Banking Awareness : Loans and advances

 Loans and advances

Loan is the amount borrowed from bank. The nature of borrowing is that the money is disbursed and recovery is made in installments. While lending money by way of loan, credit is given for a definite purpose and for a pre-determined period. Depending upon the purpose and period of loan, each bank has its own procedure for granting loan. However the bank is a liberty to grant the loan requested or refuse it depending upon its own cash position and lending policy.

There are two types of available from banks:
(1) Demand loan, and
(2) Term loan.

(1) A Demand Loan: – it is a loan which is repayable on demand by the bank. In other words, it is repayable at short-notice. The entire amount of demand loan is disbursed at one time and the borrower has to pay interest on it. The borrower can repay the loan either in lump sum (one time) or as agreed with the bank. Demanded loans are raised normally for working capital purpose, like purchase of raw materials, making payment of short-term liabilities.

(2) Term loans: -medium and long term loans are called term loans. Term loans are granted for more than a year and repayment  of such loans is spread over a longer period. The repayment is generally made in suitable installment of a fixed amount. Term loan is required for a purpose of starting a new business activity, renovation, and modernization, expansion/extension of existing units, purchase of plant and machinery, purchase a land for setting up a factory, construction of a factory building or purchase of immovable assets. These loans are generally secured against the mortgage of land, plant and machinery, building and etc….

Cash Credit

Cash Credit is a flexible system of lending under which the borrower has the option to withdraw the funds as and when required and to the extent of his needs. Under this arrangement the banker specifies a limit of loan for the customer (known as cash credit limit) up to which the customer is allowed to draw. The cash credit limit is based on the borrower’s need and as agreed with the bank. Against the limit of cash credit, the borrower is permitted to withdraw as and when he needs money subject to the limit sanctioned.

It is normally sanctioned for a period of one year and secured by the security of some tangible assets or personal guarantee. If the account is running satisfactorily, the limit of cash credit may be renewed by the bank at the end of the year. The interest is calculated and charged to the customer’s account.

Overdraft

Over draft facility is more or less similar to ‘cash credit’ facility is the result of an agreement with the bank by which a current account holder is allowed to draw over and above the credit balance in his/her account. It is a short-period facility. This facility is made available to current account holder who operates their account through cheques. The customer is permitted to with the amount of overdraft allowed as and when he/she needs it and to repay it through deposit in the account as and when it is co

Bills Purchased

Bills, clean or documentary, are sometimes purchased from approved customers in whose favour regular limits are sanctioned. In the case of documentary bills, the drafts are accompanied by documents of title to goods such as railway receipts or bills of lading (BOL). Before granting a limit, the creditworthiness of the drawer is to be ascertained. Sometimes the financial standing of the drawees of the bills are verified, particularly when the bills are drawn from time to time on the same drawees and/or the amounts are large.

Bills Discounted

Usance bills, maturing within 90 days or so after date or sight, are discounted by banks for approved parties. In case a bill, say for Rs. 10,000/- (approx. $223 USD) due 90 days hence, is discounted today at 20% per annum, the borrower is paid Rs. 9,500/- (approx. $211 USD), its present worth. However the full amount is collected from the drawee on maturity. The difference between the present worth and the amount of the bill represents earning of the banker for the period for which the bill is to run. In banking terminology this item of income is called “discount”.

Thanks,

Team GovernmentAdda