Nostro reconciliation:

how it works in a bank

Thought Paper

www.infosys.com/finacle
Universal Banking Solution | Systems Integration | Consulting | Business Process Outsourcing
 Introduction to the foreign exchange market
The Foreign Exchange (FX) Market is one of
the biggest and most liquid markets in which
currencies are traded over the counter (OTC)
involving players like central banks, corporate
majors, hedge funds, investment banks,
commercial banks etc. It aids activities such as
cross-border trade, mergers & acquisitions,
tourism etc. As per the Bank for International
Settlements, the average daily turnover of global
foreign exchange as of April 2010 is estimated
at $3.98 trillion.
In order to deal in the Foreign Exchange Market
and transact in foreign currencies, banks
maintain accounts with other banks globally.
This is known as a Nostro Account. For instance,
consider two banks: ABC Bank, New York and
XYZ Bank, Mumbai. For XYZ Bank, its account in
ABC Bank is a Nostro Account (My account with
Terms used in the reconciliation process
The account maintained by a bank with another
bank is known as a Nostro account and the
statement which it receives from the bank
with which it maintains accounts is known as a
Nostro account statement. The replica of this
account is maintained by the bank in its books
for operational purposes and is known as a
Nostro mirror account.
Through the process of reconciliation, banks can
track the status of cash received/receivable and
the amount paid/payable and track unsettled
transactions either in mirror or in actual Nostro
accounts. For instance, banks can ensure that
their interbank cash flows from FX Spot, FX
Forward, FX Swaps, borrowings, placements,
derivative trades and merchant flows like
02 Thought Paper
you) and ABC Banks account with it is a Vostro
Account (your account with me). Nostro and
Vostro are Italian words for Our and Your
respectively. Reconciliation of these accounts is
called Nostro Account Reconciliation or simply
Nostro Reconciliation.
In India only Scheduled Commercial Banks
(SCB) can maintain a Nostro Account, and three
types of branches are permitted to deal in them.
The A category branch owns, maintains and funds
this account. After the Nostro Reconciliation, they
submit the statutory returns to the appropriate
authorities. The B category branch can operate
the account maintained by A category branches
and the C category branches are the remaining
Scheduled Commercial Bank branches dealing
through B or A category branches for their
forex transactions.
Foreign Bills purchased/realized, Foreign Inward/
Outward Remittances etc. are received and
paid appropriately.
It is important for banks to reconcile Nostro
accounts immediately on receipt of the
statements from the correspondent banks as
this will enable them to reconcile the same
with their Nostro mirror balances and also take
quick remedial action in case of unsettled/
discrepancy in transactions. Most banks receive
Nostro account statements through SWIFT
MT940 and MT950. Banks without SWIFT get
a soft copy of the statement either by email or
a hardcopy delivered from the local branch of
the correspondent bank.
Access to users
Reconciliation is an important activity with
only authorized users permitted to do it. To
ensure and manage operational risk in the
reconciliation process, generally two independent
Process of reconciliation
Nostro debit entries are reconciled
against the mirror credit entries
Nostro debits may arise due to:
Honoring the payment messages sent by the
bank/payment of draft issued by the bank
Charges debited in the Nostro accounts
Reimbursement to negotiating bank, under
Letters of Credit transactions
Payments on account of interbank deals
This is to ensure that all the payment settlements
are acted upon by the correspondent bank and
are reflected in the Nostro statement accordingly.
Nostro credit entries are reconciled
against the mirror debit entries
Nostro credit may arise due to:
Various methods of reconciliation
Options include Automated Reconciliation
through specialized solutions, wherein Straight
Through Processing is possible and Manual
Reconciliation using the Nostro Statements and
Mirror Accounts.
Automated Reconciliation happens as the
following types of reconciliations:
Fully matched: Reconcile only when all the
given conditions like currency, amount,
teams from the bank are involved. Normally
treasury back office users handle settlements,
whereas middle office users take care of
Nostro reconciliation.
Inward remittances received on behalf of
customers
Interest amount credited
Receipts from interbank deals
Realization of bills sent for collection
Reimbursement of negotiated bills
This is to ensure that all the receipt settlements
are acted upon by the correspondent bank and
are reflected in the Nostro statement accordingly.
Credit in the Nostro mirror is to be reconciled
with debit in the actual Nostro account.
Credit in actual Nostro is to be reconciled with
debit in Nostro mirror accounts.
value date, transaction reference number,
counterparty etc. are matching.
Partly matched: In this case all the conditions
need not be met. Some relaxations can be
made from the auto-matched condition
e.g. Reference number etc.
Un-reconciled entries pending post Automated
Reconciliation can be cleared through:
Thought Paper 03
 Forced matching: This is a manual process
where the user can choose transactions and
force match them.
In forced matching: One-to-many (one
credit with multiple debits or vice versa)
reconciliation can also be done.
Most of the reconciliation solutions support
uploading of SWIFT statements MT940 and
MT950 along with other types of file formats.
Illustration:
XYZ Bank, Mumbai prepares a Nostro
Reconciliation Statement for its USD Nostro
Account with ABC Bank in its books as under.
Reconciliation Statement of ABC Nostro in USD
Currency for the month ending XXX
Amounts in USD
Balance as per the Mirror
Account (Debit Balance) XXXX
Less: Un-reconciled
Mirror Debits XXXA applied either because the customer is unaware
Less: Un-reconciled
Nostro Debits XXXB of interbank transactions, it means that either
Add: Un-reconciled
Mirror Credits YYYA a deal or has paid before the due date.
Add: Un-reconciled
Nostro Credits YYYB In the event of a long-pending unapplied
Balance as per the Nostro
Statement (Credit Balance) ZZZZ
Balance as per the Nostro Statement is the
derived figure, which should match with the
actual Nostro Balance. On matching, the Nostro
Reconciliation process is deemed complete and
thereafter banks aim to minimize un-reconciled
or open items.
The following section lists each un-reconciled
entry in the order of importance or risk to the bank:
Un-reconciled mirror debits
These entries are of utmost importance to the
bank as they reflect the extent of fund shortage.
They indicate that funds have either been
paid without the Nostro credit or paid twice. In
case of interbank transactions, outstanding
04 Thought Paper
entries here indicate funds not received from
the counterparty.
Un-reconciled nostro debits
These entries point to a wrong payment or
payment of an incorrect amount. They are
second in the order of importance because
funds have already left the banks Nostro
account. Outstanding entries in case of interbank
transactions indicate that funds have been paid
out to the counterparty without a deal in the
books or have been paid wrongly or an incorrect
amount has been paid.
Un-reconciled mirror credits
In this case, a payment initiated by the bank is
not acted upon by the Nostro agent. This is true
of interbank transactions as well.
Un-reconciled nostro credits
Here, funds received by the bank are not
of receipt or undecided on what to do. In case
the counterparty has made a payment without
Nostro credit, the treasury back office or the
branch where the customer holds the account
is contacted and all relevant details are sought.
Several unapplied or incorrect credits in a
Nostro account mean a greater propensity of
fraud and reconciliation not being a guarantee
for correctness of funds applied, owing to high
transaction volumes. Banks need to control
application of funds older than one month
through multiple authorization levels. Un-
reconciled Nostro credit over long periods
attracts the wrong kind of attention. Staff
dealing with this routinely and aware of the
workings of this account can collude and divert
these funds to a fraudulent operative account.
Frauds of this nature come to light when the
original beneficiary or remitter comes to check
with the bank, in all likelihood, after the
damage is done.
Fails management
Banks can charge interest on delayed interbank payment. The latter is preferred if the bank has
payments or ask for back validation of the run into overdraft due to non-receipt of funds.

