bent upon experimentingutilitarianism in the prescription of Indian legal system right from the days offirst Law Commission headed by Sir Macauley, the codification of Indian laws wassystematically based upon the British Common law system. Fraud simpliciterdid not find its place in the definition of any offence in the Indian PenalCode, 1860. Of course, following the Common law structure, some definitions andsome offences were culled out from the realm of fraud. A person is said to do athing fraudulently, under this Act, if he does the thing with the intent todefraud but not otherwise. Such a definition doesn’t take us far except thatintention is the key factor in acting fraudulently. The Roman law of suggestiofalsi and suppresio vari also has the element of intention but anyonesuggesting falsehood with intention of suppressing truth deliberately where itis needed to be expressed, commits only a civil fraud. Naturally, any actfraudulently done is not an offence. The fraud becomes offence when it becomescheating. Whoever, by deceiving any person, fraudulently or dishonestly inducesthe person so deceived to deliver any property to any person, or to consent thatany person shall retain any property or intentionally induces the person sodeceived to do or omit to do anything which he would not do or omit if he wasnot so deceived, and which act or omission causes or likely to cause damage orharm to that person in body, mind, reputation or property, is said to'cheat'. The other fraud-driven offences are cheating byimpersonation, breach of trust by a clerk or servant, breach of trust by apublic servant, banker, merchant factor, broker, attorney or an agent, forgery,making of a false document, forgery of valuable security, will, etc., forgeryfor purpose of cheating, using as genuine a forged document.

(1) The office bearer of a Stock Exchange having someconfidential and price sensitive information about a company passes on theinformation to one broker to take his position in the market causing a sharpfall in the price of shares. This is a financial fraud by way of insidertrading.

(2) A company having raised its capital by public issue hasnot commenced business and is not traceable for any response to theshareholders. This is a financial fraud by a vanishing company.

(3) A person took project finance from a Bank creating asecurity interest by hypothecating its plant and machinery. The companyafterwards transfers the plant without the permission of the Bank. This is afinancial fraud by suppression of fact.

(4) A person having taken credit from a bank on the securityinterest of charge being created on inventories, described as sealed tinscontaining mustard oil, replaced the goods with ‘tins with Ganga water’.This is a financial fraud by misstatement.

(5) A person floats a scheme for tripling money and raisespublic fund and vanishes with the amount. This is a financial fraud by cheating.

(6) A person opens a letter of credit on goods on transit byship and transfers the goods on the way and taken the consideration without theinformation being communicated to the banker. This is a financial fraud bysuppression of fact.

(7) A person opens a FCNR account with a power of attorneyfrom an NRI and uses the same as the security interest on his overdraftborrowing. Money is removed from the overdraft account to another bank. This isa financial fraud by way of suppression of fact and misstatement.

(8) A person in debt intentionally doing an act for makingthe creditor unable to realise his credit, is a financial fraud by a fraudulentact.

(9) A plantation company collecting contributions from public with a promisethat after twenty years a contributor of rupees one thousand would be paidrupees one lakh being the value of the contributor’s teak plant allocatedagainst his contribution, not found doing any plantation work at all or doing asham work for a show, is a financial fraud by a false promise without havingintention to perform.

(10) A company promising a time sharing resort and raising public fundwithout taking any step for the project implementation within a reasonable timeand not informing the participants as to the cause of delay or not having anyintention to perform the promise, is a financial fraud by fraudulent intention.

(11) A banker violating the guideline of the bank or of theReserve Bank without acting prudently and sanctioning the loan with an intentionof making a wrongful gain or providing an opportunity for gaining wrongfully bythe debtor or causing a wrongful loss to the bank commits a financial fraud byfraudulent action.

(12) Any act of price rigging in the Stock Market is an act of financialfraud by a fraudulent act.

(13) A debtor creating security interest on stocks and sharesat the market value and thereafter playing with the intention of reducing thevalue of those shares in the share market commits a financial fraud byfraudulent actions.

(14) An act, which in the event of insolvency or bankruptcymay be considered as fraudulent preference, is a financial fraud.

(15) A person transferring any fund from one account toanother account by means of electronically operated system without properauthority, commits a financial fraud by fraudulent means.

(16) One or more interlinked Overseas Corporate Bodies (OCBs)from any foreign land specially through Mauritius (tax haven) route generatingforeign investments for the purposes of playing in the stock market through abroker without any disclosure in order to rig prices, is a financial fraudbecause of malafide fraudulent intention.

The above are some illustrations of financial fraud. No onecan imagine and prepare an exhaustive list of financial fraud. It depends uponhuman ingenuity and therefore methods and manners may take complicated routebased upon the intelligence of the people who do it. Unscrupulous butintelligent financial giants resort new devices for committing financial fraudand siphoning money at the cost of the people. They take all the facilities of asoft state having uncertain legal process and a lenient or corrupt government.The illustrations above are only few instances taken from various case studiesand reports just to explain the varieties in the methodology of committingfinancial fraud. The essential conditions are not very different. These are, (a)misstatements, non-disclosures, suppression of fact, using asymmetry ofinformation as a method of wrongful gain; (b) a fraudulent intention of wrongfulgain inflicting wrongful loss; (c) siphoning of public money like governmentfunds, investors’ funds or public deposits.

Bank frauds have been a cause for concern for the financialsector of many countries. The Reserve Bank of India, in exercise of itssupervisory powers vested with it, has been focusing on the bank fraudsperpetrated by staff and outsiders. The Reserve Bank of India has identified thefollowing as fraud-prone areas.

1. Deposit Accounts
2. Issue/Payment of Demand Drafts and other Transfer Instruments
3. Discounting/Purchase of Telegraphic Transfers
4. Letters of Credit/Guarantees and Co-acceptances
5. Investments
6. Credit Portfolio
7. Other Common Frauds.

The majority of frauds committed are through deposit accountslike Savings Bank, Current and Overdraft/Cash Credit, wherein there is afacility to withdraw cash either by cheques or withdrawal slips. The frauds aremost likely to be perpetrated through:

1. Opening of accounts in fictitious names and then withdrawing therefrom the proceeds of cheques, drafts, etc. deposited therein. Moreover, some people open fixed deposit accounts in several fictitious names or in names of persons not liable to pay income tax and arrange of loans or overdrafts against the security of such deposits;
2. Fraudulent withdrawals from properly opened accounts; and
3. Manipulations in accounts.

The Reserve Bank of India has suggested some safeguards toprevent these kinds of frauds. These are specified below.

