Law and Practice of Banking

Law and Practice of Banking Question(s) and Answer(s)

What is loan syndication? What are the advantages and disadvantages of loan syndication?

What is lead bank? Discuss the duties and responsibilities of Lead bank in loan syndication.

Ans: Loan Syndication:

Loan syndication is a lending process in which a group of lenders provide funds to a single borrower. It is a funding mechanism where two or more banks come together contribute a portion of the loan to finance the project. Loan syndication is the most common form used for funding project finance deals, especially when it involves large sums. This is especially true for energy and infrastructure projects. The implementation of the planned project depends on the availability of funds to finance it from start to completion. Equity contribution is usually limited and the project is usually financed by debt for a large proportion of its finance structure, sponsors therefore must ensure that funds are available before the project starts. The project finance is based on limited or non-recourse3 to sponsors, therefore repayment of the loan is based on the isolated and assignable cash flow from the project4 . Therefore banks need assurance to the effect that the project will be able to generate revenue after its completion phase before committing funds to the project. This is done by ensuring that the project has an off-taker5 , commitment by sponsors through various covenants and representations, input supply contract (fuel or gas in case of power projects), engineering, procurement and construction contract and government support undertakings.

Loan syndication, where a group of banks makes a loan jointly to a single borrower, offers several benefits. Syndication allows banks to diversify, expanding their lending to broader geographic areas and industries. Second, syndication allows banks that are constrained by their capital-asset ratios to participate in loans to larger borrowers.

Despite these benefits, loan syndication could pose additional risks for the banking system, if the originating or lead banks withhold information about the borrower from participating banks, misleading them into making loans that are riskier than they thought. This study uses data on loan syndication’s to test the importance of various factors that motivate the participants. Despite a significant number of problem credits among the syndicated loans studied, it finds little evidence of opportunistic behavior by the lead banks in syndication’s. At the same time, it finds substantial support for the importance of bank regulation, in the form of capital requirements and lending limits, to the existence of the bank syndication market.

Banks participating in syndicated loan programs are all members of consortiums. They can be generally divided into lead banks, correspondent banks and participating banks based on their function in a syndicated loan project.

A lead bank is a bank that oversees the arrangement of a loan syndication. Thelead bank is paid an additional fee for this service, which involves recruiting the members and negotiating the financing terms

  1. Lead Banks A lead bank is also known as Managing Bank. This term refers to a bank that, with the approval of the Borrower, creates and organizes the syndicate and takes responsibility for distributing shares in the loan to other participating banks. Based on the lead bank’s loan percentage, the business can be classified as exclusive underwriting, partial loan underwriting and aggressive sales promotion of the loan.
  2. Correspondent Banks A correspondent bank can be either the lead bank or another bank or financial institution selected by the bank consortium. The correspondent bank disburses the loan to the borrower in accordance with the terms of the loan agreement, and manages the loan as entrusted by the consortium based on its prescribed duties. The duties of a correspondent bank include:
    1. Liaison: Contacting the borrower on behalf of the consortium for daily business and sharing information among consortium members;
    2. Manager: Acts as loan manager by supervising the disbursement of loan funds in accordance with contractual preconditions, supervising the use of the loan and dealing with breaches of loan terms.
    3. Mail Carrier: Receiving notices sent by the borrower on behalf of the consortium.
    4. Payment Agent: Disbursing and recovering loan amounts. If the syndication loan has a complicated guarantee structure, a guarantee agent can be appointed to take responsibility for the implementation of guarantees for syndicated loans, the registration of collateral (pledges) and management.
  3. Participating Banks Participating banks are the banks that accept invitations from the lead bank to syndicate the loan and make disbursements to the borrower based on their own committed credit lines.

What is crossed Cheques? Discuss types of crossed cheques.

Crossing is an instruction given to the paying banker to pay the amount of the cheque trough a banker only and not directly to the person presenting it at the counter. A cheque bearing such an instruction is called crossed cheques.  Others without such crossing are open cheques which may be encashed at the counter of the paying banker as well. The crossing on a cheque is intended to ensure that its payment is made to the right payee.

