BANKING OPERATION AND INNOVATION

CHAPTER 1 (A) RELATIONSHIP BETWEEN BANKER AND CUSTOMER

Introduction:

Introduction to Banking Finance is the life blood of trade, commerce and industry. Now-a-days, banking

sector acts as the backbone of modern business. Development of any country mainly depends upon the

banking system. The term bank is either derived from old Italian word banca or from a French word

banque both mean a Bench or money exchange table. In olden days, European money lenders or money

changers used to display (show) coins of different countries in big heaps (quantity) on benches or tables

for the purpose of lending or exchanging. People earn money to meet their day to day expenses on food,

clothing, education of children, having etc. They also need money to meet future expenses on marriage,

higher education of children, and housing, building and social functions. These are heavy expenses,

which can be met if some money is saved out of the present income. With this practice, savings were

available for use whenever needed, but it also involved the risk of loss by theft, robbery and other

accidents. Thus, people were in need of a place where money could be saved safely and would be

available when required. Banks are such places where people can deposit their savings with the

assurance that they will be able to with draw money from the deposits whenever required. Bank is a

lawful organization which accepts deposits that can be withdrawn on demand. It also tends money to

individuals and business houses that need it.

Bank Meaning : A bank is a financial institution which deals with deposits and advances and other

related services. It receives money from those who want to save in the form of deposits and it lends

money to those who need it. A bank is a financial institution and a financial intermediary that accepts

deposits and channels those deposits into lending activities, either directly by loaning or indirectly

through capital markets. A bank is the connection between customers that have capital deficits and

customers with capital surpluses.

Definitions:

1) F.E. Perry: ―The bank is an establishment which deals in money, receiving it on deposit from

customers, honoring customer‘s drawings against such deposits on demand, collecting cheques for

customs and lending or investing surplus deposits until they are required for repayment.

2) Walter Leaf: ―A banker is an institution or individual who is always ready to receive money on

deposits to be returned against the cheques of their depositors.

Features of Bank

1. Dealing in Money Bank is a financial institution which deals with other people's money i.e. money

given by depositors.

2. Individual / Firm / Company A bank may be a person, firm or a company. A banking company

means a company which is in the business of banking.

3. Acceptance of Deposit A bank accepts money from the people in the form of deposits which are

usually repayable on demand or after the expiry of a fixed period. It gives safety to the deposits of its

customers. It also acts as a custodian of funds of its customers.

4. Giving Advances A bank lends out money in the form of loans to those who require it for different

purposes.

5. Payment and Withdrawal A bank provides easy payment and withdrawal facility to its customers in

the form of cheques and drafts, It also brings bank money in circulation. This money is in the form of

cheques, drafts, etc.

6. Agency and Utility Services A bank provides various banking facilities to its customers. They

include general utility services and agency services.

7. Profit and Service Orientation A bank is a profit seeking institution having service oriented approach.

8. Ever increasing Functions Banking is an evolutionary concept. There is continuous expansion and

diversification as regards the functions, services and activities of a bank.

9. Connecting Link A bank acts as a connecting link between borrowers and lenders of money. Banks

collect money from those who have surplus money and give the same to those who are in need of money

BANKER AND THE CUSTOMER

Banker

Banker is a person doing the banking business is called banker. He must perform following essential

functions such as receiving deposits of various kinds, lending money or creating credit, issuing cheques,

honouring cheques and collecting cheques.

According to Dr.H.C Hart a banker or a bank is a person or company carrying on the business of

receiving money and collecting drafts, for customers subject to the obligation of honoring cheques

drawn upon them from time to time by the customers to the extent of the amounts available in their

current accounts.

Customer

The term "Customer" has not yet been statutorily defined. Generally, the term customer means a person

who has an account with bank. Banking experts and legal judgments in the past, however, used to

qualify this statement by laying emphasis on the period for which such account had actually been

maintained with the bank. Customer is a person who utilizes one or more of the services provided by the

bank. Through customer the bank gets an opportunity to make earnings and banker provides services

A person can become a customer,

(1) If he opens any type of account fixed, current or savings with the bank.

(2) Such account may be frequently operated or not.

(3) The transaction between banker and customer should be of banking nature One cannot be called a

customer if the transaction is of casual nature even of it is continuously done.

DEBOTR AND CREDITOR *BAILEE & BAILOR

*PRINCIPLE & AGENT

*TRUSTEE & BENIFICIARY *HONOUR CUSTOMER *LIE

*CUSTODIAN CHEQUE *

*LESSOR & LESSER *MAINTAINS OF CUSTOMER

SECRECY

Relationship of Debtor and Creditor

When a customer opens an account with a bank and if the account has a credit balance, then the

relationship is that of debtor (banker / bank) and creditor (customer). In case of savings / fixed deposit /

current account (with credit balance), the banker is the debtor, and the customer is the creditor. This is

because the banker owes money to the customer. The customer has the right to demand back his money

whenever he wants it from the banker, and the banker must repay the balance to the customer. In case of

loan / advance accounts, banker is the creditor, and the customer is the debtor because the customer

owes money to the banker. The banker can demand the repayment of loan / advance on the due date, and

the customer has to repay the debt. A customer remains a creditor until there is credit balance in his

account with the banker. A customer (creditor) does not get any charge over the assets of the banker

(debtor). The customer's status is that of an unsecured creditor of the banker.

Relationship of Pledger and Pledgee

The relationship between customer and banker can be that of Pledger and Pledgee. This happens when

customer pledges (promises) certain assets or security with the bank in order to get a loan. In this case,

the customer becomes the Pledger, and the bank becomes the Pledgee. Under this agreement, the assets

or security will remain with the bank until a customer repay the loan

RELATIONSHIP BETWEEN CUSTOMER AND BANKER

GENERAL RELATIONSHIP SPECIAL RELATIONSHIP

PRIMARY RELATIONSHIP SECONDARY RELATIONSHIP

OBLIGATIONS RIGHTS

Relationship of Bailor and Bailee

The relationship between banker and customer can be that of Bailor and Bailee.Bailment is a contract

for delivering goods by one party to another to be held in trust for a specific period and returned when

the purpose is ended. Bailor is the party that delivers property to another. Bailee is the party to whom the

property is delivered. So, when a customer gives a sealed box to the bank for safe keeping, the customer

became the bailor, and the bank became the bailee.

Relationship of Trustee and Beneficiary

A trustee holds property for the beneficiary, and the profit earned from this property belongs to the

beneficiary. If the customer deposits securities or valuables with the banker for safe custody, banker

becomes a trustee of his customer. The customer is the beneficiary so the ownership remains with the

customer.

Relationship of Agent and Principal

The banker acts as an agent of the customer (principal) by providing the following agency services:

Buying and selling securities on his behalf, Collection of cheques, dividends, bills or promissory notes

on his behalf, and Acting as a trustee, attorney, executor, correspondent or representative of a customer.

Banker as an agent performs many other functions such as payment of insurance premium, electricity

and gas bills, handling tax problems, etc.

Relationship of Advisor and Client

When a customer invests in securities, the banker acts as an advisor. The advice can be given officially

or unofficially. While giving advice the banker has to take maximum care and caution. Here, the banker

is an Advisor, and the customer is a Client.

SPECIAL RELATIONSHIP BETWEEN BANKER & CUSTOMER

This is related to the mutual rights and obligation of the customer and banker:

A. Rights of a Banker

1. Banker's right to lien

'Lien' is a term used to identify the right to retain a property belonging to a debtor till such time he

discharges the debt due to the retainer of the property. Lien is simply a right to possess a property. Line

will be lost when the possession of the property is lost. Lien is the right of one person to retain the

property, in his possession, belonging to the other person, until the debt due from the owner of that

property is repaid. In other words, it is the right exercised by the creditor over the property of debtor

until the debt is repaid. The lien may be a particular lien or general lien.

