Lately, we’ve seen more headlines about the Enforcement Directorate (ED) seizing large amounts of money. This reflects tighter regulations and a push to clean up the lower levels of India’s financial system. The tightening of regulations has not only brought greater transparency but has also laid bare a series of accounting scandals and instances of tax evasion that have permeated the country’s financial fabric.
That’s what we’re here to talk about today, to understand what it is like to be ED in this world of crooks, and while we’re at it, we will look at some case studies on recent accounting scandals. Evading taxes is a fool’s errand, and as our regular readers, we always encourage compliance over complacency.
Understanding the role of the Enforcement Directorate (ED)
The Enforcement Directorate (ED) is an influential organization in India whose primary objective is to combat financial crimes. It serves as a vigilant watchdog that extends its surveillance far and wide to expose and prosecute money laundering and other illicit economic activities. But how does the ED contribute to promoting ethical corporate governance in India?
To comprehend the ED's significance, it's important to understand how unethical practices like concealing illegal earnings or manipulating financial statements can damage a company's reputation and undermine the entire business environment. The ED serves as a potent deterrent, reminding everyone that engaging in shady financial dealings carries severe repercussions. By actively investigating and prosecuting such crimes, the ED helps cultivate a culture of transparency and integrity - two critical components of a healthy corporate ecosystem.
Case Studies of Regulatory Lapses
Just recently, in February 2024, Alkem Laboratories, a pharma major listed on the National Stock Exchange (NSE), made it to the headlines as its stock price tanked 13% in a day. The reason? A report stating the IT Department found bogus claims and excessive deductions was published during market hours, resulting in the stock price ending at a day low.
According to sources familiar with the matter, the Income Tax department has discovered that the company claimed excessive and false deductions for its manufacturing units in Sikkim. The company reportedly claimed bogus deductions amounting to approximately Rs 1,000 crore under special sections such as 80 IC. It was also found that the pharmaceutical company made payments worth hundreds of crores of rupees to doctors and medical practitioners in exchange for prescriptions written for drugs made by Alkem Labs.
The I-T department conducted surveys on the offices and premises of Alkem Labs in September last year after receiving information about possible tax evasion by the firm. The investigation is still ongoing, and the Income Tax department is currently recording statements from relevant officials and scrutinizing the company's data and balance sheets. In response to media reports about the alleged tax evasion, Alkem Labs released a statement denying the allegations and stating that the information published is factually incorrect. The company further emphasized its commitment to compliance and transparency and mentioned that it has fully cooperated with the Income Tax department officials during the survey proceedings.
In the same month, PB Fintech, the parent company of Paisabazaar and Policybazaar, faced a drop in its stock price due to income tax scrutiny related to regulatory lapses and KYC non-compliance.
PB Fintech has confirmed in its latest exchange filing that it will comply with all the requirements of the income tax department, as it had already promised in its earlier communication dated December 14, 2023. Despite this, the company's stock has taken a hit of 5.5 per cent, on the Bombay Stock Exchange (BSE).
The drop in PB Fintech's stock price follows the news of Temasek Holdings, a Singaporean sovereign wealth fund, selling its entire stake of 5.42 per cent in the insurance aggregator for Rs 2,425 crore in a block deal. This news has sent shockwaves throughout the market, and other fintech companies, such as Paytm, are also under the scanner of regulatory authorities.
The Reserve Bank of India recently uncovered multiple accounts at Paytm Bank that were created without proper identification, raising concerns about the company's adherence to regulatory norms. In addition, there are speculations about the Enforcement Directorate investigating Paytm and its founder for alleged money laundering, which Paytm has denied.
We're certain you know about the Paytm saga that is currently unfolding, but we can't end this newsletter without walking you through the reasons behind possibly one of the biggest lapses in regulation we've seen in the fintech space. So what went wrong with Vijay Shekhar Sharma’s brainchild Paytm?
In the years 2014 and 2015, Paytm was highly sought after as a startup due to its innovative approach to digital payments and rapid growth in the Indian market, making headlines every other month. Paytm entered the market at a time when digital payments were still in their infancy, thereby allowing it to establish itself as a leader in the space by being an early player.
In November 2016, the Indian government announced the demonetization of high-denomination currency notes, which resulted in an upsurge in digital payments. Paytm, with its mobile wallet and digital payment services, made the most of this opportunity and witnessed a significant increase in user adoption and transaction volumes, thus becoming a super-successful business. However, two issues emerged:
Firstly, it was non-profitable, and secondly, the company decided to go public without any clear direction towards profitability. But if that wasn’t enough, the exponential growth of the United Payment Interface (UPI) disrupted Paytm’s wallet business.
Enter Paytm Payments Bank (PPBL)
Paytm Payments Bank operates as an independent entity and offers banking services such as savings accounts and debit cards. Despite being under the Paytm umbrella, the two entities have distinct roles – Paytm serves as a digital platform, while Paytm Payments Bank is a licensed financial institution.
Paytm's repeated hiccups with regulatory compliance suggest the truth of the saying, “Old habits die hard.” Paytm has a chronic problem with adhering to regulations and may struggle to implement effective compliance practices. Here are four instances from the past that have put the organization on the regulators’ radar:
In 2018, RBI halted new accounts due to violations of licensing conditions, which included breaches of day-end balances and non-compliance with KYC guidelines.
In October 2021, PPBL was fined Rs 1 crore for submitting false information to the RBI.
In 2022, RBI found cybersecurity, KYC, and technology failures, prompting a customer onboarding freeze and audit. RBI also found the same servers were used for One 97 Communication entities and the bank - which is not allowed as per RBI guidelines.
Post-audit, PPBL faces a hefty fine in 2023 for continued KYC non-compliance.
As for the present, the Reserve Bank of India (RBI) has imposed strict and sweeping restrictions on the payment bank business. These measures include immediately ceasing new deposits and credit transactions since February 29. The RBI took this decisive action after uncovering serious irregularities in KYC norms, compliance issues, and related party transactions. The RBI's thorough investigation was prompted by concerns about money laundering and questionable transactions involving substantial sums of money.
Reports indicate that Paytm's Payment Bank had numerous accounts lacking proper identification, with instances of multiple accounts being created using the same PAN. Furthermore, it was revealed that in some cases, the total transaction value exceeded crores, surpassing the regulatory limits for minimum KYC prepaid instruments. In light of these findings, the RBI has unequivocally directed Paytm Payments Bank to immediately cease accepting deposits or top-ups across various instruments since February 29, 2024.
And that's a wrap on the first part of accounting case studies! Stay tuned for the next newsletter, where we'll provide actionable tips to fight accounting and tax scams. Here at JJ Tax, we prioritize client safety and understand the importance of ethical financial practices. If you're looking for a reliable and experienced tax and accounting partner, visit our website at JJ Tax, and we’ll fix your accounting woes.
Like always, stay compliant - stay informed and stay ahead with — JJ Tax by your side!
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