JAIIB AFM Module-A Unit 10 : Back Office Functions/ Handling Unreconciled Entries In Banks

23/08/2023

Table of Contents

JAIIB Paper 3 AFM Module A Unit 10 : Back Office Functions/ Handling Unreconciled Entries In Banks (New Syllabus)

IIBF has released the New Syllabus Exam Pattern for JAIIB Exam 2023. Following the format of the current exam, JAIIB 2023 will have now four papers. The JAIIB Paper 3 (Accounting and Financial Management for Bankers) includes an important topic called “Back Office Functions/ Handling Unreconciled Entries In Banks”. Every candidate who are appearing for the JAIIB Certification Examination 2023 must understand each unit included in the syllabus. In this article, we are going to cover all the necessary details of JAIIB Paper 3 (AFM) Module A (ACCOUNTING PRINCIPLES AND PROCESSES ) Unit 10 : Back Office Functions/ Handling Unreconciled Entries In Banks Aspirants must go through this article to better understand the topic, Back Office Functions/ Handling Unreconciled Entries In Banks and practice using our Online Mock Test Series to strengthen their knowledge of Back Office Functions/ Handling Unreconciled Entries In Banks. Unit 10 : Back Office Functions/ Handling Unreconciled Entries In Banks

Introduction

Back office consists of administration and support personnel in a financial services company, who are not client facing.
They are a major contributor to the banking business.
With the introduction of computerisation in the banks, the roles of front office and back office are changing and many of the activities, which were previously performed by the front office, are now performed by the back office, resulting in cost savings and economies of scale as also freeing the time for the front office staff to focus on sales and servicing functions.

Also, computerisation has eliminated the need of back office being a part of the branch.
Back offices may be located somewhere other than the bank branch or bank office.
One of the important functions of the back office is to reconcile the accounting entries specially the inter office entries.

Functions Performed By The Back Office

Back offices carry out various functions to support the front office activities.
In specialised functions like Treasury operations and Forex, the back offices perform the mainstream role of directly supporting the trading room or front office by controlling confirmations and settlement transactions.

The back office functions relating to the normal banking activities can be grouped as under:

Book keeping and accounting:

Transaction processing,
Maintenance of General Ledger and other books of account,
Balancing of branch accounts,
Reconciliation of entries and sub-systems,
Rreparation of financial statements.

Deposits:

Calculation and posting of interest,
Service charges,
Reminders for renewals of term deposits,
nature of operation of account – single/jointly, etc.

Loans:

Processing end-to-end loan originations or any aspect of loan servicing,
Loan modification,
Default management and collections,
Calculation of EMIs,
Calculation and posting of interest,
Penal interest,
Processing fee,
Commission and prepayment charges,
Processes implementation for credit products,
Operational Limits,
Risk management, etc.

Regulatory Compliance:

Identifying KYC gaps,
Customer grievance redressal system, etc.

E- banking:

Handling transactions through internet,
Mobile banking or ATMs,
Card based payments, etc.

Other functions:

Clearing, collection, remittances, etc.

Reconciliation Function In Banks

The basic reconciliation functions in a bank can be divided into groups, as under:

Reconciliation of accounts for payments involving intermediaries
Reconciliation of accounts with correspondent banks
Reconciliation of bank accounts with RBI and other banks and institutions
Reconciliation of intra branch entries and sub-systems
Reconciliation of inter branch/office entries

Reconciliation Of Inter Branch/Office Entries

Origination/Response (Reversal) of Inter Office Transactions Inter office transactions mostly originate at branches.
Each branch may have a number of transactions with other branches, as well as with the head office of the bank.
In many transactions, undertaken by the branch, one leg of the transaction involved is Inter Office Account.
For example, when a draft is issued, the account of the customer is debited and the Inter office account is credited. This draft is paid by the other branch by crediting the account of the payee and debiting the Inter Office account.
The Inter Office entries of both the branches are reconciled and do not appear in the statement of unreconciled entries.

The major types of transactions, which result in Inter Office debit or credit entry, are:

Issue of remittance instruments like drafts on other branches.
Payment of remittance instruments like drafts drawn by other branches.
Payment to/receipts from other branches of the proceeds of instruments received/sent for collection/ realisation/clearing.
Transactions through NEFT, ECS and RTGS.
ATM transactions of the customer either at ATMs linked with other branches or with merchant establishments.
Transactions through payment gateways of ATM etc.
Payment of instruments like gift cheques/banker’s cheques/interest warrants/dividend warrants/ repurchase warrants/refund warrants/travelers cheques, etc., which are paid by the branch on behalf of other branches which have received the amount for payment of these instruments from the customers
Operations by the authorised branches on the bank’s NOSTRO accounts.
Foreign exchange transactions entered into by the branch for which it has to deal with the nodal forex department of the bank for exchange of rupees with foreign currency.
Deposits and withdrawal of money by branches from the currency chest maintained by another branch.
Cash sent to/received from other branches.
Head office interest receivable and payable by the branches.
Profit/loss transferred by the branch to head office.
Government receipts and payments handled by the branch either as the nodal branch or as an agent of the nodal branch.
Internet based transactions other than inter account transfers with the same branch.
Credit card related transactions of the customers.
Nostro Accounts of Indian branches maintained with overseas branches of the bank.
Capital Funds with the Overseas Branches.
Head Office balances with the overseas branches including subordinated debt lent to the overseas branches.
Transactions from Overseas Branches.
Payments made under LCs of other branches.
GST transactions of Bank branches within a zone and Zonal or Head office.