Particular lien: This lien refers, to a particular which is retained by the lender or creditor against the

specific or particular loan. The particular property will be retained until the particular debt is cleared by

the debtor. This lien is enjoyed by people who have sent their labour on such properties and has not yet

recovered their labour charges or service charge from the debtors.

General lien: general lien is enjoyed by banker, mercantile agents (factors), attorneys of High Court and

policy Brokers General lien is a right of the bankers (creditors) to retain an the properties of debtors

(customer's) till the sums due to the bank are recovered. In the absence of any agreement to the contrary,

banker may retain any goods and securities bailed to him as a security for general balance of accounts.

The Indian Contract Act (U/s171) provides, this right and rights is called General lien

2. Right to charge interest, commission, incidental charges, commitment charges.

(i) Interest: The banker has a right to charge interest on customer’s loan account. Normally interest is

calculated at every quarter or half year and debited to the customer’s loan account. The interest on the

first quarter becomes the principal in the next interest charging period and hence interest on interest

(compound interest) is charged. This is a right enjoyed by the banker.

(ii) Commission: the banker has an implied right to charge commission for the service he renders to the

customers.

(iii)Incidental Charges: incidental charges is a levy imposed by the banker on unremunerative current

accounts. Again this is an implied right enjoyed by the banker.

(iv)Commitment charges: this is a charge made by the banker on overdrafts and cash credit accounts.

Besides charging interest on the utilized portion of the overdraft, the commitment charge is charged on

the unutilized portion of the sanctioned limit does not earn any profit to the Banker incorporates

'Commitment Charge Clause' in overdraft and commitment charges agreements.

3. Right to set off: A bankers’ right to set off refers to the right of the banker to adjust the amount due

to him from a customer on one account against the amount due from him to the customer on another

account. It is the right of a banker to combine or adjust the debit and credit balances of two or more

similar accounts held by a customer in the same capacity. The right of set off facilitates the banker to

know the set amount due to him from the customer and ensures the safety of funds.

For instance X has to pay y Rs.10,000 and y has to pay X Rs.4, 000 to X's account, as Y has to a net

balance of Rs 6,000. This adjustment, between the parties is called set- off. The banker, as a debtor has

the right of set- off. This right empowers the banker to the banker to adjust the balance at the credit of

the customer's account towards the amount due to the banker. If a customer holds two accounts in the

same capacity, the account can be adjusted one against one against the other or the accounts can be

combined as per the right of set -off. The right of set-off facilities the banker to know the net amount

due to him from the customer and ensures the safety of funds. When to exercise the right of set-off

(1) By giving a prior notice to the customer

(2) By obtaining a letter of set off from the customer when the customer opens more than one account.

(3) By having the right of automatic set-off under certain circumstances.

The banker gets the right of automatic set off under following circumstances.

(1) On the death of the customer.

(2) On the insolvency of the customer

(3) On the insanity of the customer

(4) On the receipt of a garnishee order attaching the customer’ account. Automatic set off refers to the

right of a banker to adjust the debit and credit balances of two or more accounts held by a customer in

the same name and right or capacity without obtaining any letter of set off from the customer or without

giving him any pervious notice.

Conditions to be satisfied for the exercise of the right of set-off by a banker

(1) The debts must be mutual i.e., must be due between the same parties.

(2) The right of set-off can be exercised only if the mutual debts are determined and certain in amount.

(3) The right of set-off can be exercised if the customer’s account are opened in the same name and

capacity.

(4) The right of set-off can be exercised only in respect of debts which are due and recoverable on the

date of set-off

(5) The right of set-off can be exercised by the banker only in the absence of an agreement to the

contrary.

Right to appropriate Payments: When the customers raises more than one loan account, the question

of appropriation arises. The payments made by the customer may not be sufficient to clear all debts due

by the customer. Similarly, when a customer holds more than one current account and regularly operates

these accounts by depositing funds and making withdrawals simultaneously in all the accounts he holds,

it will be a problem for the banker to appropriate which funds to which account.

Right not to Produce Books of Accounts: The banker need not produce the original books of Accounts

as evidence in the cases in which the banker is not a party. He can issue only the certified copy, of the

required portion of the account. But when a banker is a party to the suit, the court can force the banker to

produce the original records in support of his claim.

Right under Garnishee order:

The term ‘gamishee' is derived from the Latin word ‘gamire’ which means 'to warn’. This order warns

the holders of money of judgments debtor, not to make any payments out of it till the court directs.

Garnishee order is issued by the court at the request of the judgments creditor. A garnishee order is an

order issued by the court, at the instance of judgment creditor to the garnishee first attaching the funds of

the judgment debtor lying with the garnishee and later directing him to pay the same to the judgment

creditor if he does not have any objection to do so. Let us see how a garnishee order can affect the

relationship between the banker and the customer.

Suppose Mr. A is the customer of SBI. He has taken a loan from his friend Mr. B. But Mr. A fails to

repay the loan to Mr. B and as a result Mr. B files a case against Mr. A. Now Mr. B requests the court to

issue an order on the bank of Mr. A directing the banker (SBI) not to make any payment from the

available balance in the account of Mr. A. If the court issues such an order, it is known as ‘Garnishee

Order’. Here, Mr. A (debtor) is known as ‘judgement debtor’, Mr. B (creditor) is known as ‘judgement

creditor’ and the SBI is known as ‘garnishee’. The garnishee order is issued in two phases. First, ‘order

nisi’ is issued directing the garnishee (banker) not to make any payment from the account of the

garnishee debtor. The garnishee is asked to give his reply in the court whether the funds in the account

of the garnishee debtor can be appropriated towards the payment of the particular debt in question. If the

garnishee has no objection then in the second phase the court issues the ‘order absolute’ i.e. the

garnishee order, to make the payment to garnishee creditor to satisfy the debt from the account of the

judgement debtor. Then the banker’s obligation to the customer (garnishee debtor) is discharged to that

extent.

The banker as garnishee has to discharge the following duties on receipt of the garnishee order.

1) He must issue notice to his customer regarding the garnishee order received against his account.

2) The banker should also inform, whether the entire amounts is attached or only a part of it is subjected

to garnishee order.

3) He should advise the customer to open a new account for future operations, as the existing account

cannot be operated because of attachment under garnishee order.

4) Banker has no right to surrender the amount to the court until the ‘order Absolute’ is received.

5) He can ask the customer to raise any objection against the garnishee order.

Conditions to be satisfied for the operation of a garnishee order served on a banker:

The customers’ account must be in credit.

The account should belo0ng to the customer in his own right and should not be held as a trustee

or jointly with another person.

If the garnishee order attaches several accounts held by the customer, then all the accounts must

be held by him in the same right or capacity.

The debt to be attached by a garnishee order must be actually due or accruing due at the time the

order to be served.

The garnishee order must state the name and the address of the customer accurately.

OBLIGATIONS OF A BANKER (DUTIES)

Obligation to honour customer's cheques:

When a current account is opened by a banker in the name if a customer, there is an obligation on the

banker to honour the customer’s cheques as long as there are sufficient funds available in the customer’s

account for meeting the cheques. So whenever the customer demands the repayment of his deposits by

issuing cheques there is a contractual obligation on the banker to honour his customers’ cheques and

repay his deposits. This obligation is provided by stature in section 31 of the Indian Negotiable

Instruments Act of 1881.

Conditions to be satisfied to honour the cheques of the customers:

1. Sufficient funds must be available: The customer should have credit balance in his account which

should be equal to the amount stated in the cheque.

2. Funds must be properly applicable to the payment of the cheque:

(a) The funds available to the credit of the trust account are applicable only for the purposed covered by

the trust.

(b) If the banker has received a notice of the assignment of the customer’s credit balance to a third party

or

(c) If certain funds in the customer’s account are set-aside for some specific purpose. Such funds will

not be available for the payment of the customer’s cheques.