 GENERAL CROSSING: a) Meaning: According to section-123 of NI Act, where a cheque bears across its face an addition of the words “and company” or any abbreviation thereof between two parallel transverse lines or two parallel transverse lines simply, either with or without the words “not negotiable” that addition shall be deemed a crossing & the cheque shall be deemed to be crossed generally.

b) Specimen of General Crossing:

general-crossing_thumb

c) Features of General Crossing: i. From the above section we find that a cheque is said to be crossed generally when it bears across its face any of the following: Two transverse parallel lines. · Two transverse parallel lines with the word “And Company”. · Two transverse parallel lines with any abbreviation of the word “& Company”. · Two transverse parallel lines with the words “Not Negotiable”. · Two transverse parallel lines with the words “Account Payee Only”. ii. The cheque crossed generally does not cease to be negotiable further. iii. The collecting banker can collect the proceeds of the cheque in the account of that person mentioned on the cheque.

b) Meaning: A special crossing implies the specification of the name of a banker on the face of the cheque. Sec.124 of N.I. Act 1881 reads. “Where a cheque bears across its face an addition of the name of a banker, either with or without the words “Not Negotiable” that addition shall be deemed a crossing and the cheque shall be deemed to be crossed specially, and to be crossed to that banker”. Drawing of two transverse and parallel lines is not necessary in case of a special crossing. When a cheque has been specially crossed, the banker upon whom it has been drawn will make the payment only to that banker in whose favour it has been crossed.

c) Specimen of Special Crossing:

specialcrossing_thumb

Who can cross? Who can open crossed cheque?

Ans: Crossing is an instruction or direction to the paying banker obviously, the drawer of a cheque is competent to cross it generally or specially. Section 125, however permits the following person’s also to cross the cheque:

  1. Where a cheque is uncrossed, the holder may cross it generally or specially
  2. Where a cheque is crossed generally, the holder may cross it specially
  3. Where a cheque is crossed generally or specially, the holder may add the word not negotiable.
  4. Where a cheque is crossed specially, the banker to whom it is crossed may again cross it especially to another banker, his agent for collection.
  5. Where an Uncrossed cheque or a cheque crossed generally, it sent to the banker for collection, he may cross it especially to himself.

 The drawer alone has the right to open a crossed cheque by writing the words “Please pay cash” and adding his signature to it.

What is the main aspects banker has to look into while processing a loan application?

  1. Capacity to use loan
  2. Financial Solvency
  3. Not to invest large sum in one sector or Industry
  4. Liquidity
  5. Nature of security
  6. To obey Central Bank’s Order
  7. Character of clients
  8. Volume of Loan
  9. Safety of Loan
  10. Loan repayable on Demand
  11. National Interest

What is working capital?  Explain how you will assess the working capital requirement of a small sale business.

What points will you take into consideration while granting loan to a Youngman who wants to buy an auto rikshaw? What documents will you take?

Working Capital :Working capital is the fund use to meet up the day to day cash requirement of a firm. A measure of both a company’s efficiency and its short-term financial health. The working capital ratio is calculated as: Working Capital = Current Assets – Current Liabilities Positive working capital means that the company is able to pay off its short-term liabilities. Negative working capital means that a company currently is unable to meet its short-term liabilities with its current assets (cash, accounts receivable and inventory). Also known as “net working capital”, or the “working capital ratio”.

1 Physical fitness

  1. driving license
  2. road permit
  3. quation 3 company
  4. personal guarantee 2 grantors
  5. marging
  6. technical expertise

Documentation:

  1. Promesery note
  2. Letter of arrangement
  3. Letter of disbursement
  4. Letter of hypothecation
  5. Letter of gaurentee
  6. Registration of the rikshwa to bank name
  1. Collateral

As I explained above, banks do lend money to startups. One exception to the rule is that the federal Small Business Administration (SBA) has programs that guarantee some portion of startup costs for new businesses so banks can lend them money with the government, reducing the banks’ risk.

So your business has to have hard assets it can pledge to back up a business loan. Banks look very carefully at these assets to make sure they reduce the risk. For example, when you pledge Accounts Receivable to support a commercial loan, the bank will check the major receivables accounts to make sure those companies are solvent; and they will accept only a portion, often 50 or sometimes 75%, of receivables to back a loan. When you get an inventory loan, the bank will accept only a percentage of the inventory and they will kick a lot of tires first, to make sure it isn’t old and obsolete inventory.

The need for collateral also means that most small business owners have to pledge personal assets, usually house equity, to get a business loan.

  1. Business plan

There are exceptions, but the vast majority of commercial loan applications require a business plan document. Nowadays it can be short—perhaps even a lean business plan—but banks still want that standard summary of company, product, market, team, and financials.

See Also: Introducing Lean Planning: How to Plan Less and Grow Faster

  1. All of your business’s financial details

That includes all current and past loans and debts incurred, all bank accounts, investment accounts, credit card accounts, and of course, supporting information including tax ID numbers, addresses, and complete contact information.

  1. Complete details on Accounts Receivable

That includes aging, account-by-account information (for checking their credit), and sales and payment history.

(And if you don’t know what your Accounts Receivable are, then count your blessings. If you had any, you’d know. Or, read our guide to find out.)

