In the previous lesson you have learnt the meaning and types of depositaccounts including the procedure of opening and operating bank accounts. We have seen that the commercial banks accept deposits and also lend money to the people who require it for various purposes. Lending of funds to traders, businessmen and industrial enterprises is one of the important activities of commercial banks. The major part of the deposits received by banks is lent out, and a large part of their income is earned from interest on such lending. There is a considerable difference between the rate of interest which the commercial bank grants on deposits, and the rate they charge on loans and advances. It is this difference which constitutes the main source of bank earnings. Operation and expansion of business and commercial activities depend a great deal on the availability of loans/advances from commercial banks. In this lesson, you will learn about the procedure of getting loans and advance, cash credits, overdrafts, etc from the commercial banks.
After studying this lesson, you will be able to:enlist the utility of granting loans and advances by commercial banks;
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differentiate borrowing rates from lending rates; enumerate the ways of lending money; distinguish between long-term and short-term loans; point out the nature of security provided for loans; and outline the procedure for grant of cash credit, overdraft and discounting of bills of exchange.
35.3 Meaning of Loans and Advances
The term ‘loan’ refers to the amount borrowed by one person from another. The amount is in the nature of loan and refers to the sum paid to the borrower. Thus. from the view point of borrower, it is ‘borrowing’ and from the view point of bank, it is ‘lending’. Loan may be regarded as ‘credit’ granted where the money is disbursed and its recovery is made on a later date. It is a debt for the borrower. While granting loans, credit is given for a definite purpose and for a predetermined period. Interest is charged on the loan at agreed rate and intervals of payment. ‘Advance’ on the other hand, is a ‘credit facility’ granted by the bank. Banks grant advances largely for short-term purposes, such as purchase of goods traded in and meeting other short-term trading liabilities. There is a sense of debt in loan, whereas an advance is a facility being availed of by the borrower. However, like loans, advances are also to be repaid. Thus a credit facility- repayable in instalments over a period is termed as loan while a credit facility repayable within one year may be known as advances. However, in the present lesson these two terms are used interchangeably.
Utility of Loans and Advances
Loans and advances granted by commercial banks are highly beneficial to individuals, firms, companies and industrial concerns. The growth and diversification of business activities are effected to a large extent through bank financing. Loans and advances granted by banks help in meeting short-term and long term financial needs of business enterprises. We can discuss the role played by banks in the business world by way of loans and advances as follows :(a) Loans and advances can be arranged from banks in keeping with
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the flexibility in business operations. Traders, may borrow money for day to day financial needs availing of the facility of cash credit, bank overdraft and discounting of bills. The amount raised as loan may be repaid within a short period to suit the convenience of the borrower. Thus business may be run efficiently with borrowed funds from banks for financing its working capital requirements. (b) Loans and advances are utilized for making payment of current liabilities, wage and salaries of employees, and also the tax liability of business. Loans and advances from banks are found to be ‘economical’ for traders and businessmen, because banks...