1. Opening of accounts and monitoring of new accounts – the opening of accounts should be personally monitored by the Branch Manager or the Officer-in-charge (in bigger branches). Due importance should be given to procedure of introduction in preventing the opening of accounts by undesirable persons. There must be a gap of at least 6 months between the time an introducer opens his account and the introduces another prospective account-holder to the bank.
2. Joint Accounts – banks should examine every request for opening of joint accounts very carefully. The internal control and vigilance machinery should cover the opening of joint accounts.
3. Accounts of Bank Employees – the accounts of the employees should be maintained in separate ledgers. All transactions relating to employees, by way of deposits, advances, collection of proceeds, etc. should be subjected to strict scrutiny, taking into account the cadre of the employee as also the volume and size of transactions.
4. Dormant accounts – the deposit accounts which have not been operated upon over a period, of say two years, should be segregated and maintained in separate ledgers.
5. Operation of Accounts – there are two areas in the operation of accounts where caution is to be exercised.

1. payment of cheques: due caution must be exercised in the verification of drawers’ signature, custody of specimen signature cards, supervision over issuer of cheque books and control over blank cheque books/leaves. The banks should also consider fixing suitable ceilings beyond which no cash withdrawal should ordinarily be allowed, unless the account holder himself is personally present to withdraw the money.
2. Balancing of ledgers: the system of balancing ledgers periodically by persons other than the ledger keepers and the exercise of appropriate supervision will go a long way in prevention of unauthorised entries in customers’ accounts.

1. Cheques, drafts and other instruments sent for clearing/collection

The types of frauds in this category are:

1. Collection of an instrument in the accounts of a party other than its payee.
2. Withdrawal of full amount before realisation of proceeds and subsequent failure of the party to make good the amount of the instrument is received back dishonoured.
3. Failure to send the instrument to the drawee branch.
4. Destruction of the instrument while in transit or at the drawee branch.
5. Availing the ‘withdrawal against clearing’ facility against instruments known to have been drawn without funds.
6. One party and its associate or two different parties having accounts in two branches indulging in transactions mentioned in (v).
7. Unused cheques returned to banker shall be destroyed.

1. Monitoring of Deposit Accounts – the fraud here involves cash withdrawals for large amounts.
2. Precautions in respect of opening of accounts and issue of cheque leaves to customers/employees.
3. Irregularities in NRE/FCNR deposits
4. Deposit accounts in benami or fictitious names
5. Benami transactions by branch manager of a bank
6. Misuse of banking channels for violation of fiscal laws and evasion of taxes.

Instances of the payment of forged or altered drafts and mailtransfers continue to be high and a matter of concern. The precautionarymeasures, which should be taken to prevent losses on account of fraudulent issueof these instruments, are indicated below:

1. Blank demand draft and mail transfer forms should be treated as security items and branches should take adequate safeguards against their pilferage.
2. Banks should exercise abundant care and caution in the design, printing etc of the draft forms.
3. Banks should supply all their branches with devices like pin point typewriters or protective cheque writers.

1. Administrative measures for prevention of frauds

1. Recruitment of officers should be carefully verified;
2. All employees handling various duties should be made aware of the essential safeguards, which should be observed in the discharge of those duties;
3. The duties and responsibilities of employees should be clearly laid down;
4. The principles of dual custody and not allowing any voucher, register, ledger to remain unchecked by a higher authority should be observed at all times;
5. Banks should take steps to transfer their officials at reasonable intervals and insist on their going on leave periodically. The retention of official continuously at the same branch in charge of the same portfolio had been a contributory factor in the perpetration of frauds;
6. Checking on the life style of employees;
7. Disciplinary actions;
8. Maintenance of security items, records, etc;
9. Educating the public; and
10. Strengthening the machinery of internal controls.

Additional measure of internal control for safeguarding bank’sinterests in the following cases:

1. Balancing of transactions relating to clearing of cheques, drafts, etc.;
2. Books of instructions;
3. Material alterations in a cheque – if the bank is convinced that fraud has been committed by its staff towards any constituent, it should at once acknowledge its liability and pay the just claim instead of unnecessary litigation;
4. Prompt communication of contents of Reserve Bank’s circular to branches and other offices;
5. Furnishing of opinion reports on borrowers;
6. Safe custody of specimen signatures of officers;
7. Regulation of the issue of blank cheques by banks;
8. Grant of advances against third party deposits;
9. Fraudulent encashment of foreign currency;
10. Periodical balancing of books;
11. Setting up of audit committee of board of directors;
12. Frauds in FCNR/NRI accounts;
13. Fraud by parties promising to arrange for large deposits;
14. Credit monitoring system; and
15. Grant of advances to a Group of concerns by several banks.

Frauds can be classified into the following:

1. Misappropriation of cash tendered by a bank’s constituents and misappropriation of cash in remittances.
2. Withdrawal from deposit accounts through forged instruments.
3. Fraudulent encashment of negotiable instruments by opening an account in fictitious name.
4. Misappropriation through manipulation of books of accounts.
5. Perpetration of frauds through clearing instruments.
6. Frauds in demand drafts – issue and encashments.
7. Misutilisation/overstepping of lending/discretionary powers and non observance of prescribed norms/ procedures in credit dispensation.
8. Opening/ issue of LCs, bank guarantees, co-acceptance of bills without proper authority and consideration.
9. Frauds in foreign exchange transactions through non adherence of RBI’s prescribed norms and procedures.

The modus adopted for perpetrating bank frauds continued tobe (a) opening of new fictitious deposits accounts by persons not properlyidentified by the bank followed by deposit of fake/stolen/forged instruments insuch accounts and immediate withdrawals of the proceeds, (b) submission of falsestock/financial statements to avail of finance, (c) clandestine removal of goodshypothecated and siphoning of sale proceeds, (d) acceptance of deposits bothResident and Non-Resident through middlemen and thereafter allowing/availing ofoverdraft against fraudulent discharge of these deposits receipts by forgoingpower of attorney and loan documents of third parties who were also not properlyidentified, (e) raising of accommodation bills, (f) kite flying, (g)manipulation in outward/inward clearing, (h) raising unauthorised debits onnominal heads of account, (i) manipulating and tampering with the books ofaccounts by passing unauthorised entries, (j) sanction of one time ad hoc creditfacility to non-clients, (k) issue of letter of Credit, Bank Guarantees withoutrecording in the branch books, (l) issue of pay orders/demand drafts withoutconsideration, (m) fake documentation, etc.

The existing format of reporting does not contain theinformation as to how the fraud is detected. Some frauds get detected during thecourse of reconciliation of outstanding entries in nominal heads of accounts orimpersonal accounts. Others surface on account of depositors lodging a complaintfor non-receipt of deposit receipts. The frauds perpetrated by means of forgedsecurity documents were noticed only when the security was enforced for recoveryof outstanding amount. In most cases, the knowledge of fraud is due to ananonymous complaint of change in incumbency.