  1. Complete details on Accounts Payable

That includes most of the same information as for Accounts Receivable and, in addition, they’ll want credit references, companies that sell to your business on account that can vouch for your payment behavior. If you need to know more about Accounts Payable, just read our guide that explains things simply.

  1. Complete financial statements, preferably audited or reviewed

The balance sheet has to list all your business assets, liabilities and capital, and the latest balance sheet is the most important. Your Profit and Loss statements should normally go back at least three years, but exceptions can be made, occasionally, if you don’t have enough history, but you do have good credit and assets to pledge as collateral. You’ll also have to supply as much profit and loss history as you have, up to three years back.

Regarding audited statements, having “audited” statements means you’ve paid a few thousand dollars to have a CPA go over them and take some formal responsibility for their accuracy. CPAs get sued over bad audits. The bigger your business, the more likely you’ll have audited statements ready as part of the normal course of business for reasons related to ownership and reporting responsibilities.

Having statements reviewed is a lot cheaper, more like a thousand dollars, because the CPAs who review your statements have way less liability if you got it wrong. Banks won’t always require audited or even reviewed statements because they always require collateral, assets at risk, so they care more about the value of the assets you pledge.

  1. All of your personal financial details

This includes social security numbers, net worth, details on assets and liabilities such as your home, vehicles, investment accounts, credit card accounts, auto loans, mortgages, the whole thing.

For businesses with multiple owners, or partnerships, the bank will want financial statements from all of the owners who have significant shares.

And yes, as I implied in the introduction to this article, that’s leading to the personal guarantee. Expect to sign a personal guarantee as part of the loan process.

  1. Insurance information

Since it’s all about reducing the risks, banks will often ask newer businesses that depend on the key founders to take out insurance against the deaths of one or more of the founders. And the fine print can direct the payout on death to go to the bank first, to pay off the loan.

  1. Copies of past returns

I think this is to prevent multiple sets of books—which I think would be fraud, by the way—but banks want to see the corporate tax returns.

  1. Agreement on future ratios

Most commercial loan include what we call loan covenants, in which the company agrees to keep some key ratios—quick ratio, current ratio, debt to equity, for example—within certain defined limits. If your financials fall below those specific levels in the future, then you are technically in default of the loan.

Sound Principles of Lending:

It is a fundamental precept of banking everywhere that advances are made to customers in reliance on his promise to repay, rather than the security held by the banker. Although all lending involves some degree of risks, it is necessary for any bank to develop sound and safe lending policies and new lending techniques in order to keep the risk to a minimum. As such, the banks are required to follow certain principles of sound lending.

  1. Safety
  2. Liquidity
  3. Purpose
  4. Profitability
  5. Security
  6. Spread/ Diversity
  7. National interest

Safety: Advances should be expected to come back in the normal course. The repayment of the loan depends upon the borrower’s capacity to pay and willingness to pay. The capacity depends upon the tangible assets of the borrower. The willingness to pay depends upon the honesty and character of the borrower.

Liquidity: Liquidity is the availability of bank funds on short notice. The borrower must be in a position to repay within a reasonable time. Liquidity also signifies that the assets should be salable without any loss.

Profitability: A banker has to see that major portion of the assets owned by it are not only liquid but also aim at earning a good profit. The difference between the interest received on advances and the interest paid on deposits constitutes a major portion of bank’s income. Besides, foreign exchange business is also highly remunerative.

Purpose: A banker would not throw away money for any purpose for which the borrower wants. The purpose should be productive so that the money not only remains safe but also provides a definite source repayment.

Security: Security serves as a safety valve for an unexpected emergency. The security offered for an advance is a cushion to fall back upon in case of need. An element of risk is always present in every advance however secured it might appear to be.

Spread/ Diversity: The advances should be as much broad-based as possible and must be in keeping with the deposit structure. The advances must not be in one particular direction or to one particular industry. Again, advances must not be granted in one area alone.

National Interest: Bank has significant role to play in the economic development of a country. The banker would lend if the purpose of the advance is for overall national development.

Loan against different types of Securities

Generally, the banks extend credit against adequate security to avoid the risk of non-recovery of money lent. In banking terminology ‘security’ indicates some immovable or movable properties – which may vary from a piece land or a building to share certificate or gold ornaments. All these assets are not of same nature and different precautionary measures should be taken while extending credit against those securities. Here, we will highlight some important issues which a banker should keep in mind while extending credit to a borrower.

Advances against Immovable Properties

 Banks usually do not prefer to advance money on the security of immovable Properties or real estates, e.g. land and building etc. on account of the following reasons:

(i)  Difficulty in ascertaining the title to the property: A banker has to spend sufficient time and money to verify the title of the borrower to the property he is offering as security. This is due to possibility of multiplicity of mortgages, absence of proper records particularly in case of agricultural lands etc.