3. Banker must be duly required to pay the cheque: The instrument used for drawing the amount should

be properly written and fulfill all legal obligations. It should be presented within a reasonable time after

its date of issue. In India as per the Banking custom and practice, a cheque must be presented for

payment within 3 months from the date of issue. Otherwise it becomes stale and invalid and such a

cheque need not be honoured If a cheque is not properly drawn then the banker need not honour the

cheque. Similarly if a cheque is presented for payment before the date of payment mentioned in the

cheque (if the cheque is post dated) the banker is not required to pay the cheque. If a cheque is presented

outside business hours the banker is not required to honour the same.

4. There must be no legal ban preventing the payment of cheque: A cheque drawn against an account on

which a garnishee order has been issued by the court need not be honoured by the banker. Similarly if

there is any order issued by the income-tax authorities attaching the customer’s funds in an account,

such a cheque need not be honoured.

5. No obligation to honour cheques drawn against the uncleared cheques or bills: If cheques are drawn

by a customer against uncleared cheques or bills i.e. cheques or bills deposited by the customer for

collection but not yet collected and credited to the customer’s account.

Obligation to maintain secrecy of customers account:

It is a general understanding between the customer and banker that the banker should maintain secrecy

regarding the customer's account. It is believed and the fact is also that if the accounts are enclosed to

others, the image of the customers will be lost or it would affect the customer's business heavily. Hence,

it was the practice of the bankers not to disclose the accounts and banking operations of the customers to

others. The court held that 'the banker must not disclose the state of his customer of his affairs except on

reasonable and proper occasion'. In case, damages for breach of contracts is awarded if it found that

customer's interest has suffered because of the disclosure of the account which is not justified.

Circumstances the banker is justified in disclosure:

1. When there is an express consent of the customer: A banker is justified in disclosing the state of his

customer’s account to a third party when there is an express consent of the customer. For instance when

the customer has given the name of his banker to a third party for the purpose of trade reference, in such

a case as a referee the banker can answer all trade enquiries made by the third party about the customer.

2. When he is compelled by the laws of the country; For instance,

(a) Under the Banker’s Book of Evidence Act of 1891 banker can disclose the state of a customer’s

account to a court.

(b) Under section 285 of the Income Tax Act of 1961 every banker is required to furnish to the income

tax authorities the names, the address and the amounts of interest paid to depositors who get more than

Rs 10,000 as interest during any accounting year.

(c) Under Exchange control Act 1947 a banker can give information relating to a customer’s account to

the exchange control authorities

(d) Under Criminal Procedure Code a banker can disclose the state of a customer’s account to the police

officials for the purpose of investigation.

(e) Under the Companies Act of1956 a banker can give information relating to a company’s account to

the inspectors appointed by the Central Government to investigate the affairs of the company.

(f) Under the Customs Act a banker can give information to the Customs authorities.

(g) Under Gift Tax Act of 1958 information can be given to the gift tax authorities.

(I) Under RBI Act of 1934 the commercial bank has to give credit information of any account to the

RBI.

4. When he is under a public duty to disclose: For instance if a banker comes to know from his

customer’s bank account that his customer is engaged in trading with an enemy country during war or is

engaged in anti-social activity he can disclose the state of the customer’s account to the government in

the interest of the state.

5. When his own interest requires disclosure: For instance when a banker takes legal action against the

customer for the Realisation of the amount due he is permitted to disclose the state of the customer’s

account to his lawyer, the court etc.

6. When an enquiry is received from a fellow banker: When an enquiry is received by a banker from a

fellow banker about the state of the customer’s account the banker can answer that enquiry as a matter of

common courtesy.

Chapter 1 (B) CUSTOMER AND ACCOUNT HOLDERS

TYPES OF CUSTOMER AND ACCOUNTS HOLDERS

Current account:

Current accounts can be opened by individuals, business entities (firms, company), institutions, Government bodies /

departments, societies, liquidators, receivers, trusts, etc.

A current account is a running and active account that may be operated upon any number of times during a working day.

There is no restriction on the number and the amount of withdrawals from a current account.

The other main features of current account are as under: –

Current accounts are non-interest bearing and banks are not allowed to pay any interest or brokerage to the

current account holders.

Overdraft facility for a short period or on a regular basis up to specified limits are permitted in current

accounts

Regular overdraft facility is granted as per prior arrangements made by the account holder with the bank. In

such cases, the bank would honour cheques drawn in excess of the credit balance but not exceeding the

overdraft limit. Prescribed interest is charged on overdraft portion of drawings.

Cheques/ bills collection and purchase facilities may also be granted to the current account holders.

The account holder periodically receives statement of accounts from the Bank.

Normally, banks levy charges for handling such account in the shape of “Ledger Folio charges”. Some

banks make no charge for maintenance of current account provided the balance maintained is sufficient to

compensate the Bank for the work involved.

Third party cheques and cheques with endorsements may be deposited in the current account for collection

and credit.

Savings Account

Savings bank accounts are meant for individuals and a group of persons like Clubs, Trusts, Associations, Self

Help Groups (SHGs) to keep their savings for meeting their future monetary needs and intend to earn income

from their savings. Banks give interest on these accounts with a view to encourage saving habits. Everyone

wants to save for something in the future and their savings should be safe and accessible anytime, anyplace to

help meet their needs. This account helps an individual to plan and save for his future financial requirements. In

this account savings are completely liquid.

Main features of savings bank accounts are as follows:

Withdrawals are permitted to the account-holder on demand, on presentation of cheques or withdrawal

form/letter. However, cash withdrawals in excess of the specified amount per transaction/day (the

amount varies from bank to bank) require prior notice to the bank branch.

Banks put certain restrictions on the number of withdrawals per month/quarter, amount of withdrawal

per day, minimum balance to be maintained in the account on all days, etc. A fee/penalty is levied if

these are violated. These rules differ from bank to bank, as decided by their Boards. The rationale of

these restrictions is that the Savings Bank account should not be used like a current account since it is

primarily intended for attracting and accumulating savings.

The Bank pays interest on the products of balances outstanding on daily basis. Rate of interest is decided

by bank from time to time.

No overdraft in excess of the credit balance in savings bank account is permitted as there cannot be any

debit balance in savings account.

Most banks provide a passbook to the account-holder wherein date-wise debit credit transactions and

credit balances are shown as per the customer’s ledger account maintained by the Bank.

Cheque Book Facility Accounts in which withdrawals are permitted by cheques drawn in favour of self

or other parties. The payees of the cheque can receive payment in cash at the drawee bank branch or

through their bank account via clearing or collection. The account holder may also withdraw cash by

submitting a withdrawal form along with Pass Book, if issued.

Non-cheque Book Facility accounts where account holders are permitted to withdraw only at the drawee

bank branch by submitting a withdrawal form or a letter accompanied with the account passbook

requesting permission for withdrawal. In such cases third parties cannot receive payments.

Almost all banks which provide ATM facility, give ATM cards to their accounts holder, so that they

avail withdrawal facility 24 hours and all days at any place.

Basic Savings Bank Deposit Account With a view to making the basic banking facilities available in a more

uniform manner across banking system, RBI has modified the guidelines on opening of basic banking ‘no-frills’

accounts’. Such accounts are now known as “Basic Savings Bank Deposit” Account which offers the minimum

common facilities as under:

– The account should be considered as a normal banking service available to all;

– No requirement of minimum balance;

– Facilitate deposit and withdrawal of cash at bank branch as well as ATMs;

– Receipt/credit of money through electronic payment channels or by means of cheques/ collection of cheques

drawn by Central/State Government Agencies and departments;

– Account holders are permitted a maximum of four withdrawals in a month including ATM withdrawals;

– Facility of ATM card or ATM-cum Debit Card

– Facilities are free of charge and no charge would be levied for non-operation/activation of in-operative ‘Basic

Savings Bank Deposit Account’;

– Holders of ‘Basic Savings Bank Deposit Account’ are not eligible for opening of any other savings bank

accounts and existing such accounts should be closed down within a period of 30 days from the date of opening

of ‘Basic Savings Bank Deposit Account’.