MIS to management/Central bank

Banks prepare age-wise analysis of un- outstanding un-reconciled entries in the bank. In
reconciled Nostro entries to share with the India, Scheduled Commercial Banks are required
top management and the Central Bank. This is to submit the un-reconciled Nostro entries to
done with the intention of keeping minimum the Reserve Bank of India on a monthly basis.

Specialized reconciliation solutions

Banks look to automate the Nostro Finacle Nostro Reconciliation from Infosys
reconciliation process as it is a key factor in Limited
funds management and credit risk.
Ambit Reconciliation from SunGard
Some of the reconciliation solutions available in
There are various other options, which offer a
the market are:
host of solutions like position, securities and
Smart Stream from Smart Stream Technologies payment reconciliation, among others.

Vinod Kumar Adepu

Principal Consultant, Finacle, Infosys

Thought Paper 05
About Finacle
Finacle from Infosys partners with banks to transform process, product
and customer experience, arming them with accelerated innovation
that is key to building tomorrows bank.

For more information, contact Finacleweb@infosys.com www.infosys.com/finacle

2013 Infosys Limited, Bangalore, India, Infosys believes the information in this publication is accurate as of its publication date; such information is subject to change without notice. Infosys
acknowledges the proprietary rights of the trademarks and product names of other companies mentioned in this document.