(ii) Not readily realizable: Banks insist on liquidity. A real estate is not easily realizable without much loss.

(iii) Restrictive laws: Immovable property is subject to various restrictive laws particularly with regard to agricultural land. Banks may not be in a position to realize the security on account of various state and central laws, restricting the sale of such land. Moreover, the problem of sharing the property by other members also gives rise to further complications.

(iv) Valuation problem: The value of an immovable property depends upon its location, type of construction etc. Banker may, therefore. have to employ qualified valuers for the purpose.

(v) Legal formalities: A lot of legal formalities such as preparation of the mortgage deed, its registration, payment of stamp duty etc. are to be completed. This is quite a cumbersome work.

Precautions

In case a banker decides to lend money on the security of immovable, property it should take the following precautions:

(i) The borrower should be financially sound and the business for which money is borrowed should be economically viable.

(ii) The borrower should have a clear title over the property to be given as security. It should be free from all sorts of encumbrances. In order to ascertain that there is no other charge on the property, banker should see the Register of Charges. All this work may be entrusted to bank’s solicitors.

(iii) The property should be properly valued. The work may be entrusted to qualified valuers. The value depends upon several factors such as :

(a) Ownership right i.e. whether it is a freehold property or a leasehold property.

(b) the location of the property,

(c) the type of construction,

(d) the size, structure and layout, ,

(e)  the rental value,

(iv) Proper margin should be kept. Generally the margin is about 50% of the value of the property.

(v) The property should be fully insured.

(vi) In case of a legal mortgage, the mortgage deed should be registered if the amount secured is Tk.100 or more. In case the borrower happens to be a joint stock company, all mortgages must be registered within 30 days of the date of their creation.

Documents

  1. Application for credit
  2. Accepted copy of sanction letter
  3. P. note
  4. Letter of arrangement
  5. Letter of Disbursement
  6. Original title deed of property
  7. Certified copy of Mutation khatian.
  8. Certified copy of C. S; S. A and R. S. Khatian
  9. Duplicate Carbon Receipt (DCR).
  10. Site plan/Mouza Map
  11. Upto date rent receipt and Municipal Tax receipt
  12. Upto date Non-encumbrance certificate.
  13. Valuation certificate.
  14. Registered Mortgaged deed
  15. Memorandum of deposit of Title deed (in case of equitable Mortgages).
  16. Registration with Registrar of Joint Stock Company (in case of Company).
  17. Income Tax certificate
  18. Lawyers opinion.

Advances against Goods/Stock in Trade

About 2/3 of the total secured advances are sanctioned by banks against the security of goods which include food articles, industrial raw material plantation products, manufactured articles and minerals. Goods have many distinct advantages over other forms of securities:

(i) They are easily realizable on account of their having a ready market.

(ii) Their value can easily be ascertained from the market.

(iii) They are tangible assets and, therefore, can be realized in case the necessity arises.

(iv) Loans against commodities are of a seasonal character. They are repaid before the commencement of the next season. Therefore, there is no unnecessary locking up of funds.

(v) In case of commodities which are used as necessaries of life, there is not much of price fluctuations.

However, goods as ‘security’ have their own limitations.

(i) Effective supervision over goods may not be possible particularly when they are hypothecated. Dishonest persons may cheat the banks.

(ii) Quality of goods is difficult to verify. The goods actually pledged n1aybe quite different than those which were promised to be pledged.

(iii) Goods deteriorate in quality with the passage of time. This results in erosion in bank’s security.

(iv) Heavy transportation costs may have to be incurred for realizing the best possible price for the goods.

Precautions and Procedures

The bank should keep in mind the following points while advancing money on the security of goods.

(i) Selection of the borrower. The banker should satisfy himself regarding the character, capacity and capital of the borrower. Since in case of goods, chances of fraud are more, this is all the more important.

(ii) Selection of the commodities. Commodities should be such which have fairly stable prices. The Head Office should prepare a list of such commodities and in case a branch wants to lend money on the security of a commodity which is outside this list, the branch should take permission of the Head Office. .

(iii) Charging the security. Goods can be deposited by way of security either in the form of a pledge or hypothecation. In case of hypothecation the borrower must be dependable since the banker has little control over the movement of goods. The banker must also obtain a declaration from the borrower stating that

  • the borrower is the owner of the goods hypothecated and
  • he shall not charge the same goods to any other person without the prior consent of the bank.
  • Storage of goods, Following points should be taken into account while storing the goods offered by way of security:
  • The godown should safe from water, fire etc. and situated in a good locality.
  • In case of hypothecation of goods the borrower should give an undertaking that he will allow inspection of godown and stock books as and when desired by the bank’s officials.
  • In case of pledge the godown should have a bank lock with the bank’s name engraved on it. Some name plates declaring that the goods are pledged should be prominently displayed in the godown.
  • In case of payment of loan in installments it should be seen that the goods released are in proportion to the amount paid by the borrower.