Investigations concentrate mainly on fixing staffaccountability and were more in the nature of initiating staff side action.Investigations lacked objectivity, fairness and critical analysis. With respectof staff side action, it is evident that in the case of fraud, the members ofstaff were placed under suspension immediately after the bank reached to theconclusion of their involvement in the commission occurrence of fraud. Oftenthere is a delay in lodging FIR before the police or filing complaints beforethe courts. There is also a delay in disposal of bank fraud cases. The cases offraud, involving dishonesty, misappropriation, criminal breach of trust,cheating, forgery etc. are covered under sections 403 to 409, 417 to 420 and 465to 477 A of the Indian Penal Code and these offences are triable by the Court ofMagistrate. Normally it takes more than 5 to 10 years before the case comes forhearing.

The following factors facilitate the perpetration of fraud:

1. Wrong persons got introduced both in deposit and borrowal accounts without detailed enquiry/scrutiny and thus were given access to banking services.
2. Certain persons acting as Middlemen/brokers without proper identification were entertained as agents of so called depositors/ borrowers.
3. Large credit, debit and cash transaction in newly opened accounts did not arouse the suspicion of the staff and no attempt was made to verify the genuineness of the transactions with reference to the business of the account holder.
4. Reconciliation of inter-branch accounts, clearing adjustment account, follow-up of large outstanding entries in the nominal heads of accounts remained pending for a long time.
5. The role of controlling office particularly in regard to receipt and scrutiny of control returns and house keeping was far from being effective.
6. There were huge arrears in the areas of balancing of books.
7. The bank’s critical stationery, its stock on hand, indent, custody, issue, movement, loss etc, was not properly monitored.
8. Appraisal and review of borrowal accounts were carried out as a matter of routine and early warning signals were not acted upon.
9. Inordinate delay in completion of investigation of detected frauds by Investigating Agencies and also delay in completion of departmental action not only failed to send a clear and strong message to the errant staff but also demoralised hones t staff who because of the case being treated as composite e one, came within the purview of investigation.
10. Unlimited computer access was provided to vendors and staff not related to the book-keeping and supervision.
11. The system of concurrent audit as operative in the banks failed to achieve its objectives inasmuch as the early signals of gross irregularities were not timely reported and acted upon.

The Serious Fraud Office deals with issues of serious fraudin the UK. In case a financial fraud is considered to be of a serious andcomplex nature, the SFO takes up the responsibility of investigating andprosecuting the persons concerned.

The SFO was set up under the Criminal Justice Act, 1987. TheSFO became fully operational in 1988. Its immediate objectives included:

1. The development of a coherent approach to the investigation of serious fraud;
2. The development of expertise in specialist areas, such as stock exchange fraud, insurance fraud and computer fraud;
3. The more efficient use of the new procedures established by the Criminal Justice Act, 1987 for prosecuting serious and complex fraud; and
4. The presentation of cases in new and more accessible ways so that juries could understand the issues.

The SFO is accountable through its Director to the AttorneyGeneral and to the Parliament. The Director is required to make an annual reportto the Attorney General on the discharge of her/his functions. In addition tothe Director, the SFO is staffed by a Deputy Director, a Chief Accountant and ahierarchy of assistant directors (who are lawyers or accountants), otherlawyers, investigators and accountants, and administrative staff.

In this chapter the functioning of the SFO will be lookedinto detail. As such the emphasis will be on the investigation procedure of theSFO the manner in which trials of serious frauds are conducted and thedifficulties that are faced by the SFO while discharging its responsibilities.

There is no statutory definition of serious fraud in the UK.Section 1(3) of the Act, 1987 empowers the Director of the SFO to'investigate any suspected offence which appears to him on reasonablegrounds to involve serious or complex fraud'. Since there is no definitionof serious fraud, the Davie Report made recommendations on the criteria that theSFO should adopt while deciding whether to accept a case. These recommendationswhich have been implemented, lay down the following:

1. The cases involved should be such that the sums involved were in the order of at least ₤1 million.
2. Cases, which are likely to give, rise to national publicity and widespread public concern.
3. Cases where the investigation and prosecution of the case was likely to require highly specialised knowledge of, e.g., stock exchange practices or regulated markets;
4. Cases involving a significant international dimension;
5. Cases where legal, accountancy and investigative skills needed to be brought together; and
6. Cases which appear to be complex and in which the use of Section 2 powers must be appropriate.

Once a case is referred to the SFO it is vetted to decidewhether it ought to be accepted for further investigation. The vetting processincorporates factors such as the nature of the allegation, the suitability ofthe case for investigation by the SFO as opposed to another body, and theresources available to deal with any investigation.

When a case is accepted, a case team of lawyers, accountants,police officers and support staff is appointed. A lawyer, who as a casecontroller is responsible for ensuring an expeditious and effectiveinvestigation and for any ensuing prosecution, heads the team.

Unraveling major fraud often involves examining vastquantities of documents left in a deliberately obscure and fragmented form. Inorder to properly evaluate the information contained in such documents, thedocuments are seen by experts such as police officers, accountants, lawyers,bankers, stockbrokers and computer specialists etc, with a view to producing theinformation in a compact and coherent form for presentation in court.

Case conferences are held at regular intervals throughout theinvestigation providing a forum for agreeing joint lines of action. They areattended by representatives from all the different disciplines from the caseteam, including prosecuting counsel, who are engaged at an early stage. At theconclusion of each case a final conference is held to review the case and learnfrom the experience gained.

The powers granted to the SFO under Section 2 of the Act,1987 are said to be the most important feature of the legal regime relating toinvestigation of the serious fraud by the SFO. Briefly put, these powers are:

1. The power to require persons to answer questions or furnish information with respect to any matter relating to the investigation- the interviews are conducted by a lawyer or an accountant and not by the police. The interviews are taped and copies of the same are provided to the interviewee. With regard to the power of questioning of the SFO it has been considered at what stage of the investigation must such questioning cease. In R v. Director of S.F.O., ex p. Wallace Smith it was held that the powers conferred by Section 2 extended to 'any matter relevant to the investigation' and that investigation did not cease when a suspect was charged.
2. The power to require persons to produce documents and to take copies of them and provide explanations- a question which arises for consideration here is, whether the SFO must identify the documents which are required to be produced. Arguments for both sides can be put forth. Keeping the wording of Section 2 (3) in mind, which expressly refers to 'specified documents', it could be argued that the SFO must identify the documents required to be produced. However, there may be situations where the SFO has no knowledge of the nature of documents available with a person, except that the person concerned has in their possession documents that are relevant for the investigation. As a pro-active measure it could be said that as far as possible the SFO must ask for specific documents, and in the absence of such knowledge it would be up to the court to authorise production of all concerned documents.