– Existing ‘no frills’ accounts can be converted to ‘Basic Savings Bank Deposit Account’

Differences between Saving account and Current account: Current account Savings Account

Numbers of transactions Opened for meeting day to day requirements.

No limitation on the number of transactions that can be done in a particular month.

No charge on the amount being transacted.

Opened for deposits/savings from regular income. Limitation on number of transactions in a month.

Limitation on the amount that can be deposited or withdrawn from a savings bank account

Interest paid by Bank Bank does not give any interest on these accounts

Savings Bank offers interest

Facilities offered Overdraft facility is available No overdraft facility

Term Deposits

(a) Recurring Deposits or Cumulative Deposits : In Recurring Deposits accounts, a certain amount of savings

are required to be compulsorily deposited at specified intervals for a specific period. These are intended to

inculcate regular and compulsory savings habit among the low/ middle income group of people for meeting

their specific future needs e.g. higher education or marriage of children, purchase of vehicles etc.

The main features of these deposits are:

The customer deposits a fixed sum in the account at pre-fixed frequency (generally monthly/quarterly)

for a specific period (12 months to 120 months).

The interest rate payable on recurring deposit is normally the applicable rate of fixed deposits for the

same period.

The total amount deposited is repaid along with interest on the date of maturity.

The depositor can take advance against the deposits up to 75% of the balance in the account as on the

date of advance or have the deposits pre-paid before the maturity, for meeting emergent expenses. In

the case of pre-mature withdrawals, the rate of interest would be lower than the contracted rate and

some penalty would also be charged. Similarly, interest is charged on advance against the deposits,

which is normally one or two per cent higher than the applicable rate of interest on deposits.

Monthly-Plus Deposit Scheme / Recurring Deposit Premium account It is a recurring deposit scheme with flexibility of “Step-up and Step-down” options of monthly instalments. The

scheme is available to individuals, institutions, corporate, proprietorship or partnership firms, trusts, HUF, etc.

Under the scheme, the customer selects the “core amount” at the time of opening the account and deposits the

same initially. Minimum core amount may be Rs.100 and maximum Rs.1,00,000. Period of deposit will be pre

decided by the customer himself. The depositor can deposit installment in excess of the minimum core amount

(but not exceeding ten times of the core amount) in the multiples of Rs.100 in any month. Like stepping up the

installment amount, a customer can also reduce the same (Step-down) in any subsequent months but no below

the core amount. The interest on this scheme will be as per the term deposit rate applicable for the fixed period.

Interest will be calculated on the monthly product basis, for the minimum balance between the 10th and the last

day of the month and will be credited quarterly.

Fixed Deposits

Fixed deposits are repayable on the fixed maturity date along with the principal and agreed interest rate for the

period and no operations are allowed to be performed by the customer against the deposit, as is permitted in

demand deposits. The depositor foregoes liquidity on the deposit and the bank can freely deploy such funds for

loans/advances and earn interest. Hence, banks pay higher interest rates on fixed deposits as compared to savings

bank deposits from which he can withdraw, requiring banks to keep some portion of deposits always at the

disposal of the depositors. Another reason for banks paying higher interest on fixed deposits is that the

administrative cost in the maintenance of these accounts is very small as compared to savings bank accounts

where several transactions take place in cash, transfer or clearing, thus increasing the administrative cost.

Main Features of Fixed Deposits are as follows:

o Fixed deposits are accepted for specific periods at specified interest rates as mutually agreed between

the depositor and the banker at the time of opening the account. Since the interest rate on the deposit is

contractual, it cannot be altered even if the interest rate fluctuates - upward or downward - during the

period of the deposit.

o The interest rates on fixed deposits, which were earlier regulated by the RBI, have been deregulated and

banks offer varying interest rates for different maturities as decided by their boards. The maturity- wise

interest rates in a bank will, however, be uniform for all customers subject to two exceptions - high

value deposits above certain cut-off value and deposits of senior citizens (above the specified age

normally 60 years); these may be offered higher interest rate as per specified Basis Points. However,

specific directions are issued by the bank’s board with regard to the differential rate and the authority

vested to allow such differential rate of interest, to prevent discrimination and misuse at branch level.

o Minimum period of fixed deposit is 7 days, as per the directive of the RBI. The maximum term and

band of term maturities are determined by each bank along with the respective interest rates for each

band.

o A deposit receipt is issued by the bank branch accepting the fixed deposit- mentioning the depositor’s

name, principal amount, maturity period and interest rate, dates of the deposit and its maturity etc. The

deposit receipt is not a negotiable instrument, nor is it transferable, like a cheque. However, a term

deposit receipt evidences contract for the deposit on the specified terms.

o On maturity of a deposit, the principal and interest can be renewed for another term at an interest rate

prevalent at that time and a fresh deposit receipt is issued to the customer, evidencing a fresh contract.

Alternatively, the deposit can be paid up by obtaining the discharge of the depositor on the reverse of

the receipt.

o Many banks prepay fixed deposits, at their discretion, to accommodate customers’ request for meeting

emergent expenses. In such cases, interest is paid for the period actually elapsed and at a rate generally

1 per cent lower than that applicable to the period elapsed. Banks also may grant overdraft/ loan against

the security of their fixed deposits to meet emergent liquidity requirements of the customers. The

interest on such facility will be 1 per cent - 2 per cent higher than the interest rate on the fixed deposit.

Special Term Deposits

Special Term Deposit carries all features of Fixed Deposit. In addition to these, interest gets compounded every

quarter resulting higher returns to the depositors. Now-a-days, 80% of the term deposits in banks is under this

scheme. Higher Interest payable to Senior Citizens: Persons who have attained the age of 60 years are “Senior

Citizens” in regard to the payment of higher interest not exceeding 1% over and above the normal rates of term

deposits. Each bank has prepared its own scheme of term deposits for senior citizens.

VARIOUS TYPES OF CUSTOMERS Individuals Accounts of individuals form a major chunk of the deposit accounts in the personal segment of most

banks. Individuals who are major and of sound mind can open a bank account.

Minors:

In case of minor, a banker would open a joint account with the natural guardian. However to encourage the habit

of savings, banks open minor accounts in the name of a minor and allows single operations by the minor himself/

herself. Such accounts are opened subject to certain conditions like

(i) The minor should be of some minimum age say 12 or 13 years or above

(ii) Should be literate

(iii) No overdraft is allowed in such accounts

(iv) Two minors cannot open a joint account.

(v) The father is the natural guardian for opening a minor account, but RBI has authorized mother also to sign as

a guardian (except in case of Muslim minors)

Joint Account Holders:

A joint account is an account by two or more persons. At the time of opening the account all the persons should

sign the account opening documents.

Operating instructions may vary, depending upon the total number of account holders. In case of two persons it

may be

(i) jointly by both account holders

(ii) either or survivor

(iii) former or survivor

(iv) In case no specific instructions is given, then the operations will be by all the account holders

jointly,

The instructions for operations in the account would come to an end in cases of insanity, insolvency,

death of any of the joint holders and operations in the account will be stopped.

Illiterate Persons

Illiterate persons who cannot sign are allowed to open only a savings account (without cheque facility) or fixed

deposit account. They are generally not permitted to open a current account.