Reconciliation of Inter – Office Transactions

A debit/credit Inter Office transaction, originated at one branch, should result in a corresponding credit/debit transaction (reversal entry) in the Inter Office account at the other branch.
There may be a time lag in the case of some types of transactions like drafts issued. Therefore, every entry in the Inter Office account should be reconciled with a corresponding entry in the account at another branch/office of the bank.
The unreconciled inter-office entries indicate the existence of errors or, more seriously, of frauds.

Illustration

Branch A issues a draft for Rs. 5,000 on branch B of the bank.
The account of the customer is debited for Rs. 5,000 and the Inter office account is credited by Rs. 5,000.
The branch includes this entry in the daily statement of inter office account, submitted to the centralised reconciliation department(CRD).
This draft is paid after 2 days by the branch B by crediting the account of the payee and debiting the Inter Office account as a responding entry.
Branch B sends the daily statement to the centralised reconciliation department and the responding entry of Rs.5,000 is included in it.
The central reconciliation department matches the originating and responding entries and these do not appear in the statement of unreconciled entries prepared by the department.

What happens if branch A has not issued the draft and the draft paid by the branch B is a forged one.
In this case, there will not be any entry pertaining to this draft in the daily statement of Branch A, while the daily statement of branch B will contain a responding entry of Rs.5,000.
The CRD will not be able to match the responding entry and it will appear as an unreconciled entry in the statement prepared by the department.
Follow up by the staff of CRD will reveal the fact of payment of forged draft.

In core banking systems, office accounts are bifurcated between accounts which have a requirement of entering a mandatory reference number while passing the entry (pointing) and accounts which do not have such a mandate (non-pointing).

In case of pointing accounts, the reconciliation process is easier as the entries can be knocked off based on the reference number and each outstanding entry outstanding on the reporting date can be identified.
In case of non-pointing accounts, reconciliation requires manual intervention and tracking due to non-availability of a unique reference number. Thus in most of the above mentioned types of transactions, which need to be reconciled, the reconciliation is automatically executed by the system.

As such, monitoring is required only in those cases, where manual intervention is required.

The typical and most common types of errors observed in office accounts are as under:

Recording of particulars in incorrect fields.
Posting of transactions in incorrect office accounts.
Errors in writing the amounts.
Double recording of the same transaction.
Squaring off the transaction by the same amount without checking the transactions.
Forced matching of transactions.

RBI guidelines regarding Inter office entries

Considering the fraud prone nature and the fact that there are large number of transactions in inter-office account and the non-reconciliation is widely extended across the banks, RBI has taken a number of measures to achieve an expeditious reconciliation of these transactions by the banks concerned.
Non- reconciliation results in a ‘fraud risk factor’.

Certain objectionable practices observed by RBI in respect of office accounts are as follows:

Disguising the cash transactions of customers to avoid and bypassing reporting of Cash/Suspicious Transactions.
Misuse of funds and indulgence in window dressing by disbursal or repayment of loan through Office Account General Ledger.
Reference number keying in requirements not made mandatory in case of pointing accounts.
Opening of saving and current account and routing their transactions through office accounts.
Dummy debits to the office account and credit to the borrowers account and then reversing the entries to maintain the “standard” status of borrower or to prevent the account from becoming NPA.
Netting off liability related GLs with debit balances with credit
balances in other GLs resulting in disclosing net outstanding in Financials of the Bank.

Many income accounts do not have debit freeze or reference id for reversing charges.

RBI had instructed the banks to reconcile the entries outstanding in their inter branch accounts within a period of six months.
Banks have been advised by RBI to segregate the credit entries outstanding for more than five years in inter-branch accounts and transfer them to a separate Blocked Account which should be shown in the balance sheet under the head ‘Other liabilities and provisions–Others’ (Schedule 5).
While arriving at the net amount of inter-branch transactions for inclusion in the balance sheet, the aggregate amount of Blocked Account should be excluded and only the amount representing the remaining credit entries should be netted against debit entries.
Banks have been advised that any adjustment from the Blocked Account should be permitted only with the authorisation of two officials, one of whom should be from outside the branch concerned, preferably from the controlling/head office if the amount exceeds a particular amount.
RBI had also advised the banks to maintain, beginning April 1, 1999, category-wise (head-wise) accounts for various types of transactions put through inter-branch accounts so that the netting can be done category-wise.
Further, considering the fact that an unreconciled debit entry in the Inter Office account may not represent an asset as a result of fraud or otherwise, the Reserve Bank of India vide its circular DBOD. BP.BC.73/21.04.018/2002-03 dated February 26, 2003 has advised the banks to make provision against the net debit balance in the inter-branch account in respect of entries outstanding for more than six months.
Accordingly, banks are required to arrive at the category-wise position of unreconciled entries outstanding in the inter-branch accounts for more than six months as on March 31 and make provision equivalent to 100 percent of the aggregate net debit under all categories.

While doing so, the banks are required to ensure that:

The credit balance in the Blocked Account created is also taken into account; and
The net debit in one category is not set-off against net credit in another category.

Download PDF

JAIIB AFM Module A UNIT 10 – BACK OFFICE FUNCTIONS HANDLING UNRECONCILED ENTRIES IN BANKS (Ambitious Baba)