(e)           The goods should be insured for full value so that the bank may not have to suffer on account of “average clause m case of under insurance.

Conduct of the account

(a) No loan should be granted before the bank obtains either actual, constructive delivery of goods. In case of the bank permits the borrower process out the raw materials hypothecated into a finished product, appropriate name plate that the goods are hypothecated with the bank should. be prominently displayed.

(b) The balance in the borrower’s account should not be allowed exceed the drawing limit.

(c) The drawing limit should be fixed by taking into account the value of the goods (calculated on the basis of cost or market price, whichever is less) and appropriate margin in respect of those goods. While valuing the goods both quantity and quality of goods should be seen.

(d) The borrower should clear the old debt before the commencement of the next season. In case he has not done so, necessary explanation should be called for.

(e) The advances should be made for genuine trade needs and, not for speculation activities.

(vi) Legal requirements: Under its selective credit control scheme, Bangladesh Bank issues from time to time directives regarding granting of loans against selective commodities. The banker should abide by these directives.

Documents :

  1. Application for credit
  2. Accepted copy of sanction letter
  3. P. note
  4. Letter of arrangement
  5. Letter of continuity
  6. Letter of lien (containing set-off clause).
  7. Letter of Hypothecation (if Hypothecated)
  8. Letter of Pledge (if Pledged).
  9. Stock report
  10. Letter of delivery of stock (it pledged).
  11. Insurance policy in the joint name of the Bank and the borrower.
  12. Irrevocable power of attorney in favour of Bank.
  13. Letter of authority to pay the salary & allowances to the godown staff (if pledged).
  14. Letter of consent and Letter of disclaimer from the owner of the godown/warehouse (if rented).
  15. Letter of Guarantee from 3rd party (if any).

Advances against Documents of Title of Goods

Documents which in the ordinary course of trade, are regarded as proof of the possession or control of the goods, are called documents of title. Bill of lading, dock warrants, a warehouse-keeper’s certificate, wharfinger’s certificate, railway receipts, etc. can be easily cited as a few examples of documents of title.

Risks involved

Granting of advances against documents of title involve the following risks against goods:

(i)            Possibility of frauds:

(ii)           Non-negotiability nature:

(iii)          Obtaining delivery on the basis of indemnity bond:

Precautions to be taken

  1. The advances against documents should be made only to trusted and reliable borrowers.
  2. The borrower should be asked to submit the complete set of documents such as bill of lading or railway receipt. invoice, bill of exchange etc.
  3. The banker should carefully go through the documents to check that the documents are of recent origin and they do not contain any onerous clauses.
  4. The borrower should be asked to sign an agreement with the bank pledging the documents with the bank. The agreement should also authorize the bank to acquire the possession of goods and sell them, if necessary
  5. The banker should inform the transporter regarding its interest in the goods and requiring it to deliver the goods only when a proper discharge receipt from the bank is also produced.
  6. In case the consignee fails to take delivery of goods, the bank should take over the goods in its control, store them properly and later on dispose them according to the direction of the borrower.

Principal Documents of Title

The following are principal documents of title to the goods.

  1. Bill or Lading. It serves three functions:

(a)           It is an acknowledgement of the receipt of goods on the ship.

(b)           It is a contract of carriage. It contains terms and conditions on which the carrier agrees to carry goods from one port to another.

(c)           It is also a document of title and property in goods. It can be transferred by its mere delivery in case it is a bearer instrument and by endorsement and delivery if it is an order instrument.,

A bill of lading possesses certain characteristics of a negotiable instrument. It is (i) a document of title, (ii) freely transferable, and (ii,) its transferee can sue in his own name and give a valid discharge to the person liable.

  1. Warehouse Receipts: It is a receipt issued by a warehouse keeper certifying that the goods mentioned therein have been received by him for store- keeping.
  2. Railway Receipt: A railway receipt is a document issued by the railway company acknowledging the receipt of the goods and undertaking to carry the goods delivered to a place mentioned therein.

Documents

  • Application for credit
  • Accepted copy of sanction letter
  • P. note
  • Letter of Arrangement
  • Letter of continuity
  • Letter of lien.
  • Letter of assignment
  • Letter of guarantee from 3rd party (if any).

Stock-Exchange Share

Stock exchange securities include securities in which dealings take place on the stock exchanges. They can be classified into three categories :

(i)            Government securities: They include securities issued by the Central and the State Governments.