The above power of the SFO is not merely limited to the persons under investigation, but also extends to third parties. In R. v. Director of S.F.O., ex p Saunders, it was held that the SFO’s right to require production of documents, by third parties at least continued after the charges had been laid. However, as obiter dicta is was also stated that as long as an undertaking not to disclose the documents existed the person had a ‘reasonable excuse’ for failing to comply with the notice.

3. The power to search for and seize documents- Sections 2(4)-(7) provide that the SFO may apply to a justice of the peace for a warrant to search for, and seize, documents which it appears may be relevant to the investigation. The provisions apply where it is believed that the recipient of a Section 2 notice might destroy or conceal the documents rather than comply with the notice, where it is not practicable to serve a notice, or where one has been served and has not been complied with. Section 2(6) stipulates that a member of the SFO or a person authrosied by the Director shall accompany the constable executing the warrant.

Keeping in mind the sweeping nature of these powers thefollowing safeguards are also built into the Act, 1987, in order to preventabuse:

• Inadmissibility of statements: Section 2(8) of the Act provides that a statement given in response to a requirement imposed by Section 2 may not be used in evidence against the defendant in subsequent criminal proceedings, unless the subsequent proceedings are on a prosecution for an offence of deliberately or recklessly making a false or misleading statement, or on a prosecution for another offence where, in giving evidence, the defendant makes a statement inconsistent with Section 2.
• Reasonable excuse and other safeguards: A person may refuse to comply with the requests made by the SFO under Section 2 if the person has a ‘reasonable excuse’ to do so. The term ‘reasonable excuse’ has not been defined by the Act. We thus have to turn to judicial interpretation. In R v. Arrows Ltd (No.4), the SFO sought production of documents held by liquidators, on the ground that even though the Companies Court had made an order prohibiting disclosure of certain transcripts, that would not provide the liquidators with a ‘reasonable excuse’ for failing to produce the same before the SFO Rejecting this argument of the SFO it was held that in the absence of an express provision, which overrides the powers of the Court to hold documents, the liquidators could be said to have a ‘reasonable excuse’ from withholding documents that they held under the orders of the Court.

The scope of the observation seems to be limited to cases where the documents are held in the custody of the court, in the light of the decision In A v. B Bank (Governor and Company of the Bank of England intervening). In the present case, A had obtained an injunction restraining B Bank from disclosing documents and information. The bank of England had served a notice under the Banking Act, 1987, s.39 that confers on the Bank of England powers similar to those conferred on the SFO under Section 2 of the Act. It was held that the injunction did not give B bank a ‘reasonable excuse’ for failure to comply with the Section 39 notice. The basis for the decision was that the documents here belonged to A or B bank-they were not in the custody of the court, as is the case in liquidation proceedings, where the documents are in the custody of the court.

From case law it appears that the following do not constitute a ‘reasonable excuse’:

1. The person under investigation has been charged;
2. The recipient has not had the opportunity to apply for legal aid, or has not been legally advised and in not legally represented;
3. The SFO has not disclosed to the interviewee the nature of its inquiries or the areas upon which it seeks to question her/him, or has not given her/him advance disclosure;
4. The recipient may be obliged to incriminate her/himself;
5. The recipient of the notice is subject to a court order securing compliance with an obligation, the existence of which, of itself, does not amount to a reasonable excuse
6. The recipient is the spouse of the person under investigation and is therefore not a compellable witness for the prosecution
7. The information or documentation sought is confidential.

From the above discussion it is clear that the term ‘reasonable excuse’ has been interpreted narrowly in the context of serious fraud investigation. In fact the distinctions drawn between admissibility of evidence and investigation of serious fraud in R v. Director of S.F.O., ex p Johnson, is significant here. The suggestion seems to be that at the initial investigation stage the SFO must be able to gather all possible cues to get to the root of the crime. Once the investigation is complete and the evidence is to presented at the prosecution stage, evidence could be sieved out on the rules of admissibility of the same. The inference one can draw is that rules of admissibility and appreciation of evidence must not hinder the investigation process of the SFO since purportedly illegal cues could lead to direct and significant evidence relating to the crime.

Apart from reasonable excuse, Section 2(9) of the Act permits the withholding of information or documents on grounds of legal professional privilege, and Section 2(10) on grounds of banking privilege. Public interest immunity can also be invoked.

The European Convention on Human Rights recognises theprinciples of fair trial and the right to privacy of a person, both of which maycome under a challenge as a result of the extensive powers of the SFO in Section2.

In Saunders v. United Kingdom, Saunders allegedthat the use by the prosecution at his criminal trial of transcripts ofevidence, which he had given to inspectors appointed by the Department of Tradeand Industry to investigate the affairs of Guiness, contravened Article 6 of theConvention. Saunders contended that the use of powers conferred by the CompaniesAct, 1985, S.434, which were backed by the sanction of imprisonment if he failedto comply, deprived him of a fair hearing.

The European Commission declared his claim as admissible. Themajority found that a person who incriminates himself under threat of punishmentand provides evidence for use against himself at his trial might be seriouslyprejudiced. The Commission concluded that it was not compatible with the spiritof the Convention that varying degrees of fairness should apply to differentcategories of accused criminal trials. The Commission further stressed that theprivilege against self-incrimination is an important element in safeguarding anaccused from oppression and coercion during criminal proceedings.

Apart from the decision in Saunders’ case, in other areasalso the SFO’s powers may be challenged. For example, as we have alreadydiscussed the scope of the ‘reasonable excuse’ defense is extremely limited.The distinction drawn is one between admissibility of evidence andinvestigation. It may be argued that certain investigation may itself lead toincrimination. For instance, the SFO can use the documentation and informationobtained by use of Section 2 powers from a person under investigation toidentify, procure from other sources, admissible incriminating evidence againsta proposed defendant.

In Funke v. France, the European Court did lookinto the above matter. In the present case Funke was asked to produce bankstatements, which he refused to do so. Funke was convicted for refusing toproduce documents. Funke challenged the same as being violative of his right tofair trial. Rejecting the argument of the French government, that the actions ofthe authorities were in public interest, it was observed that even though it maybe necessary to conduct house searches and seizures to obtain physical evidence,the law must contain safeguards such as requirement for a judicial warrant ofsearch etc. The court also looked into the difficulties, which were encounteredby states while investigating and prosecuting fraud. However, they emphasisedthe need for 'proportionality'. The Court stressed that the powersconferred were very wide and that the customs officers had exclusive competenceto assess the expediency, frequency and scale of their exercise. Further, therewas no requirement of a judicial warrant.