The following additional requirements need to be met while opening accounts for such persons:

o The depositor’s thumb impression (in lieu of signature) is obtained on the account opening form in the

presence of preferably two persons who are known to the bank and who have to certify that they know the

depositor.

o The depositor’s photograph is affixed to the ledger account and also to the savings passbook for

identification. Withdrawals can be made from the account when the passbook is furnished, the thumb

impression is verified and a proper identification of the account holder is obtained

Hindu Undivided Family (HUF)

HUF is a unique entity recognized under the Hindu customary law as comprising of a ‘Karta’ (senior-most male

member of the joint family), his sons and grandsons or even great grandsons in a lineal descending order, who

are ‘coparceners’ (who have an undivided share in the estate of the HUF). The right to manage the HUF and its

business vests only in the Karta and he acts on behalf of all the coparceners such that his actions are binding on

each of them to the extent of their shares in the HUF property. The Karta and other coparceners may possess self

acquired properties other than the HUF property but these cannot be clubbed together for the HUF dues. HUF

business is quite distinct from partnership business which is governed by Indian Partnership Act, 1932. In

partnership, all partners are individually and collectively liable to outsiders for the dues of the partnership and all

their individual assets, apart from the assets of the partnership, would be liable for attachment for partnership

dues. Contrarily, in HUF business, the individual properties of the coparceners are spared from attachment for

HUF dues.

The following special requirements are to be fulfilled by the banks for opening and conducting HUF accounts: –

The account is opened in the name of the Karta or in the name of the HUF business.

o A declaration signed by Karta and all coparceners, affirms the composition of the HUF, its Karta and

names and relationship of all the coparceners, including minor sons and their date of birth.

o The account is operated only by the Karta or the authorized coparceners.

o In determining the security of the family property for purposes of borrowing, the self-acquired properties

of the coparceners are excluded.

o On the death of a coparcener, his share may be handed over to his wife, daughters and other female

relatives as per the Hindu Succession Act, 1956. The Hindu Succession Act, 1956 has been amended in

2005. The Amendment Act confers equal rights to daughters in the Mitakshara Coparcenary property.

With this amendment the female coparcener can also act as Karta of the HUF. When any HUF property is

to be mortgaged to the Bank as a security of loan, all the major coparceners (including female

coparceners) will have to execute the documents Firms The concept of ‘Firm’ indicates either a sole

proprietary firm or a partner- ship firm. A sole proprietary firm is wholly owned by a single person,

whereas a partnership firm has two or more partners. The sole-proprietary firm’s account can be opened

in the owner’s name or in the firm’s name.

A partnership is defined under section 4 of the Indian Partnership Act, 1932, as the relationship between

persons who have agreed to share the profits of business carried on by all or any of them acting for all. It can be

created by an oral as well as written agreement among the partners. The Partnership Act does not provide for the

compulsory registration of a firm. While an unregistered firm cannot sue others for any cause relating to the

firm’s business, it can be sued by the outsiders irrespective of its registration.

In view of the features of a partnership firm, bankers have to ensure that the following requirements are complied

with while opening its account:

o The account is opened in the name of the firm and the account opening form is signed by all the partners of

the firm.

o Partnership deed executed by all the partners (whether registered or not) is recorded in the bank’s books,

with suitable notes on ledger heading, along with relevant clauses that affect the operation of the account.

o Partnership letter signed by all the partners is obtained to ensure their several and joint liabilities. The letter

governs the operation of the account and is to be adhered to accordingly. The following precautions should

be taken in the conduct of a partnership account:

o The account has to be signed ‘for and on behalf of the firm’ by all the authorized partners and not in an

individual name.

o A cheques payable to the firm cannot be endorsed by a partner in his name and credited to his personal

account.

o In case the firm is to furnish a guarantee to the bank, all the partners have to sign the document.

o If a partner (who has furnished his individual property as a security for the loan granted to the firm) dies,

no further borrowings would be permitted in the account until an alternative for the deceased partner is

arranged for, as the rule in Clayton’s case operates.

Companies A company is a legal entity, distinct from its shareholders or managers, as it can sue and be sued in its own

name. It is a perpetual entity until dissolved. Its operations are governed by the provisions of the Companies Act,

1956.

A company can be of three types:

o Private Limited company: Having 2 to 51 shareholders.

o Public company: Having 7 or more shareholders.

o Government company: Having at least 51per cent shareholdings of Government (Central or State).

The following requirements are to be met while opening an account in the name of a company:

o The account opening form meant for company accounts should be filled and specimen signatures of the

authorized directors of the company should be obtained.

o Certified up-to-date copies of the Memorandum and Articles of Association should be obtained. The

powers of the directors need to be perused and recorded to guard against ‘ultra vires’ acts of the

company and of the directors in future.

o Certificate of Incorporation (in original) should be perused and its copy retained on record.

o In the case of Public company, certificate of commencement of business should be obtained and a copy

of the same should be recorded. A list of directors duly signed by the Chairman should also be obtained.

o Certified copy of the resolution of the Board of Directors of the company regarding the opening,

execution of the documents and conduct of the account should be obtained and recorded.

Trusts

A trust is a relationship where a person (trustee) holds property for the benefit of another person (beneficiary) or

some object in such a way that the real benefit of the property accrues to the beneficiary or serves the object of

the A trust is generally created by a trust deed and all concerned matters are governed by the Indian Trusts Act,

1882. The trust deed is carefully examined and its relevant provisions, noted. A banker should exercise extreme

care while conducting the trust accounts, to avoid committing breach of trust:

– A trustee cannot delegate his powers to other trustees, nor can all trustees by common consent delegate their

powers to outsiders.

– The funds in the name of the trust cannot be used for crediting in the trustee’s account, nor for liquidating the

debts standing in the name of the trustee.

– The trustee cannot raise loan without the permission of the court, unless permitted by the trust deed.

Clubs Account of a proprietary club can be opened like an individual account. However, clubs that are

collectively owned by several members and are not registered under Societies Registration Act, 1860, or under

any other Act, are treated like an unregistered firm. While opening and conducting the account of such clubs, the

following requirements are to be met:

– Certified copy of the rules of the club is to be submitted.

– Resolution of the managing committee or general body, appointing the bank as their banker and specifying the

mode of operation of the account has to be submitted,

– The person operating the club account should not credit the cheques drawn favouring the club, to his personal

account.

Special Schemes for Non-Resident Indians (NRIs)

Non-resident deposits are mobilized from the persons of Indian nationality, or Indian origin living abroad

(NRIs) and Overseas’ Corporate Bodies (OCBs) predominantly owned by such persons.

1. Non-Resident Indians (NRIs) These fall into two categories:

(a) Indian citizens who stay abroad for employment/business/ vacation or for any other purpose in the

circumstances indicating an intention to stay abroad for an uncertain period. Income Tax Act has prescribed

minimum residence period abroad in a year or block of years for determining income tax liability of such persons

in India.

(b) Persons of Indian Origin (PIOs) other than Pakistan or Bangladesh, who had held Indian Passport at any

time, or whose parents or grand- parents were citizens of India, or the person is a spouse of an Indian citizen.

Ordinary Non-Resident (NRO) NRIs can open Non-Resident Ordinary (NRO) deposit accounts for collecting

their funds from local bona fide transactions. NRO accounts being Rupee accounts, the exchange rate risk on

such deposits is borne by the depositors themselves. When a resident becomes a NRI, his existing Rupee

accounts are designated as NRO.Such accounts also serve the requirements of foreign nationals resident in India.

NRO accounts can be maintained as current, saving, recurring or term deposits. While the principal of NRO

deposits is non-repatriable, current income and interest earning is repatriable. Further NRI/PIO may remit an

amount, not exceeding US $ 1 million per financial year, out of the balances held in NRO accounts/ sale

proceeds of assets /the assets in India acquired by him by way of inheritance/legacy, on production of

documentary evidence in support of acquisition, inheritance or legacy of assets by the remitter, and an

undertaking by the remitter and certificate by a Chartered Accountant in the formats prescribed by the Central

Board of Direct Taxes vide their Circular No. 10/2002 dated October 9, 2002.

