Related-Party Loan, KYC Shortcut and Priority-Sector Gap
A district central cooperative bank's inspection finds three linked issues before its annual general meeting. A director's proprietary firm has a ₹42 lakh cash-credit account overdue for 75 days. The same director attends the loan committee that is asked to approve a fresh ₹25 lakh loan to the firm against the same collateral and to waive ₹1.80 lakh penal interest. Separately, a gold-loan customer submits a rent agreement in another person's name as address proof; the branch manager proposes to accept a self-declaration instead of further verification. The bank is also three percentage points short of its priority-sector lending target and plans to classify a large clean credit to a trader as agricultural advance. The board wants a decision before the AGM, not a general lecture on rules.
1. Identify the governance and conflict-of-interest risks in the director's loan proposal and state the process the committee should follow.
Read the worked answer
The risks are: (i) related-party lending - the borrower is linked to a director; (ii) the director is present in the approving forum; (iii) the account is already stressed at 75 days overdue; (iv) a fresh loan against the same collateral can amount to evergreening and hide the overdue; and (v) a penal-interest waiver without a written policy or delegated authority is a preferential benefit. Process: the director must disclose the interest and recuse from discussion and voting; the committee should not approve in that meeting. Refer the proposal for independent credit appraisal, fresh valuation and legal check of collateral, group-exposure verification, and confirmation that the new loan is not replacing overdue interest. Any waiver must follow the board-approved policy and delegated limits, with reasons recorded. The final approval should be by directors who are not interested, and the audit committee should review the account.
2. Should the branch accept the self-declaration for the gold loan? Outline a firm but customer-sensitive KYC decision.
Read the worked answer
No. A self-declaration is not a substitute for verification when the only address proof is a rent agreement in another person's name; that creates identity and fraud risk. The branch should explain the requirement, request an acceptable address proof in the customer's name (utility bill, bank statement, registered lease with supporting ID, or other permitted document), and if the customer lacks one, use a documented alternative such as a field visit plus senior-officer approval and additional identity verification, where policy allows. Do not simply reject the customer at the counter or close the account without due process. Record what was requested, what was verified, who approved any exception, and retain the evidence. If the customer cannot be verified, escalate rather than accept a bare declaration.
3. Evaluate the plan to classify the trader's clean credit as an agricultural advance and propose a compliant alternative.
Read the worked answer
A clean credit to a trader is not agricultural merely because the bank needs to close a target gap. Misclassification would misstate priority-sector achievement, breach reporting integrity, and could attract supervisory action. The branch should first check whether the exposure genuinely qualifies under an eligible priority-sector category, such as a qualifying MSME or weaker-section loan, based on end-use and borrower eligibility. If it does not, it should not be labelled agricultural. Compliant options are to book genuine eligible loans, improve sourcing of eligible agriculture/MSME proposals, and use permitted routes such as priority-sector lending certificates or participation, only where the bank is legally permitted and the transaction is real. The shortfall should be disclosed honestly and corrected prospectively, not by re-labelling a trader's clean credit.