FORMS OF ADVANCES

Banks offer different kinds of borrowing facilities to their customers. The credit facilities may be broadly classified into four types:

  1. Loans- In the case of loan, the banker advances a lump sum for a certain period at an agreed rate of interest. The entire amount is paid on an occasion either in cash or by credit in his current account which he can draw at any time. The interest is charged for the full amount sanctioned whether he withdraws the money from his account or not. The loan may be repaid in installments or at the expiry of a certain period. The loan may be made with or without security. A loan once repaid is full or in part cannot be withdrawn again by the customer. In case a borrower wants further loan, he has to arrange for a fresh loan. Loan may be a demand loan or a term loan. Demand loan is payable on demand. It is for a short period and usually granted to meet working capital needs of the borrower. Term loans may be medium-term or long-term loan. Medium-term loans are granted for a period ranging from one year to five years for the purchase of vehicles, tractors, tools and equipments. Long-term loans are granted for capital expenditure such as purchase of land, construction of factory building, purchase of new machinery and modernization of plant.
  2. Cash Credit – A cash credit is an arrangement by which the customer is allowed to borrow money up to a certain limit. This is a permanent arrangement and the customer need not draw the sanctioned amount at once, but draw the amount as and when required. He can put back any surplus amount which he may find with him. Thus, cash credit is an active and running account to which deposits and withdrawals may be effected frequently. Interest is charged only for the amount withdrawn and not for the whole amount charged. Cash credit arrangements are usually made against pledge or hypothecation of goods. Sometimes, this facility is also provided against personal security. If the customer does not use the cash credit limit to the full extent, a commitment charge is made by the bank. This charge is imposed on the unutilized portion of cash credit only. Cash credit provides an elastic form of borrowing since the limit fluctuates according to the needs of the business. Cash credits are the most favorite mode of borrowings by the large commercial and industrial concerns in India.
  3. Overdraft – Overdraft is an arrangement between a banker and his customer by which the latter is allowed to withdraw over and above his credit balance in the current account up to an greed limit. This is only a temporary accommodation usually granted against securities. The borrower is permitted to draw and repay any number of times, provided the amount overdrawn does not exceed the agreed limit. The interest is charged only for the amount drawn and not for the whole amount sanctioned. A cash credit differs from an overdraft in one respect. A cash credit is used for long-term by businessmen, whereas overdraft is made occasionally for the short duration in the current account only. Temporary overdraft – Banks, sometimes, grant unsecured overdraft for small amounts to customers having current account with them. Such customers may be government employees with fixed incomes or traders. Temporary overdrafts are permitted only where reliable source of funds are available to a borrower for repayment.
  4. Bills Discounted and purchased – Banks grant advances to their customers by discounting bill of exchange or pronote. The amount, after deducting the interest from the amount of instrument, is credited in the account of the customer. In this form of lending, the interest is received by the banker in advance. Discounting of bill constitutes a clean advance and banks rely on the creditworthiness of the parties to the bill. Banks, sometimes, purchase the bill instead of discounting them. Bills which are accompanied by documents of title to goods such as bills of lading or railway receipt are purchased by the bankers. In such cases, the banker grants loan in the form of overdraft or cash credit against security of the bills. The term ‘Bills Purchased’ seems to imply that the bank becomes the purchaser/owner of such bills. But in almost all cases, the bank holds the bill only as a security for the advance.
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