Non-Resident (External) (NRE) Accounts The Non-Resident (External) Rupee Account NR(E)RA scheme,

also known as the NRE scheme, was introduced in 1970. Any NRI can open an NRE account with funds remitted

to India through a bank abroad. This is a repatriable account and transfer from another NRE account or FCNR

account is also permitted. A NRE rupee account may be opened as current, savings or term deposit. Local

payments can be freely made from NRE accounts. Since this account is maintained in Rupees, the depositor is

exposed to exchange risk. NRIs / PIOs have the option to credit the current income to their Non-Resident

(External) Rupee accounts, provided the authorized dealer is satisfied that the credit represents current income of

the non-resident account holders and income tax thereon has been deducted / provided for.

FCNR Scheme Non-Resident Indians can open accounts under this scheme. The account should be opened by

the non-resident account holder himself and not by the holder of power of attorney in India.

– These deposits can be maintained in any fully convertible currency.

– These accounts can only be maintained in the form of term deposits for maturities of minimum 1 year to

maximum 5 years.

– These deposits can be opened with funds remitted from abroad in convertible foreign currency through normal

banking channel, which are of repatriable nature in terms of general or special permission granted by Reserve

Bank of India.

– These accounts can be maintained with branches, of banks which are authorized for handling foreign exchange

business/nominated for accepting FCNR deposits.

– Funds for opening accounts under Global Foreign Currency Deposit Scheme or for credit to such accounts

should be received from:

– Remittance from outside India or

– Traveller Cheques/Currency Notes tendered on visit to India. International Postal Orders cannot be accepted

for opening or credit to FCNR accounts.

– Transfer of funds from existing NRE/FCNR accounts.

– Rupee balances in the existing NRE accounts can also be converted into one of the designated currencies at the

prevailing TT selling rate of that currency for opening of account or for credit to such accounts.

Advantages of FCNR Deposits

– Principal along with interest freely repatriable in the currency of the choice of the depositor.

– No Exchange Risk as the deposit is maintained in foreign currency. Loans/overdrafts in rupees can be availed

by NRI depositors or 3rd parties against the security of these deposits. However, loans in foreign currency

against FCNR deposits in India can be availed outside India through correspondent Banks.

– No Wealth Tax & Income Tax is applicable on these deposits.

– Gifts made to close resident relatives are free from Gift Tax.

– Facility for automatic renewal of deposits on maturity and safe custody of Deposit Receipt is also available.

Payment of Interest on FCNR deposits is being paid on the basis of 360 days to a year. However, depositor is

eligible to earn interest applicable for a period of one year if the deposit has completed a period of 365 days. For

deposits up to one year, interest at the applicable rate will be paid without any compounding effect. In respect of

deposits for more than one year, interest can be paid at intervals of 180 days each and thereafter for remaining

actual number of days. However, depositor will have the option to receive the interest on maturity with

compounding effect in case of deposits of over one year.

No bank should:

(i) Accept or renew a deposit over five years;

(ii) Discriminate in the matter of rate of interest paid on the deposits, between one deposit and another accepted

on the same date and for the same maturity, whether such deposits are accepted at the same office or at different

offices of the bank, except on the size group basis.

The permission to offer varying rates of interest based on size of the deposits will be subject to the following

conditions:

(a) Banks should, at their discretion, decide the currency-wise minimum quantum on which differential rates of

interest may be offered. For term deposits below the prescribed quantum with the same maturity, the same rate

should apply.

(b) The differential rates of interest so offered should be subject to the overall ceiling prescribed.

(c) Interest rates paid by the bank should be as per the schedule and not subject to negotiation between the

depositor and the bank.

(iii) Pay brokerage, commission or incentives on deposits mobilized under FCNR Scheme in any form to any

individual, firm, company, association, institution or any other person.

(iv) Employ/ engage any individual, firm, company, association, institution or any other person for collection of

deposit or for selling any other deposit linked products on payment of remuneration or fees or commission in any

form or manner.

(v) Accept interest-free deposit or pay compensation indirectly.

List of documents to be obtained by banks for opening an account

Features to be verified and documents that may be obtained from customers Features Documents

Accounts of individuals

– Legal name and any other names

used

– Correct permanent address

(i) Passport (ii) PAN card (iii) Voter’s Identity Card/ Aadhar Card (iv)

Driving licence (v) Identity card (subject to the bank’s satisfaction) (vi)

Letter from a recognized public authority or public servant verifying the

identity and residence of the customer to the satisfaction of bank (i)

Telephone bill (ii) Bank account statement (iii) Letter from any

recognized public authority (iv) Electricity bill (v) Ration card (vi) Letter

from employer (subject to satisfaction of the bank) (any one document

which provides customer information to the satisfaction of the bank will

suffice)

Accounts of companies

– Name of the company

– Principal place of business

– Mailing address of the company

– Telephone/Fax Number

(i) Certificate of incorporation and Memorandum & Articles of

Association (ii) Resolution of the Board of Directors to open an account

and identification of those who have authority to operate the account (iii)

Power of Attorney granted to its managers, officers or employees to

transact business on its behalf (iv) Copy of PAN allotment letter (v) Copy

of the telephone bill

Accounts of partnership firms

– Legal name

– Address Power of Attorney

granted to a partner or an employee

of the

– Names of all partners and their

addresses

-Telephone numbers of the firm

and the partners

(i) Registration certificate, if registered (ii) Partnership deed (iii) firm to

transact business on its behalf (iv) Any officially valid document

identifying and the persons holding partners the Power of Attorney and

their addresses (v) Telephone bill in the name of firm/partners

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2. COLLECTING BANKER

NEGOTIABLE INSTRUMENTS Many documents are used in the modem commercial world. But, certain documents

are freely used in commercial transactions which are called negotiable instruments.

‘Negotiable’ means transferable whereas ‘instrument’ means a document, therefore negotiable instruments

means a transferable document. A negotiable instrument is one the legal title of which can be transferred freely from

all defects and the transferee can sue in his own name. But this negotiable instrument is not assignable, but

transferable. Thus, negotiability "easy transferability from one person to another in return for consideration".

Negotiable Instruments Act In India, the negotiable instruments are governed by the Negotiable Instruments

Act of 1881. Sec.13 of the Negotiable Instruments Act simply states that "negotiable means promissory note of

exchange or cheque payable either to order or to bearer ". Thus, Law recognizes three kinds of negotiable instruments,

namely a cheque, a bill of exchange and a promissory note. But, in recent times because of mercantile usage or

custom, certain other documents have been included in the category of Negotiable Instruments there are: dividend

warrants, bearer bonds, bearer scrips debentures payable to bearer, share warrants to bearer and treasury bills.

Definition: A Negotiable Instruments thus plays a key role in the modern business as a document which can

be transferable with ease. Wills defines it as "one property is acquired by anyone who takes it bonafide and for value,

not withstanding any defects of title in the person from whom he took it."

Types of Negotiable Instruments In India law recognizes only three instruments as negotiable and they are:

(i) Promissory note (ii) Bill of Exchange (iii) Cheque.

Meaning of Collecting Banker

A Collecting banker is one who undertakes to collect cheques, drafts, bill, pay order, traveller cheque, letter of

credit, dividend, debenture interest, etc., on behalf of the customer. For undertaking this collection, the collecting

banker will be charging commission. Examples: ICICI Bank, HDFC Bank, SBI Bank etc.

Duties and Responsibilities of a Collecting Banker

The duties and responsibilities of a collecting banker are discussed below:

1. Due Care and carefulness in the Collection of Cheques: The collecting banker is bound to show due care and

carefulness in the collection of cheques presented to him. In case a cheque is entrusted with the banker for collection,

he is expected to show it to the drawee banker within a reasonable time.

2. Serving Notice of Dishonor: When the cheque is dishonoured, the collecting banker is bound to give notice of the

same to his customer within a reasonable time. It may be noted here, when a cheque is returned for confirmation of

endorsement, notice must be sent to his customer.

