In the aftermath of the Nirav Modi scam at Punjab National Bank, the Reserve Bank of India (RBI) today instructed all banks to discontinue the issuance of Letters of Undertaking for trade credits pertaining to imports into India. This order will be applicable with immediate effect, the RBI said.

This knee jerk reaction is seen as a direct fallout of the multi-crore scam involving PNB and the Nirav Modi-Mehlu Choksi duo. As per analysts, this move is set to hit business that rely upon imports and are usually subservient on Letters of Undertaking to procure Bank guarantees.

The Nirav Modi-Mehul Choksi case was a result of fraudulent issuance of LoUs/Foreign Letters of Credit for the payment of import bills and fraudulen transactions amounting to nearly Rs 13 thousand crore – as reported by PNB to RBI.

WHAT IS AN LOU

Letters of Undertaking are bank guarantees which permit a bank to allow its customer to raise money from an overseas branch of an Indian bank under short term credit. This amount is used to pay the customer’s offshore suppliers in foreign currency. The overseas branch lends to the importer based on the LoU issued by the importers bank.

The RBI provision, however said that the Letters of Credit and Bank Guarantees for import related trade credits may continue to be issued subject to compliance with provisions.

Source: Media Reports