From the above trend of case law it appears that principlesof fair trial cannot be violated even in the light of serious crimes such asfinancial fraud and that the powers of the investigator would have to beexercised proportionately as compared to the rights of the alleged offenders.Such an approach was clearly stated in the Saunders case by the EuropeanCourt of Human Rights.

Usually a fraud case is looked into by the magistrates’court. The Criminal Justice Act however creates a procedure for transfer also,by which a case can be transferred from the magistrates’ court to the CrownCourt without committal proceedings. The power to transfer a serious or complexfraud case is vested with 'designated authorities', which consist ofthe Director of the SFO, Director of Public Prosecutions, the Commissioners ofInland Revenue, the Commissioners of Customs and Excise and the Secretary ofState.

In prosecutions conducted by the SFO, counsel are in practiceinstructed at a relatively early stage of the investigation, and the decision totransfer a case is made by the case controller in the light of the counselsadvice. Section 4(1) of the Act lays down the criteria under which the power totransfer can be exercised. These are:

1. If the defendant has been charged with an indictable offence;
2. If the designated authority is of the opinion that the evidence of the offence charged
1. would be sufficient for the proceedings against the person charged to be transferred for trial, and
2. reveals a case of fraud of such seriousness or complexity that it is appropriate that the management of the case should without delay be taken over by the Crown Court; and
3. A notice of transfer is served not later than the time at which the designated authority would be required to serve a notice of the prosecution case.

The requirement of ‘sufficient evidence’ usually means ‘sufficient evidence against the accused to put him on trial by jury for the offence charged’. This requirement in contested committal proceedings requires proof of only a prima facie case or case to answer.

Section 4 (1) (b) (ii) of the Act requires the designatedauthority to have regard to case management considerations in deciding whetherto transfer a case. The kind of factors that will usually determine whether atransfer is appropriate include:

1. The number of defendants and charges laid;
2. The nature and seriousness of the charges laid;
3. Whether there is a combination of fraud charges and other charges which cannot be transferred, so that a transfer of the fraud charge would result in fragmentation of the case;
4. The complexity of the factual and legal issues involved;
5. The volume of documentation (in terms of both witness statements and exhibits); and
6. Listing considerations- for example, the prosecution will wish to avoid the case being delayed in the magistrate’s court.

Even though Section 4(3) of the Act states that a ‘designatedauthority’s decision to give notice of transfer shall not be subject to appealor liable to be questioned in any court', in R v. SalfordMagistrates’ Court, ex p. Gallagher, it was held that a designatedauthority’s decision to transfer a case was subject to judicial review. Sincesuch a challenge would be made on the basis of bad faith etc. it would beappropriate to challenge the merits of such a decision by applying for dismissalof transferred charges under Section 6 of the Act. This is because the Act doesnot require the designated authority to state its reasons for deciding thetransfer. This omission in the view of the researchers is uncalled for. As wehave already observed, the decision to transfer is made by looking at casemanagement factors, the nature of the case etc. if such issues have already beentaken into consideration one sees no reason why the same should not find a placein the decision constituting the transfer. Such an omission is clearly inviolation of administrative law principles of natural justice and thereforeagainst a democratic set up and its underlying principles.

As far as information to the defendant is concerned, the SFOsupplies each defendant with a bundle containing the notice of transfer, anotice containing details of the proposed venue for trial (referred to as a Form2 notice), a Form 2 notice must also indicate to the defendant her/his right toapply for bail, and to apply for any charges to be dismissed. It also containsdetails of the defendant’s bail position and an alibi warning. Inaddition, it must contain a list of witnesses (together with copies of thestatements or other documents outlining their evidence) on whom the prosecutionintends to rely, indicating in each case whether the magistrates’ court is tobe invited to make the witness fully or confidentially bound. The statement ofevidence and an index of documentary exhibits is also supplied to the defendant.

The defendant under Section 6 has a right to apply (eitherorally or in writing) to the Crown Court for the transfer to be dismissed. Thiscan be done on the ground that there is insufficient evidence available againsther/him, for the jury to properly convict her/him. The decision of the Courtrelating to an application for dismissal is also subject to judicial review.Even though the Act does not confer such a power on the Court, in R v. CentralCriminal Court, ex p. Director of SFO, it was held that Section 6 of the Actdoes not take away the jurisdiction of the High Court, but that suchjurisdiction should be exercised in an extremely limited manner.

• Stage I- Preparatory hearings:

The judge upon application from the parties concerned, or upon her/his motion may order a preparatory hearing. Under Section 7(1) of the Act, the judge has the discretion to order a preparatory hearing if it appears to him that the evidence on an indictment reveals a case of fraud of such seriousness or complexity that substantial benefits are likely to accrue from such a hearing for the purpose of

1. Identifying issues which are likely to be material to the verdict of the jury;
2. Assisting their comprehension of such issues;
3. Expediting the proceedings before the jury; or
4. Assisting the judge’s management of the trial.

Section 9(3) of the Act defines the scope of the powers of the judge to make orders at the preparatory stage as follows:

1. The judge may determine a question arising under the Criminal Justice Act, 1987, s.6, (relevance of external law to charges of conspiracy, attempt and indictment);
2. Any question as to the admissibility of evidence; and
3. Any other question of law relating to the case.

The scope of a preparatory hearing is quite wide. The judge in the course of such a hearing may order the prosecution to supply to the court and the defendants a prosecution case statement, order the prosecution to prepare its evidence and other explanatory material in a form likely to aid comprehension by the jury and to supply it in that form to the court and the defense, admission of factual issues by the parties, require the defendant to serve a statement in writing setting out in general terms the nature of the defense and indicating the principal matters on which the prosecution is being opposed, order the cross-service of case statements between the defendants, notice of objections and points of law contained in the prosecution case statement etc.

Thus the main objective of a preparatory hearing seems to be to simplify the case for consideration by the jury, and to save time by avoiding arguments relating to matters to which both parties are agreeable. Such a procedure has an extremely important part to play in extended crimes such as financial fraud, where the number of transactions may be endless and extremely complicated. Moreover the fact that any departure from orders made at the preparatory stage means that he jury would be informed about such non-compliance, ensures that the parties take the process seriously and abide by the decisions made there under.

• Stage II-Presenting a fraud case:

In most fraud cases the transactions are usually long drawn and extremely complex. In organized crime, which may have a transnational character also, there may be a number of people involved. The problem therefore is to identify all the transactions involved, the accused persons involved and the exact nature of their involvement. In order to overcome these problems, the SFO often chooses sample charges on which the alleged offenders must be indicted. Since it is difficult to indict every person according to the level of their involvement, a broad charge of conspiracy to defraud is often framed, for which all the alleged offenders involved are indicted.