(ii)           Semi-government securities. They include securities issued by semi-government institutions like Port Trusts, Improvement Trusts etc.

(iii)          Corporate securities: They include securities issued by public limited companies. They may further be classified as (i) ownership securities consisting of equity and preference shares, and (ii) creditor-ship securities represented by debentures.

Shares and debentures of private limited companies are not suitable form of security for grant of bank advances on account of their being not quoted on a stock exchange, restrictive transferability and non-marketability.

Merits or stock-exchange securities

In comparison to other form of securities, stock. exchange securities have the following merits :

(i)            Reliability:

(ii)           Liquidity:

(iii)          Price stability

(iv)          Easier valuation:

(v)           Transferability:

(vi)          Regular recovery:

Drawbacks of advancing money against stock exchange securities

The following are the drawbacks of advancing money against stock- exchange securities :

(i)            Liability to pay in case of partly-up shares.

(ii)           Company’s lien:

(iii)          Forgery:

(iv)          Fluctuations in prices:

Precautions to be taken

The drawbacks listed above are mainly in respect of corporate securities. The bank can protect its interest if takes the following precautions:

  1. Selection of the securities: While selecting such securities for inclusion in the list, the following factors are considered:

(a) Nature of company’s business:

(b) Company’s management:

(c) Past-working results.

(d) Market trends in values of the shares of the company.

  1. Valuation of securities,
  2. Creation or charge:

Legal Title. In case of legal title the securities transferred by the borrower to the bank in its name. l1le name of the banks or its nominee replaces the name of the borrower in the company’s records. The borrower usually does not prefer a legal mortgage on account of following reasons:

(i)   The transfer and retransfer of securities involve costs in terms of stamp duty which has to be borne by him.

(ii)     The reputation of the borrower is lowered because the fact of charging the security becomes public.

(iii)    The borrower is deprived of voting and other rights attached to the securities for the period they stand in the name of the bank. In case the borrower was holding directorship of a company on the basis of these shares, he may lose that also.

Equitable. In case of an equitable charge the borrower transfers the equitable title to the securities in favour of the bank by depositing the securities with it. The securities continue to stand in the borrower’s name in company’s  records. The equitable charge may be created by any of the following methods :

(i)     By mere deposit of securities:

(ii)    By memorandum of deposit:

By blank transfer:

(iv)   By power of attorney:

 

Risks in case or equitable charge

(i)   Existence of prior equitable title:

(ii)   Company’s right of lien:

(iii)   Absence of information to the bank :

 Documents 

  1. Application for credit
  2. Accepted copy of sanction letter
  3. P. note
  4. Letter of arrangement.
  5. Share certificate along with TF. 117 duly filled in, signed & verified.
  6. Letter of lien signed by the borrower.
  7. Confirmation letter of registration of lien.
  8. Letter of continuity.
  9. Memorandum of deposit of securities.

Advances against Life Insurance Policies

A life insurance policy is a contract in which one party (the insurer) agrees give a certain sum upon the happening of a certain event contingent upon duration of human life, in consideration of the immediate payment of a smaller sum or certain periodical payments by another (i.e. the insured).

Following are a few of the important policies being issued by the Corporation:

  1. The whole-life policy: Under this policy the premiums are payable throughout the life time of the life assured. The policy money is payable only on the death of the insured.
  2. Endowment policy: Under this policy, the insured amount is payable to the insured on his attaining a specific age or on the predetermined date. in the event of his dying earlier, to his heirs or nominees.
  3. Joint life policy: Where two or more lives are insured jointly, such policy is issued; Insure-d amount shall some payable upon death of any of the lives insured.
  4. With or without profit policies: A “with profit” policy is one, holder of which is entitled to take the benefit or bonuses declared out of profits of the corporation usually after every two years. Bonuses will be to the vl1lue of such policies and shall be paid on their maturity.

Merits or a life insurance policy as a security

Life insurance policy is now considered by the banks as one of good securities on account of the following reasons:

(i) The policy can be easily assigned in favour of the bank. Of course, such assignment is to be duly got registered with Life Insurance, Corporation.

(ii) The valuation of the policy can easily be done. The Life Insurance Corporation of India can be requested to give the surrender value of the policy. (iii)                 The value of the security increases with the passage of time as more and more premiums are paid.

(iv) The security can be easily realized. The banker can get the money by surrendering the policy to the corporation.

 

Demerits of a life insurance policy as a security

  • A contract of insurance is a contract of absolute good faith. The insurer may/repudiate the contract in case it is found that the insured obtained life insurance policy by concealment.

(ii) The surrender value of the policy is paid only when the “insured pays premiums for a certain minimum period.

(iii) Policy may contain certain onerous clauses such as ‘suicide clause’.

