Mumbai: In a major decision, the RBI on Tuesday banned banks from issuing Letters of Undertaking (LoUs) - instruments used allegedly by diamantaire Nirav Modi and his uncle Mehul Choksi to defraud state-owned PNB of almost Rs 13,000 crore in conniva-nce of bank officials.
The Reserve Bank of India also barred the issuance of letters of comfort, but said letters of credit and bank guarantees can be continued to be issued if certain rules are met.
Apart from diamond trader Nirav Modi and his uncle Mehul Choksi, some PNB employees have been accused of misusing their access to the bank's SWIFT electronic messaging system used for overseas funds transfers.
Buyer's credit is a loan an importer (from India) gets from foreign banks which may be subsidiaries of Indian banks.
The report quotes PNB General Manager Ashwini Vats who wrote in a response to Modi, saying, "You are aware of the amount of fraud committed by you and yet you propose to pay a paltry amount with no proposal or ability to pay the remaining amount".
India's central bank ordered commercial banks on Tuesday to stop issuing with immediate effect guarantees in the form of letters of undertaking - which are at the heart of the country's biggest bank fraud - in the latest regulatory clampdown.
An LoU is provided against a margin or a collateral which could be in the form of a fixed deposit. "In the case of LCs for import of goods, banks should be very vigilant while making payment to the overseas suppliers on the basis of shipping documents". On the other hand, an LoC is an instrument which is similar to an LoU, except that it is an intra-bank transaction.
The RBI decision could potentially push up the cost of imports by up to half a percentage point, besides putting foreign banks on an even keel with Indian banks in financing imports, bankers said.
Experts said the RBI's move to bar LoUs could affect genuine importers.