This approach of the SFO has been subject to criticism. It is argued that a broad charge of conspiracy to defraud may be misleading as to the involvement of all the offenders, since it tends to create a presumption that all of them were equally involved in the commission of the crime.

The case of Griffiths illustrates the danger involved in a failure to analyse the true nature of an agreement. Griffiths and his accountant were alleged to have devised scheme to defraud the Ministry of Agriculture, which had instituted a scheme to give subsidies to farmers who spread agricultural lime on their fields. It was alleged that in a number of instances Griffiths had greatly exaggerated the quantity of lime, which had been spread. Seven farmers were allegedly induced to take part in this scheme, but there was no evidence that any one farmer knew that any of the others were involved or knew that Griffiths was doing this with other farmers at all. The prosecution charged a general conspiracy to defraud. The Court of Appeal held that there was no general agreement, but one central agreement between Griffiths and his accountant and a series of separate agreements with each farmer. Paull J. delivering the judgement said:

'…all must join in one agreement, each with the others, in order to constitute one conspiracy. They may join in at various times, each attaching himself to that agreement; any one of them may not know all the other parties but only that there are other parties; any one of them may not know the full extent of the scheme to which he attaches himself. But what each must know is that there is coming into existence, or is in existence, a scheme which goes beyond the illegal act or acts which he agrees to do….'

From the above judgement it would seem that it would be prudent to charge each alleged offender separately for a substantive offence of theft, misappropriation etc. as the case may be. The prosecutors however oppose such a course of action. In their view the nature of serious, transnational or organised crime is such that even though each individual may not know the entire design of their acts, the collective acts add to the seriousness of the crime. Moreover the actual think tanks of the crime may not be involved in the execution of the same. Charging of substantive offences alone may mean that one is unable to get to the root of the crime. This may be especially true for frauds such as financial, bank and securities fraud, where transactions may be carried out through agents, brokers, investors etc.

A half way house approach between these two opposing viewpoints is to ensure that the prosecution proves the existence of a ‘core agreement’ in the execution of which the parties to the conspiracy act. Such an approach serves the prosecution purpose also since in the presence of a core agreement, the various devices used by the alleged offenders may be used as evidence from which the guilt of individual offenders may be inferred, or evidence of the general intent of the agreement may be deduced, or it may be inferred that a particular device was within the general contemplation of the agreement.

In a lecture at the ISCRL Commercial and Financial FraudConference, held at Malta in July 1999, the Director of the SFO found thefollowing irritants in the investigation of serious fraud:

• Problems with obtaining evidence from overseas jurisdictions. This is because of the divergence in laws in different countries. One example of the problem faced by the SFO relates to production of computer evidence. According to the Criminal Evidence Act, 1984 of the UK in order to present computer evidence before a court of law, a certificate under Section 69 of the said Act is required certifying that the computer was working properly on the day that it generated the evidence. Most overseas jurisdictions do not have such a requirement and therefore fail to understand the relevance of the certificate to English law. Due to this difficulty, a lot of times the SFO has been unable to adduce essential computer generated evidence from abroad.
• Getting witnesses from abroad to testify in England is another major problem faced by the SFO.
• The fact that ‘fraud’ is not a clearly defined offence in English criminal law compounds the problems and uncertainties faced by the SFO. In the absence of a comprehensive definition of fraud, the SFO has to choose from a huge litany of offences, none of which meets the bill when technology produced concepts like electronic fund transfers, which have no conventional counterpart. One of the major problems relates to offences of dishonesty. Such offences in the view of the SFO are linked to the offence of conspiracy to defraud, an offence that is no relevance when there is only one alleged offender. The need therefore is for a paradigm shift in criminal law-one from the mechanics by which the crime is committed to the exact nature of the crime.
• Problems of simplification of the trial process are numerous, since the amount of evidence is large and the number of transactions insurmountable. To this extent the SFO has suggested that the powers of the judge at the preparatory hearing be widened so as to allow her/him to treat certain facts as proved, in the absence pf convincing contrary arguments.
• The jury in most cases finds it difficult to understand the complex nature of the offence involved. The increasing complication in financial crime, especially with the deployment of more and more technology compounds this problem. The SFO therefore has suggested removal of jury trials in financial fraud cases. It in turn argues in favour of a panel of financially or commercially aware lay members with banking or accountancy backgrounds etc. who could be of assistance to the judge.
• Since a lot of problems are faced by the SFO in the conduct of the trial itself, it has been suggested that improvements might be made by concentrating cases in a few suitably equipped fraud centres and by providing specially-trained judges with appropriate management skills. The centres would be equipped with information technology, television links with other countries to obtain evidence from overseas witnesses and real-time transcription facilities as well as adequate storage space for documentation and exhibits.

The above discussion is reflective of the deficiencies thatremain in the investigation process of serious fraud, in spite of the widepowers conferred upon the SFO. Definitional and jurisdictional problems, coupledby the lack of international cooperation complicate matters for the SFO. One ofthe major problems is that the trial process still takes a very long time andremains fairly complicated. These problems are intrinsically linked to thenature of crimes investigated into by the SFO, i.e. 'serious and complexfraud'. These can only be solved by more and more effective categorisationof fraud transactions, more effective use of preparatory hearings and greaterinternational co-operation.

The European Union has evinced an interest in dealing withissues of fraud seriously, since fraud as a crime is seen to have far reachingimplications for the financial health of the community at large. Statisticallyspeaking, in terms of revenue, 2% of the fraud cases discovered account for the66% of the amounts at stake. On the expenditure side 8% of the cases account for74% of the amounts at stake.

The National Criminal Codes or equivalent bodies oflegislation all make provision for offences that can embrace both theCommunity's and the member states' financial interests. Of these, obtaining bydeception, forgery and issuing forged documents and fraudulent conversion arethe most important. Some member states (the Netherlands, for example) listdozens of provisions to be found in a great number of separate enactments thatcan be used against fraudsters, depending on the form the fraud takes.

Most member states believe that the ordinary criminaloffences are adequately defined to protect the Community's financial interests.Assimilation for enforcement purposes is implied in provisions creating offencesand penalties that are applicable in a like manner: to Community and nationalinterests.

Even so, it is clear from some of the reports that the trendis towards making fraud against the Community's financial interests an offencein its own right. The trend has gathered momentum with the Convention on theprotection of the Community's financial interests on which an agreement wasreached at Cannes and which was signed on 26 July 1995. Article 1(2) requiresmember states to take the necessary and appropriate measures to transpose intotheir criminal law the provisions of Article 1(1) (defining what constitutesfraud against the Community's financial interests) so as to make the conductdescribed therein a criminal offence. The purpose, as is clear from theexplanatory report, is that member states should make fraud either a specific oran express offence or at least bring it within the general definition of theoffence of fraud.

