Banks constitute an important institutional source of financing the working capital requirements of business. Banks consider various aspects such as production and marketing plans of the customer while determining the credit requirements. The amount so determined by the bank is known as credit limit. Bankers are required to fix separate credit limits for various types of credit facilities to be extended to various types of borrowers. Margins are kept by the banker before granting credit. This is based on the principle of conservatism and is decided to ensure safety of funds.
Banks extend the following types of facilities to customers: Over draft, cash credit, purchase or discounting of bills and demand loans. Over draft is a temporary arrangement where by the customer is allowed to draw over and above the balance standing to the credit of the customer. This facility is available only for current account holders whereby the borrowers are permitted to withdraw and repay the funds whenever they desire within the overall stipulations.
Under cash credit facility, a borrower is permitted to withdraw funds from the banks up to the sanctioned credit limit. The borrower withdraws the money over a period of time depending upon his credit requirements and repays the same by depositing the surplus funds in his cash credit account. Interest is charged only on the actual balance utilized by the borrower. These advances are granted on the security of current assets. It is considered to be the most flexible form of finance from the borrower point of view.
Demand loans are called the ad hoc or temporary financial accommodation granted to customers to meet unforeseen contingencies. The borrower has to pay a higher rate of interest on these types of advances. For providing the above type of financial facilities, the banker creates a charge by way of hypothecation, by way of pledge, by way of mortgage and by way of lien.
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