## Audit of Provisions and Contingencies in Banks

Banks are required to make provisions for loans based on asset classification (standard vs. non-performing). The auditor's job is to verify both the accuracy of classification and the adequacy of provisioning in line with RBI circulars.

### Key Audit Procedures

Step	What the Auditor Does
1. Regulatory Compliance	Verify that provisioning follows RBI circulars and other regulatory requirements
2. Understand Computation	Obtain and understand how the bank computes provisions on standard and non-performing assets (NPAs)
3. Sample Verification	Verify loan classification on a sample basis
4. Reconcile with GL	Obtain detailed break-up of standard and NPA loans; agree outstanding balances with the general ledger
5. Tax Provision	Obtain tax provision computation from management; verify items in P&L are correctly treated in the tax calculation

### Why This Matters

Under-provisioning inflates profits and misleads stakeholders.
Over-provisioning reduces taxable income improperly.
Incorrect loan classification directly misstates balance sheet.

### NPA Classification (Background)

Standard Assets: Performing loans — lower provision rate.
Sub-Standard / Doubtful / Loss: Non-performing — higher provision rates mandated by RBI.

Worked example

### Example 1

Example 1 — Loan Classification Sample Check

ABC Bank has 10,000 loan accounts. The auditor selects a sample of 200 accounts and reviews overdue status, collateral, and repayment history. She finds 5 accounts misclassified as 'standard' that should be 'sub-standard' (overdue > 90 days). She recalculates the required provision and reports the shortfall.

Implication: If the bank had ₹50 crore in these accounts and the required provision rate is 15%, the under-provision = ₹7.5 crore — a material misstatement.

### Example 2

Example 2 — Tax Provision Verification

The auditor obtains the tax provision working from management. She notes that a penalty payment of ₹2 crore was debited to P&L but disallowed under the Income Tax Act. Management had incorrectly treated it as deductible. The auditor insists the tax provision be recalculated excluding this item, increasing the tax liability.

⚠️ Common exam mistakes

Confusing 'standard asset provision' (mandatory, lower rate) with 'NPA provision' (higher, depends on classification age and collateral)
Forgetting that the auditor verifies both existence of provisioning policy AND its correct application — not just that a policy exists
Overlooking the need to reconcile the loan break-up to the general ledger — sample work alone is insufficient
Ignoring tax provision verification as part of provisions audit — it is explicitly required

Reference:

Now that you've read this — what's next?

Move from understanding → mastery in 3 clicks. Each option below picks up from this lesson's topic.

🔥 Drill 5 Qs on this → ✍️ Adaptive practice →

Bank Audit — Provisions and Contingencies

Worked example

⚠️ Common exam mistakes