There is a trend towards the development of multidisciplinarycontrol structures with responsibility for all areas of fraud prevention andwith wide-ranging investigative powers. In this way the member states hope thatmore effective steps can be taken to combat organised financial crime, which isnot necessarily confined to one particular sector. The Serious Fraud Office is agood illustration of such a multi-disciplinary approach.

Fraud affecting the European Communities' financial interestsis looked at from the expenditure and revenue perspective:

• In respect of expenditure, any intentional act or omission relating to the use or presentation of false, incorrect or incomplete statements or documents, which has as its effect the misappropriation or wrongful retention of funds of the general budget of the European Communities or budgets managed by, or on behalf of, the European Communities, non-disclosure of information in violation of a specific obligation with the same effect and the misapplication of funds for purposes other than those for which they were originally granted;
• In respect of revenue, any intentional act or omission relating to use or presentation of false, incorrect or incomplete statements or documents, which has as its effect the illegal diminution of the resources of the European Communities or budgets managed by, or on behalf of, the European Communities, non-disclosure of information in violation of a specific obligation or misapplication of a legally obtained benefit with the same effect.

In order to deal with financial fraud in an effective mannerthe Convention on the Protection of Financial Interests of the Community laysdown member states must criminalize the preparation or supply of false,incorrect or incomplete statements or documents. Participation or instigation inany fraud case is also sought to be criminalized. It also states that thepenalties envisaged by Member States must be proportionate, effective anddissuasive. With regard to serious fraud, that is where the pecuniary limitexceeds ECU 50,000, the Convention stipulates that Member States must lay downpenalties involving the deprivation of liberty, which can give rise toextradition.

In respect of trans-national fraud, the Convention envisagesco-operation in investigation, prosecution, and enforcement of sentence and atevery other stage of investigation, between the concerned Member States. Withregard to jurisdiction over trans-national fraud, the Convention lays down thefollowing rules:

1. Where fraud, participation in fraud or attempted fraud hasbeen committed in whole or in part within its territory including the situationin which the benefit of the fraud has been obtained in that territory;

2. Where a person within its territory has knowinglycommitted the offence of participating in or instigating ('knowingly assists orinduces`) fraud committed in the territory of another Member State or thirdcountry. The terms 'participation` and 'instigation` are to be interpreted inaccordance with national law.

In deciding issues of jurisdiction the following principlesare to be kept in mind- the scale of the fraud committed in their respectiveterritories, the place where the misapplied sums were obtained, the place wherethe suspects were arrested, their nationalities, previous prosecutions, and soon.

In order to ensure that the financial interests of theCommunity are adequately protected against financial fraud, the EU had put inplace a task force for coordination in Fraud Prevention, known as the UCLAF. TheEuropean Anti-fraud office replaced the UCLAF in 1999 (hereinafter referred toas the 'OLAF'). The following investigation procedure is adopted bythe OLAF:

• In case, fraud is committed by an individual, who is placed in an institution within the EU, the OLAF requests the member state concerned to launch an investigation. Hereafter, the investigation procedure of the member state concerned comes into play.
• The OLAF investigators are closely involved in directing the investigation process. Once the investigation is complete, the OLAF sends its report to the national supervisory authorities, which can make use of it to take action against the offender.
• An external investigation can be opened if there are reasons to think that irregularities have been committed (Article 5) and the criteria for action by the Office (Article 2) are met.

• With regard more particularly to administrative investigation procedures, the Regulation requires Commission inspectors to be duly authorised and to carry a written authorisation from the director of the Office. Only OLAF inspectors have a standing authorisation. For each mission a written authorisation is issued, specifying the subject matter and purpose of the inspection (Article 6(1) and (2)).
• The Commission, preferably in close cooperation with the competent authorities of the Member State concerned, conducts checks and inspections. Member States are informed in good time of the subject-matter, purpose and legal basis of the checks so that they can give all requisite help (Article 4). If an economic operator objects to the inspection, the Member State concerned provides the requisite assistance so as to take the appropriate precautionary measures (Article 7(2)) and to allow Commission inspectors to perform their task (Article 9).
• The administrative investigation culminates in a report reflecting the procedural requirements of the national law of the Member State concerned (Article 8(3)). The material and supporting documents gathered are annexed to it. The report has the same status as a national administrative inspection report; it constitutes admissible evidence in administrative or judicial proceedings in the Member State in which its use proves necessary. Where the inspection is conducted jointly with national inspectors, they are asked to countersign the report drawn up by the Commission inspectors.
• On the basis of Regulations 1073/99 and 1074/99, all external administrative investigations are now opened by a decision of the Director of the Office, of his own initiative or following a request from a Member State (Article 5). The Director of OLAF directs the conduct of the investigation, which run continuously for a period of time proportionate to the circumstances and complexity of the case.
• When an investigation has been in progress for more than nine months, the Director informs the Supervisory Committee why it has not been possible to wind up the investigation and of the expected time for completion (Article 11).

• At the end of the investigation, OLAF draws up under the Director’s authority a report which takes account of the procedural requirements of the national law of the Member State concerned. This report is then sent to the relevant administrative or judicial authorities of the Member State concerned, in accordance with the Regulation concerning external investigations.
• Internal investigations are still opened by a decision of the Director of OLAF, acting on his own initiative or following a request of the institution or body in which the investigation is to be carried out. The Office can still carry out on-the-spot 1checks and inspections into economic operators, as provided for by Regulation 2185/96. But, as in the case of external investigations, the inspectors must be duly empowered and hold a written authorisation from the Director of the Office. The office conducts on the spot checks in the following circumstances-
1. For the detection of serious or trans-national irregularities or irregularities that may involve economic operators in several Member-states;
2. Where, for the detection of irregularities, the situation in a Member State requires on-the-spot checks and inspections to be strengthened in a particular case in order to improve the effectiveness of the protection of financial interests and so to ensure an equivalent level of protection within the community; and
3. At the request of the Member State concerned.
• The report drawn up following an internal investigation and any related supporting documents are sent to the institution or body concerned, the interested party being informed. They then draw the disciplinary conclusions from the internal investigation and its findings and inform the Director of the Office of the action taken on the investigations, within the period determined by him in the conclusions of his report. The Director of the Office sends the report to the judicial authorities, if appropriate.
• When there is a major transnational dimension to a case, the Office supports the investigation activities of the Member States. This support can take the form of:
1. co-ordination of operational activities by OLAF;
2. bilateral or multilateral assistance, where the Office provides the investigating authority with information, supplies or know-how.
• The OLAF gathers data either by way of reports from member states or other sources. The information relating to irregularities, may either be of a proven or suspected case.
• In respect of each irregularity, the OLAF opens a new file. Files are closed either without action – when the information has been validated or the checks and inspections are completed – or when it is reasonable to consider that all the follow-up procedures are completed. Data protection laws of the EC apply to information collected during the investigation of financial fraud as well.
• The Office endeavors to determine the financial loss on the occasion of each operation. The financial consequences of each file are calculated. The amounts may be estimated if the scale of the fraud remains to be defined with precision. As regards recovery of amounts involved in the fraud, the policy is that as far as possible the money must be recovered from the actual fraudsters.

