A brief Post About Banking Instruments Part II
10/07/2015 07:28:00 AM
Non-Resident
Ordinary (NRO)
You are a citizen of India. You work
here, and you have a good income. Now suppose, you want to move to a foreign
country (for whatever purpose) (meaning you are going to be an NRI).
Then what will you do to for your Indian earnings, like rent,
dividends? Or may be you want to send remittances from
foreign country. Then the handy account for you is Non-Resident Ordinary
(NRO) Rupee Account.
The balance maintained in
this type will be Rupee (INR) dominated. You can open Savings,
Current, Fixed, Term - types of account.
Non-Resident
External (NRE)
You are already an NRI.
You have foreign currency with you. You can open this type of NRE
Account. Note that you have to deposit foreign currency while opening
this account (can use traveler's cheque or notes).
The balance will be
maintained in Rupee (INR). This will facilitate mostly in your remittances to
India. You have several options or opening Savings, Current, Fixed, Term accounts.
Foreign Currency Non-Resident
Bank (FCNR(B))
This is another type of account for NRIs
and almost similar to NRE account. However there are some major
differences -
- You can only maintain your FCNR(B)
account in foreign currencies (like, Pound, Dollars, Euro, Yen,
etc)
- Only one type of deposit is
allowed - term deposit of 1 to 5 year maturity.
Now, try to compare these three
types of accounts -
Non-Resident
(Ordinary) Rupee Account (NRO)
|
Non-Resident
(External) Rupee Account (NRE)
|
Foreign
Currency Non-Resident (Bank) Account (FCNR(B))
|
|
Currency
|
Rupee Denominated (INR)
|
Rupee Denominated (INR)
|
USD, Pounds, Euro, Yen, etc.
|
Who can open?
|
NRI, Resident before becoming an NRI
|
NRI
|
NRI
|
A/c type
|
CASA, Fixed/Term
|
CASA, Fixed/Term
|
Only Fixed/Term
|
Purpose
|
To park Indian earnings,
like rent, Indian salary, dividend, etc.
|
To park overseas savings remitted
to India by converting to INR
|
To maintain account in foreign
currency. Only term deposit of 1 to 5 years
|
Repatriation
|
Only interest on NRO account
balance (after deducting TDS)
|
Yes
|
Yes
|
Tax
|
Taxed as per applicable slab rate
|
Tax free
|
Tax free
|
Lending money is one of the two
major activities of any bank. Banks accept deposits from
public for safe keeping and pay interest to them. They then lend this
money to earn interest on this money. In a way, the banks act as intermediaries
between the people who have the money to lend and those who need
the money to carry out business transactions.
Spread – The difference between the rate at which the interest
is paid on deposits and is charged on loans, is
called the “spread”.
Lending Activity – Commodities, Debts, Financial
instruments, Real Estate, Automobiles, Consumer durable goods, Documents of
title.
Apart from the above categories, the
Banks also lend to people on the basis of their perceived
personal worth. Such loans are called clean and the
banks are understandably cagey about extending such loans. The credit card
arms of the various banks, however, fill up this void.
CASH CREDIT (CC)
ACCOUNT – This account is the primary
method in which banks lend money against the security of
commodities and debt. It runs like a current account except that
the money that can be withdrawn is not restricted to the amount deposited
in the account. Instead, the account holder is permitted to withdraw
a certain sum called “limit” or “credit facility” in excess
of the amount deposited in the account.
Cash Credits are, in theory, payable on
demand. These are, therefore, counter part of Demand Deposits of the
banks.
OVERDRAFT (OD) – The
word “overdraft” means the act of overdrawing from a bank
account. In other words, the account holder withdraws more money
from a bank account that has been deposited in it.
Now try to understand about the differences
between these two -
The primary differences
between cash credit and over draft is how they are secured
and whether the money is lent out of a separate account.