Precautions to be taken by the banker

A banker should take the following precautions while accepting life Insurance policy as a security:

(i) Nature of the policy: The banker should have a thorough scrutiny of the policy to determine the terms and conditions under which the policy has been issued particularly the onerous clauses-

(ii) The presence of insurable interest: The banker should see that the a insured had insurable interest in the person whose life has been insured at the when the contract was effected. Some instances where a Person has an insurable interest in the life of another are as follows:

 (a) Wife in the life of the husband or vice versa.

(b) Son in the life of his father on whom he is dependent.

(c) Creditor in the life of his debtor to the extent of the amount of the debt.

(d) Surety in the life of his principal debtor to the extent of his guarantee

(e) Dependents to the extent of the support that they are receiving.

(f) An employer in the life of his employee during the course of his employment.

(g) A partner in the life of other partners during the subsistence of the partnership agreement

 (iii) Admission of ‘proof of “age’. The banker should see that the ‘proof’ of age’ has been submitted by the insured to the corporation and a note to that effect has been made in the policy.

(iv) Preference for endowment policies. The banker should prefer endowment policies to whole life policies. as there is a definite maturity date) in the case of endowment policies.

(v) No prior encumbrances. It should be ascertained from the) corporation that the policy does not have any prior charge or encumbrance against it

(iv)Precautions regarding certain Policies. Certain policies cannot be legally assigned

(vii) Ascertainment of surrender value. The Life Insurance Corporation ‘I of India has prepared a manual which helps in ascertaining the surrender value of the policy.

(viii) Assignment of the policy. The banker should get the policy assigned in his favour.

(ix) Payment or premium: The banker should see that the payment of premium is being made regularly to the corporation by the borrower after-giving the policy as security to the bank for advance.

Documents

  1. Application for credit
  2. Accepted copy of sanction letter
  3. P. note
  4. Letter of arrangement.
  5. Letter of lien
  6. Life policy assigned in favour of bank and registered with the Insurance company.
  7. Policy surrender value certificate issued by the insurance company.
  8. Letter of authority to in favour of bank to pay the premium if needed.
  9. Age admittance certificate if not mentioned in the policy.

Advances against Fixed Deposit Receipts

A fixed deposit is payable after the expiry period. The encashment of a fixed deposit before its maturity results in loss of interest to the depositor.- He may. therefore, borrow money against the fixed deposit receipt to meet some of his urgent needs. A fixed deposit receipt issued by the same banker is the safest form  of security.

Loans against fixed deposit receipts issued by other banks

A banker should not normally grant loans against fixed deposit receipt issued by other banks. However, in exceptional cases loans may be advanced subject to the following precautions in addition to those given above:

(i) The banker should obtain a letter from the depositor addressed to the bank which issued the deposit receipt, requesting it to pay the principal and interest to it.

(ii) The banker should also send a notice to the bank which issued the receipt intimating about advancing of money to the depositor.

(iii) The bank should not affix its stamp on the deposit receipt issued by another bank)

(iv) On the date of maturity, the bank should send the deposit receipt together with the authority letter to the bank which issued the deposit receipt with the request that the money due under the deposit receipt should be paid to it. On receipt of such money the banker should adjust the proceeds against the loan and the balance if any should be credited to the savings or current account of the borrower. In case the borrower repays the money before the maturity of the deposit the bank should cancel its lien and the discharge noted on the receipt 1and return the deposit receipt to the borrower after obtaining acknowledgment.

Documents

  1. Application for credit
  2. Accepted copy of sanction letter
  3. P. note
  4. Letter of arrangement
  5. Letter of Lien
  6. FDR (duly discharged)
  7. Letter of authority to adjust the account with the FDR.
  8. Letter of continuity
  9. Memorandum of Deposit of Securities

 

Advance against Book Debts

Banks may grant advances, loans against the security of book debts or-accounts receivable. Book debts are considered to be actionable claims and according to section 130 of the Transfer of Property Act, such claims can be assigned to anyone except to a judge, a legal practitioner or an officer of a court of justice.

The following precautions should be taken by the banker while advancing money against the security of accounts receivable:

(i)            The banker should enquire about the solvency of the debtors who owe money to the customer. It should also check the validity of the debt.

(ii)           The banker should get the debt assigned in its favour. The instrument of assignment duly signed by the assignor, should contain an order addressed to the debtor, authorizing him to pay the assigned debt to the assignee i.e. the banker. However, in case the debt assigned is secured by a promissory note, or bond, the assignment should be done on the bond or note itself.

(iii) The banker should give the notice of assignment to the debtor. This is necessary to prevent the debtor from making payment of the debt to the customer. However, the validity of assignment is not adversely affected by failure of the banker to give notice to the debtor.