From the above discussion it is clear that the function ofthe OLAF is mainly to assist member states in the investigation of seriousfraud, except in certain cases where it undertakes to investigate the matteritself. The OLAF mainly ensures co-operation amongst Member States. In spite ofthe enactment of the Convention on the Protection of the Financial Interests ofthe Community, the EU has been unable to achieve any significant results intrying to combat financial fraud. The main problem lies with the varied systemsof criminal law prevalent in different Member States. Moreover the weaknesses ofthe mutual judicial and administrative assistance procedures have made itdifficult to counter the development of crime.

In order to deal with these problems it has been recommendedthat a European Public Prosecutor, a judicial body with the function of bringingprosecutions in the courts of the Member States and of exercising ongoingcontrol of criminal investigations across the Community territory in order toenforce the law and protect the Community’s finances, be appointed. The pointis not to communitarise the administration of criminal justice, which wouldremain within national powers.

The experience and efforts of the European Union may be oflittle inertest in the context of a country such as India, since the emphasis ofthe EU approach is on inter-governmental assistance and co-operation. The natureof assistance and co-operation that the EU envisages within it is also notpossible of being transposed at the international level. This is because theefforts of the EU are a result of the basic understanding and status of anintegrated body, an effort that is seemingly impossible at the global level.

The term fraud is essentially a generic one and is used inmany senses. Its ability to assume various degrees and forms has made the taskof defining it extremely difficult if not impossible. So much so that, manyjurists prefer to define the term loosely because they are of the opinion that astrictly defined meaning of the term of 'fraud' shall prove to be ahindrance in the enforcement of law, as human ingenuity will definitely be ableto defeat the definition. It is therefore better to allow the facts andcircumstances to dictate the meaning of fraud.

Although this logic finds great favour with most scholars itstill does not negate the necessity to understand the basic requirements, whichconstitute a fraud, for without such an understanding, the existence of theconcept shall itself be suspect. Various books and judgments have at differentpoints of time used different expressions to explain the underlying concept offraud. Thus, fraud has been referred to as unfair dealing; malfeasance; apositive act resulting from a willful intent to deceive; an artifice by which aperson is deceived to his hurt; a willful, malevolent act, directed toperpetrating a wrong to the rights of the others; anything which is calculatedto deceive, whether it is a single act or a combination of circumstances, oracts or words which amount to a suppression of truth, or mere silence. Inother words, fraud in its general sense is deemed to comprise anythingcalculated to deceive, including all acts and omissions, and concealmentsinvolving a breach of legal or equitable duty, trust or confidence justlyreposed, resulting in damage to another.

Fraud as defined in legal dictionaries is 'amisrepresentation or concealment with reference to some fact material to atransaction that is made with knowledge of its falsity or in reckless disregardof its truth or falsity and with the intent to deceive another and that isreasonably relied on by the other who is injured thereby.'

Fraud has also been sought to be explained in terms of beingthe equivalent of the anti-thesis of good faith i.e., bad faith. In this contextgood faith may be defined as 'an honest intention to abstain from takingany unconscientious advantage of another, even though the forms and technologiesof law, together with an absence of all information or benefit of facts whichwould render the transaction unconscientious.

Another term which is considered to be synonymous to fraud is'deceit'. In exact terms however, deceit is a species of fraud. Deceitis actual fraud and consists of any false representation or contrivance wherebyone person overreaches and misleads another to his hurt. On other words, deceitexcludes the idea of mistake. An action for damages at common law based uponfraud is called an 'action of deceit'. 'Collusion' is anagreement between two or more persons to defraud another of his rights by theforms of law or to secure an object forbidden by law. As far as the design oflaw goes, collusion is considered to be a species of fraud.

Fraud is primarily classified into four categories:

1. Fraud constituting of direct imposition
2. Fraud which may be presumed from the relation of the parties
3. Fraud as may be collected from the intrinsic value of the bargain
4. Fraud which may arise from the contract being an imposition on third parties

A much broader classification of fraud is that into'actual fraud' and 'constructive or legal fraud'. An actualfraud is a fraud committed with the actual intent to deceive and thereby injureanother (called also fraud in fact). In other words a fraud in factrequires intentional and successful employment of any cunning, deception orartifice to circumvent, cheat or deceive another. Actual fraud falls under thetwo heads of suggestio falsi and suppresio veri. A constructivefraud, on the other hand is conduct that is considered fraud under the lawdespite the absence of an intent to deceive because it has the same consequencesas an actual fraud would have and it is against public interests (as because ofthe violation of a public or private trust or confidence, the breach of afiduciary duty, or the use of undue influence, called also legal fraud).The distinguishing factor between actual and constructive fraud is therefore theelement of intent. While actual fraud rests upon an actual intent to deceive,constructive fraud arises from a presumption, which in turn may find its basisin either the relationship between the parties to a transaction or thecircumstances under which such a transaction is entered into. Constructive fraudrequires a mere breach of equitable duty.

Distinguishing cause of action basedon contract from one based on fraud/deceit:

In a cause of action based on contract, recovery is basedupon the express liability assumed by a person in his contract whereas in acause of action based upon fraud, recovery is based upon the liability incurredfor a violation of the duty of honesty and fair dealing which has been enjoinedupon the defendant by law.

Effect of fraud:

Fraud vitiates every transaction and all contracts. As perthe general law of contracts, an agreement induced by fraud is voidable, and notvoid. A plaintiff can rely upon fraudulent representations to avoid a contracteven if the representations are of not of a nature, which would attract anindictment for false pretences. Fraud as effectual as capacity, etc. is adequateenough to prevent actual consent. The right to avoid a contract induced by fraudmust be exercised before third party rights accrue.

Legislative provisions on fraud:

It has been unanimously accepted that under the police powerthe legislature may provide against frauds upon the public. There are a numberof federal statutes on fraud and deceit. In criminal prosecution the generalrules of criminal proceedings are applicable.