3. Agent for Collection: In case a cheque is drawn on a place where the banker is not a member of the ‘clearing-

house’, he may employ another banker who is a member of the clearing-house for the purpose of collecting the

cheque. In such a case the banker becomes a substituted agent.

4. Payment of Interest to the Customer: In case a collecting banker has realised the cheque, he should pay the interest

to the customer as per his (customer’s) direction.

5. Collection of Bills of Exchange: There is no legal obligation for a banker to collect the bills of exchange for its

customer. But, generally, bank gives such facility to its customers.

Holder

Definition: Holder is an individual who has lawfully received possession of a Commercial Paper, such as a cheque

and who is entitled for payment on such instrument.

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Holder for Value

Holder for value is a holder to whom an instrument is issued or transferred in exchange for something of value as a

promise of performance or a negotiable instrument. Example: A banker becomes a holder for value when: The value

of cheque is paid before collection of the cheque.

Holder in Due Course: A holder in due course is the holder of negotiable instruments who has given value in good

faith without notice of any previous dishonour in taking the bill, which appears to be complete and regular. Statutory

protection to Collecting Banks under the negotiable instruments Act The protection provided by Section 131 is not

absolute but qualified.

A collecting banker can claim protection against conversion if the following conditions are fulfilled:

1. Good Faith and Without Negligence Statutory protection is available to a collecting banker when he receives

payment in good faith and without negligence. The phrase in “good faith” means honestly and without notice or

interest of dishonesty or fraud and does necessarily require carefulness. Negligence means failure to exercise

reasonable care. The banker should have exercised reasonable care and deligence.

2. Collection for a Customer Statutory protection is available to a collecting banker if he collects on behalf of his

customer only. If he collects for a stranger or noncustomer, he does not get such protection. A bank cannot get

protection when he collects a cheque as holder for value

3. Acts as an Agent A collecting banker must act as an agent of the customer in order to get protection. He must

receive the payment as an agent of the customer and not as a holder under independent title. The banker as a holder

for value is not competent to claim protection from liability in conversion. In case of forgery, the holder for value is

liable to the true owner of the cheque. Crossed Cheques Statutory protection is available only in case of crossed

cheques. It is not available in case uncrossed or open cheques because there is no need to collect them through a

banker. Cheques, therefore, must be crossed prior to their presentment to the collecting banker for clearance.

Difference between holder and holder-in-due-course can be explained on the basis of the following

Basis Holder Holder in Due Course

Entitlement Holder is a person who is entitled for

the possession of a negotiable

instrument in his own name. Hence he

shall receive or recover the amount due

thereon

Whereas a Holder-in-due-course is a

person who has obtained the

instrument for consideration and in

good faith and before maturity.

Consideration Consideration is not necessary to

become a holder. The instrument may

also be given by way of a donation or

gift and thus, the done of an instrument

can also become a holder of it.

consideration is a must to become a

holder-in-due-course and thereby the

done of a negotiable instrument can be

a holder but not holder-in-due-course

Maturity A holder may acquire the instrument

even after its maturity

holder-in-due-course must acquire the

instrument before its maturity failing

which he will not enjoy the rights of a

holder-in-due-course.

Title A holder does not acquire a better title

than that of transferor. In simple

words, if the title of any of the prior

party is defective, his title will not be

defect free. Whereas, a holder-in-due-

course derives a good title freed from

all defects.

His title is better than that of the

transferor.

3

Right to recover

amount

A holder has a right to recover the

amount due on the instrument from the

transferor (i.e., just preceding party)

only from whom he has obtained the

instrument.

Holder-in-due-course, on the other

hand, can recover the amount due on

the instrument from any of the prior

parties till the instrument is duly

discharged. Thus, all prior parties shall

remain liable towards the holder-in-

due-course, jointly as well as severally,

till the instrument is duly discharged.

Notice of defect in

the Title

holder is exempt from this condition.

He may have notice of defect in the

title but he shall not be liable for it

unless he is a party to that defect,

fraud, or forgery.

A holder-in-due-course is not only

supposed to have acquired the

instrument without any notice of the

defect of the title of the person from

whom he obtained it, but also there

should be no cause on his part to

believe that any defect sustains in the

transferor’s title.

Privileges No privilege to enjoy under negotiable

instrument Act

A holder-in-due-course enjoys certain

privileges under the Negotiable

instruments Act (as discussed earlier),

which are not available to a holder.

A collecting banker is holder for value if he gives the value of the cheque in any form to its customer before collecting

the proceeds of the cheque deposited by the latter. He does not remain an agent of the customer, but becomes the

owner of the cheque in his own right since he has paid value for it, and has acquired the ownership right in good faith.

In such a situation, the banker is called holder for value and he is also the holder in due course.

According to Paget, a banker becomes an holder for value in the following ways:

(a) By lending further on the strength of the cheque;

(b) By paying the amount of the cheque or part of it in cash or in account before it is cleared;

(c) By agreeing that the customer may draw before the cheque is cleared;

(d) By accepting the cheque in avowed reduction of an existing overdraft;

(e) By giving cash over the counter for the cheque at the time it is deposited in for collection.

Rights of collecting Banker as a Holder for Value:

The following rights are available for collecting banker when he acts as holder for value:

Rights to collect cheque amount for himself. In case of holder for value, collecting banker pays amount to

customer before it is collected and here banker collect amount for himself not for customer.

In case the cheque which sent for collection is dishonoured, in such circustances collecting banker can recover

money from all the endorsers of cheque.

Collecting banker can recover amount from customer in case the title of the cheque is illegal, i.e. if collecting

banker collects the cheque of third party which is deposited by customer.

If the cheque has defective title and credited amount before it is collected by the banker, in such case banker

can recover amount from all the previous endorser of the cheque.

Precautions to be taken by collecting banker as a holder for value:

The following are the precautions to be taken by collecting banker while acting as a holder for value:

I. The banker must see worthiness of the customer while acting as holder for value. If the customer is loyal and

has good relationship with the banker then customer can credit the cheque amount before it is actually

4

collected and even in case of dishonor or the cheque banker can recover amount by the customer if hr is loyal

customer.

II. Acting as holder for value banker should confirm title of cheque. He should ensure that his customer is the

true owner of the cheque to avoid risk.

III. Collecting banker should examine the state of cheque and essential contents of the cheque to avoid dishonor

of the cheque, if everything is right in the cheque the he can go ahead.

IV. Collecting banker should advise customer to repay money or damage caused by the dishonor or defective title

of the cheque.

V. The banker should collect amount from paying banker with in stipulated time or as soon as possible.

As agent for collection:

When the banker undertakes to collect the cheques and credits the account of the customer only on

realization. Thus, in acting as agent for collection, there is no risk for the collection, there is no risk for the collecting

banker whereas in the case of holder for value, the collecting banker has enormous risks, especially when the cheque

is dishonored or payment has been made to the wrongful owner of the cheque.

Liabilities of collecting banker as an agent of customer:

1. Collecting banker should collect the cheque amount with in stipulated time and credit same to the customer

account

2. In case of any dishonor of cheque collecting banker must serve notice to customer regarding dishonor of

cheque with reason of dishonor

3. While collecting cheque banker must function in good faith and without negligence.

4. While collecting customer cheque bank should show his skill and efficiency to collecting cheque as soon as

possible

5. Collecting banker should serve dishonor notice in case dishonor of cheque within reasonable time otherwise

collecting banker is liable for damages causes to customer

6. If any damages cause to customer by the negligence of collection banker while performing function, he will

become liable to customer.

Distinction between Holder for value and Agent of Customer

Holder for value Agent of customer

Collecting banker collects amount for himself but not

for customer in case of holder for value

Collecting banker collects cheque amount for customer

in case of agent of customer

Collecting banker will credit cheque amount to

customer account before it has been collected from

paying banker

Collecting banker will credit cheque amount to

customer account after it has been collected from

paying banker and before that.

