by Jackson Okoth

It is frustration and a deep sense of desperation as top directors and management at the helm of leading commercial banks hold discussions behind closed-door boardrooms.

This is after a confidential industry report confirmed a steep rise in incidences of fraud within the sector. The purpose of this report, prepared in July by the Kenya Bankers Association (KBA), was to come up with measures to arrest and manage fraud in the industry. Interestingly, while this damning report was handed over to the executive council of the KBA, composed of commercial bank managing directors, its recommendations are yet to be implemented.

The subject of fraud remains one of the least discussed in the banking industry. It is due to this conspiracy of silence that fraudsters effortlessly take one bank after another to the cleaners, perhaps even deploying the same technique.

But an upsurge in the number of new cases involving fraud is forcing this conservative industry to take action. Some of the measures include constant monitoring of trends and preventive measures as well as in-house reviews.

"A manual is being designed to assist commercial banks in the prevention, detection and investigation of fraud. This will curb current trends and bring fraud to manageable levels," Mr John Wanyela, Chief Executive Officer KBA told Financial Journal.

While the actual industry losses cannot be ascertained, as commercial banks are reluctant to share information citing legal concerns, the red flags are up.

Unconfirmed figures from the Banking Fraud Investigation Department (BFID) at the Central Bank of Kenya (CBK) reveal that in the first seven months of this year, the industry lost an estimated Sh456.3 million through fraud and Sh186.7 million in attempts. This compares with an industry loss of Sh85 million and Sh222 million in attempts in 2006.

Last year, Sh913,154,010.60 was lost in local currency while $291,000 was in dollars.

While there are no common fraud types experienced in the banking industry, experts attribute most of the new cases to bank staff complicity and collusion with third parties. This is made possible by weak internal controls within some banks, which can easily be overridden.

The situation has been worsen by a lax staff unwilling to adhere to the controls in place.

"Most of the commercial banks still lack capacity and skilled risk managers or fraud officers, making risk assessment ineffective," said Ms Jane Mugo, chief executive, Association of Certified Fraud Examiners (ACFE) — Kenya Chapter.

Mugo says managing fraud needs the company affected, including commercial banks, to adopt best practices and conduct awareness among employees and customers.

"There is need to engage more forensic consultants as fraud takes on a new trend and design each day," said Mrs. Mugo. ACFE represent a broad range of professionals, including accountants, auditors, investigators, law enforcement officers, lawyers, prosecutors, and anti-fraud professionals.

There are 100 international ACFE Kenyan members, 36 of them Certified Fraud Examiners. Industry sources told Financial Journal that banks are recording ‘substantial’ losses through paper, cards or electronic means. But it is not only the changing environment that is causing revenue leakages for banks.

"Increased police patrols in the Central Business Districts and CCTV camera installation within bank premises has reduced physical attacks. But this led to increases in fraud," said Jimmy Mwithi, chairman, Fraud and Security Sub-Committee, KBA.

Mwithi blames poor vetting of new staff recruited as part of the reason banks are exposed to fraud. "There is no database that tracks down and blacklists those individuals who steal from the banks to ensure that they do not work elsewhere in the industry," said Mwithi.

He cites reluctance by banks to share information as the biggest obstacle facing the fight against fraud in the industry. It is the lack of a formal platform to share information among the banks that fraudsters have a field day hitting a number of players undetected.

Currently, fraudsters are able to open accounts in different banks using different Identity Cards (IDs) and names.

"More and more customers are being defrauded by bank employees or unknown persons. This fraud is especially common in transactions involving cheques,’’ said Mwithi, who is also Head of Security, Consolidated Bank of Kenya.

For those fraud cases that end up in court, most end up in acquittals due to failure by the police officers to adduce adequate evidence to effectively prosecute fairly complex cases arising out of insufficient prosecutorial experience.

There is also a feeling that in most of the court cases involving fraud, bond terms have been found to be extremely lenient and not commensurate with the frauds committed and therefore not a deterrent.

There are cases where an individual accused of fraudulently obtaining Sh70 million is given a cash bail of Sh20,000.

"There is an ongoing exercise to increase the knowledge of judicial officers and police to improve their understanding and improve prosecution and obtaining convictions," said Wanyela.

While banks in most cases suffer cash losses through electronic transfers of parallel cheques, the most common types of fraud in the industry include identity frauds.

"This is where an individual opens an account using fake passports or identity documents. Most banks do not authenticate these documents due to pressure by direct sales staff to meet targets and earn commissions," said Mwithi.

In a highly competitive environment, banks are eager to entice new customers and therefore throw away the Know Your Customer (KYC) requirements.

It has also been noted that most fraudulent accounts are opened during Initial Public Offer (IPO), which helps to introduce forged cheques into the banking system," says Mwithi.

Banks are also exposed to rising cases of fraud involving Electronic Funds Transfers (EFTs). This is especially prevalent in cases where staff collude to have funds transferred to offshore accounts.

Also on the rise is clearing frauds, which involves collusion between bank staff and corrupt Kenya Revenue Authority (KRA) employees . In this instance, third parties intercept funds such as VAT and income tax payments to KRA. In the last few months, two middle-sized banks have lost colossal sums from their KRA accounts.

Cheque frauds are still prevalent in the industry even after introduction of more elaborate security features. Industry insiders told Financial Journal that the printing machines in downtown Nairobi are capable of printing copycat cheques, complete with watermarks and thus gaining acceptance by bank clerical staff, who then process them through the clearing house.

Attempts to curb fraud are being frustrated by a confidentiality clause, which prohibits banks from sharing information about their customers.

"In order to freeze a suspected fraudulent account, one needs to obtain a court order. But we expect the proposed bill on Anti-money Laundering and Economic Crimes, to resolve this problem of confidentiality," said Mwithi.

A forensic auditor at one of the leading banks said banks are losing millions of shillings through electronic funds transfers, targeting big accounts with millions such as KRA.

"It is the reluctance by courts to issue search and freeze orders on suspected fraudulent accounts and lenient cash bails that is providing a though pass to fraudsters," said the officer, who requested anonymity.

A report by the KBA sub-committee recommends that banks introduce fraud risk management encompassing detection, prevention, fraud response and investigation.

The association has also sought strict adherence to CBK prudential guidelines, clearing house rules, banking act and best practices.

Banks will also be required to conduct mandatory recruitment screening and carry out background checks on their staff, address relationship of staff with money lenders or shylocks and pecuniary embarrassed staff to be dealt with according to laid down procedures.

In the long term, KBA is proposing the creation and maintenance of a confidential database that monitors fraud activity, including method and occurrence, personnel or companies involved, banks at risk, conviction of cases and weaknesses found in the system.

KBA recommends that when fraud is detected, there should be mandatory investigation and prosecution, protection of whistleblowers and that involvement of the police should be mandatory. The association also wants the cases publicised.

In an effort to detect fraud, the use of statutory audits, internal controls with proper audit trails and automated fraud management systems are required to be installed in all the banks.

Whistle blowing, data mining, hotlines or lifestyle audit of employees is also on the list of tools recommended for fraud detection in banks.

Commercial banks will also be required to provide statistics on overall trends and tendencies, highlight fraud risk areas, quantify losses and recoveries and maintain updated figures and data on incidences, to be shared with other banks through KBA.