Cash
Credit (CC)
|
Over
Draft (OD)
|
|
User
|
More commonly offered for businesses
than individuals
|
Can be used for any purpose, individual
or business
|
Security
|
Security can be a tangible
asset, such as stock, raw materials, or some other commodity
|
Allowed against a host of other securities
including financial instruments, like shares, units of MFs,
surrender value of LIC policy and debentures etc. Some ODs
are even granted against the perceived “worth” of an individual,
known as clean ODs.
|
Credit Limit
|
A certain percentage of the
value of the commodities / debts pledged by the a/c holder
|
Acts more like a traditional
loan. Money is lent as with a cash credit account, but a wider
range of collateral can be used to secure the credit.
|
Bill Discounting :-
The drawer of the bill does
not want to wait till the due date of the bill and is need of
money, he may sell his bill to a bank at a certain rate
of discount. The bill will be endorsed by the drawer with a signed
and dated order to pay the bank. The bank will become
the holder and the owner of the bill. After getting the
bill, the bank will pay cash to the drawer equal to the face
value less interest or discount at an agreed rate for
the number of days it has to run. This process is known as discounting of a
bill of exchange.
For example, a drawer has a
bill of Rs. 10,000. He discounted this bill with his bank 2
months before its due date, at 15 % p.a. rate of discount.
Discount will be = Rs. 1,000 x 15/100 x 2/12 = Rs. 250. Thus the drawer
will receive a cash worth Rs. 9,750 and will bear a loss of
Rs. 250.
The bank will keep this bill
in possession till the due date. On maturity (due date)
the bank will present the bill to the acceptor and will receive cash from
him (if the bill is honored). In case, the acceptor does not make the payment
to the bank, then the drawer or any person who has discounted the
bill have to take this liability and will pay cash to the bank.
N.B. Until the bill is honored
on the due date, there is always a chance the drawer will
become liable on the bill. This is called a Contingent
Liability – a liability that will only arise if a certain event
occurs – the acceptor does not honor the bill.
Letter of Credit (L/C)
It is a guarantee in the form of a letter, issued by a buyer's bank. Suppose you want to buy or sell some goods from or to a foreign country. It is very much possible that you don't know theseller or buyer. And also the laws regulating the trade may be different. Therefore, both the seller and the buyer need some kind of guarantee to seamlessly perform the trade. Here Letter of Credit comes into action.
It is a guarantee in the form of a letter, issued by a buyer's bank. Suppose you want to buy or sell some goods from or to a foreign country. It is very much possible that you don't know theseller or buyer. And also the laws regulating the trade may be different. Therefore, both the seller and the buyer need some kind of guarantee to seamlessly perform the trade. Here Letter of Credit comes into action.
The steps involved is very much as follows -
Step 1 - First a contract is signed between the buyer and the seller.
Step 2 - The buyer comes to his bank, and the bank issues a Letter of Credit, on behalf of the buyer, to the seller.
Step 3 - After getting the Letter of Credit, seller knows that he will be paid surely. So he consigns the goods to a Carrier, in exchange of a Bill of Lading (Carrier provides it to the Seller)
Step 4 - Seller takes the Bill of Lading and provide it to his bank (i.e., seller's bank), who eventually transfers it to buyer's bank, who then provides it to the buyer.
Step 5 - Buyer takes
the Bill of Lading, and gives it to the Carrier. The Carrier then
gettinghis
own Bill of Lading, delivers the goods to the buyer.
Step 6 - Carrier then
asks his payment from the Seller, by providing his Bill of
Lading, that he has actually delivered the goods.Step 7 - Seller then asks his bank (i.e., sellers bank) for payment, who eventually asks the buyers bank. The buyers bank settles the payment.
Now you can see that the risks involved is much minimized by using the Letter of Credit, as the seller is guaranteed to be paid by the buyers bank upon delivery of goods.
Even in case, if the buyer doesn't pay the full amount to his bank (buyers
bank), the buyers bank is obliged to pay the amount
to the sellers bank. The buyers bank can later settle the amount
with his buyer, as happens in loans or advances.Since bank guarantee also provides a type of guarantee. Then
what is the difference between a Letter of Credit and Bank
Guarantee?
Letter
of Credit
|
Bank
Guarantee
|
|
Nature
|
Paid only if the contract is satisfied
|
Paid only if the contract is breached,
i.e., not satisfied
|
Use
|
Ensures a transaction proceeds as
planned
|
Insures a buyer or seller
from loss or damage due to non-performance by the other party
|
To Be Continued
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