(iv) The banker should also obtain an undertaking from the customer to pass all payments received by him in respect of the assigned debts to the banker.

(v)     The assignment should be of the whole debt and not of a part of it.

  • The assignment will entitle the banker to all rights and remedies which the assignor had against the debtor. The banker may, if necessary, file a suit against the debtor without taking assignor’s consent or making him a party to the suit.

(vii)         The assignment, however, does not entitle the assignee (i:e. the banker) better rights than what the assignor had against the debtor. For example, if the debtor has a counter claim against the assignor, he continues to have the power to set off such claim against the amount due to the assignee. The fact that the assignee had no knowledge of such claim against the assignee, does not affect the rights of the debtor to set off such claim.

 

Modes of credit facility

The facility of granting advances to customers against book debts can be given in two ways:

(i)            The customer sends the invoices and the sale documents to the bank. the bank examines the documents and it credits the account of the customer with the value of acceptable invoices less margin. It returns the rest of invoices to the customers. The bank also keeps the account of the debtors and on collecting money from them credits their accounts. The borrower’s account is also credited With the balance of money now collected by the bank which was not credited, originally on account of margin. For example, if the debtors were worth Tk.12, and the bank credited the account of the customer by Tk.10,000 after keeping Tk. 2,000 as margin, on collection of Tk. 12,000, the bank will further credit account of the customer by Tk.2,000.

(ii)           The borrower may send a list of eligible debtors to the bank. The bank after going through list and satisfying itself regarding the validate of debts and solvency of debtors: determines the amount of advance to be given keeping sufficient margin. , Method first ensures greater control and, therefore, is preferred by the banks.

Documents

 

  1. Application for credit
  2. Accepted copy of sanction letter
  3. P. note
  4. Letter of arrangement
  5. Letter of continuity.
  6. Legal assignment of the book debt.
  7. Power of attorney executed by the borrower in favor of bank to receive the debt.
  8. Letter of Guarantee from 3rd party (if any).

 Advance against Supply Bills

The Government and Semi-government Departments or institutions make their purchases from the market by inviting tenders. The person or contractor, who quotes the lowest price, gets the order for supply of the goods or completing the work. Before the goods are finally dispatched. A Government official of the concerned department examines the goods and on being satisfied gives his inspection report certifying that the goods are as per terms of the contract. The contractor or supplier then dispatches the goods by rail or any other mode of conveyance and the relevant railway receipt or any other document is sent to

Department concerned

The supplier or the contractor then prepares his bill for goods supplied or work completed. Such bill is known as supply bill. It is only a document stating the amount due by the Government. It is neither drawn in the form of a bill of exchange nor is accompanied by a bill of exchange. It is not a negotiable instrument. It simply represents a debt which can be assigned in favour of a third party. The banker grants advance to the borrower against the security of such supply bills.

 Risks involved

The advancing of money against supply bills involves the following risks:

(i)    The Government may refuse to pay the bill or may make deductions out of the amount due in case the terms of the contract have not been fully complied with.

(ii)   Payment of bills may be delayed by Government Departments on account of procedural matters.

(iii) The Government may have a counter claim against the contractor which it can set off against the amount due to the contractor or the supplier.

Precautions to be taken

(i) The banker should be careful while selecting the customer. His past contracts with the Government should be looked into ascertain his honesty, efficiency and solvency.

(ii) The bank should get an irrevocable power of attorney executed by the customer in its favor and should get it registered with the concerned Government Department. The power of attorney will authorize the banker to receive payment of the supply bills from the Government.

  • An undertaking should be obtained from the customer (i.e. the borrower) that he will pay any payment received by him against the supply bills to the bank.
  • The banker should obtain from the customer besides the supply bill, inspection report and number of the railway receipt etc.
  • The banker should study the terms of the contract according to which the goods have been supplied and the supply bill prepared.
  • The banker should keep a watch on payment of supply bills. In case of undue delay in payments of a bill it should cancel the advance sanctioned against it by debiting the account of the customer and accepting it only on collection basis.

(vii)         The bank should also review periodically the outstanding bills. It should get confirmed periodically the list of such outstanding bills, from the concerned Government Department.

Documents

  1. Application for advance
  2. Accepted copy of sanction letter
  3. P. Note
  4. Letter of arrangement
  5. Letter of continuity
  6. Original supply order
  7. Letter of Hypothecation of the bills.
  8. Receipted chalan and inspected bills.
  9. General irrevocable power of attorney executed by the borrower and registered with the concerned Dept.
  10. Letter of undertaking issued by the concerned Dept. to pay the bill in in favour of the Bank.
  11. Letter of Guarantee from 3rd party (if any).

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