Collecting banker will be the owner of cheque not

customer.

The actual owner of the cheque will be the customer

only and he gets the title of cheque.

When Collecting banker acts as holder for value, he

will not get any legal protection.

When Collecting banker acts as agent for value he will

get legal protection of cheque.

Negligence

The word negligence has no particular meaning, it depends on circumstances. Generally negligence refers to

careless of banker while performing its duties. Negligence depends upon the circumstances of each case.

A collecting banker can claim protection against conversion if the following conditions are fulfilled:

1. Good Faith and Without Negligence Statutory protection is available to a collecting banker when he receives

payment in good faith and without negligence. The phrase in “good faith” means honestly and without notice or

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interest of dishonesty or fraud and does necessarily require carefulness. Negligence means failure to exercise

reasonable care. The banker should have exercised reasonable care and deligence.

2. Collection for a Customer Statutory protection is available to a collecting banker if he collects on behalf of his

customer only. If he collects for a stranger or noncustomer, he does not get such protection. A bank cannot get

protection when he collects a cheque as holder for value

3. Acts as an Agent A collecting banker must act as an agent of the customer in order to get protection. He must

receive the payment as an agent of the customer and not as a holder under independent title. The banker as a holder

for value is not competent to claim protection from liability in conversion. In case of forgery, the holder for value is

liable to the true owner of the cheque.

Crossed Cheques Statutory protection is available only in case of crossed cheques. It is not available in case uncrossed

or open cheques because there is no need to collect them through a banker. Cheques, therefore, must be crossed prior

to their presentment to the collecting banker for clearance. Review

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3. Paying Banker

Meaning: Paying banker

“The bank on which a cheque is drawn (the bank whose name is printed on the cheque) and which pays the amount

for which the cheque is written and deducted that sum from the customer’s account”

Payment in due course

Analysis of section 10 reveals that the following conditions must be satisfies before a payment of a negotiable

instrument can be called as a payment in due course.

1. Payment in accordance with apparent tenor: When a paying banker receives cheques, he has to carefully go

through the instructions given by the drawer. For example, if the drawer has issued a cheque dated 10th June 2000,

Payment cannot be made before the date. If the cheque is crossed, then the banker cannot make payment across the

counter.

2. In good faith: The paying banker will make payment to a person whose ownership is certain. In other words, the

person presenting the cheque creates absolute good faith in the minds of the banker regarding the ownership.

3. without negligence: The paying banker has to go through the contents of cheque before making payment. If the

cheque contains any alteration, overwriting or cancellation, payment cannot be made. Sometimes, the cheque may

also contain " material alteration”.

4. To the person in possession: Paying banker can make payment to a holder in due course only when he is in

possession of the instrument. Possession is a must for a holder in due course. For a holder it is not a must. Thus, a

paying banker should make payment only to that person who is in possession and presents the cheque for payment.

5. Circumstances: Even though the person presenting the cheque may fulfills all conditions, but still creates a doubt

in the minds of the paying banker at the time of making payment, the paying banker must get it clarified before

making payment. There are instances where the amount of the cheque and the status of the presenting the cheque are

inconsistent.

Precautions to be taken by paying banker

While making payment of Cheques The banker has to take the following precautions while honouring the cheques of

his customers:

1. Crossed Cheque: The most important precaution that a banker should take is about crossed cheques. A banker has

to verify whether the cheque is open or crossed. He should not pay cash across the counter in respect of crossed

cheques. If the cheque is a crossed one, he should see whether it is general crossed or special crossed. If it is general

crossing, the holder must be asked to present the cheque through some banker and should be paid to a banker. If the

cheque bears a special crossing, the banker should pay only the bank whose name is mentioned in the crossing.

2. Open Cheque: If it is an open cheque, a banker can pay cash to the payee or the holder across the counter. If the

banker pays against the instructions as indicated above, he is liable to pay the amount to the true owner for any loss

sustained. Further, a banker loses statutory protection in case of forged endorsement.

3. Proper Form: A banker should see whether the cheque is in the proper form. That means the cheque should be in

the manner prescribed under the provisions of the Negotiable Instruments Act. It should not contain any condition.

4. Presentment of Cheque: Presentation of the cheque should be in right format and right place. A banker can

honour the cheques provided it is presented with that branch of the bank where the drawer has an account or another

branch if it is multi-city cheque.

5. Date of the Cheque: The paying banker has to see the date of the cheque. It must be properly dated. It should not

be either a post-dated cheque or a stale-cheque. If a cheque carries a future date, it becomes a post-dated cheque. If the

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cheque is presented on the date mentioned in the cheque, the banker need not have any objection to honour it. If the

banker honours a cheque before the date mentioned in the cheque, he loses statutory protection. If the drawer dies or

becomes insolvent or countermands payment before the date of the cheque, he will lose the amount. The undated

cheques are usually not honoured.

6. Words and Figures: The amount of the cheque should be expressed in words, or in words and figures, which

should agree with each other. When the amount in words and figures differ, the banker should refuse payment.

However, Section 18 of the Negotiable Instruments Act provides that, where there is difference between the amount

in words and figures, the amount in words is the amount payable. If the banker returns the cheque, he should make a

remark ‘amount in words and figures differ’.

7. Alterations and Overwriting: The banker should see whether there is any alteration or overwriting on the cheque.

If there is any alteration, it should be confirmed by the drawer by putting his full signature. The banker should not pay

a cheque containing material alteration without confirmation by the drawer. The banker is expected to exercise

reasonable care for the detection of such alterations. Otherwise, he has to take risk. Material alterations make a cheque

void.

8. Proper Endorsements: Cheques must be properly endorsed. In the case of bearer cheque, endorsement is not

necessary legally. In the case of an order cheque, endorsement is necessary. A bearer cheque always remains a bearer

cheque. The paying banker should examine all the endorsements on the cheque before making payment.

Statutory Protection for Paying Banker

The paying banker should take the following protection, in order to protect himself and customer’s interest, while

making the payment of his customer’s cheques:

(i) Protection regarding the order cheque In case of an order cheque, Section 85(1) of the NI Act provides

statutory protection to the paying banker as follows,

where a cheque payable to order purports to be endorsed by or on behalf of the payee, the drawee is

discharged by payment in due course.

o Endorsement must be regular: the endorsement made on the cheque must be-regular though not

necessarily genuine or valid. There are some differences between the regular endorsement and its

genuineness or valid endorsement.

o Regular Endorsement: one in which a cheque payable to certain person in endorsed under the

signature bearing the same name and in the same spelling as that of the payee or the endorsee, the

endorsement is said to be regular.

o Valid or genuine endorsement is that endorsement which has been made by the person who is the

true owner of the cheque or has the necessary authority to sign on the behalf of the payee.

(ii) Protection in case of bearer cheques Section 85 (2) of the Negotiable Instruments Act, 1881 states, “Whereas a

cheque is originally expressed to be payable to bearer, the drawee is discharged by payment in due course to the

bearer thereof, notwithstanding any endorsement whether in full or in blank appearing thereon, notwithstanding that

any such endorsement purports to restrict or exclude further negotiation.”

(iii) Protection in case of crossed cheques Regarding payment of crossed cheque, the paying banker gets the

protection under Section 128 of the Negotiable Instruments Act, 1881: “Whereas the banker on whom a crossed

cheque is drawn has paid the same in due course, the banker paying the cheque and the drawer thereof (in case such

cheque has come to the hands of the payee) shall be entitled respectively to the same rights and placed in the same

position if the amount of the cheque had been paid to and received by the true owner thereof.”

Paying banker has to fulfill the following two condition to avail the protection under section 128.

*Payment in due course: he was made payment in due course (under sec 10) .i.e., in good faith and without

negligence and according to the apartment tenor of the cheque and

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* requirement of the crossing: the payment has been made in accordance with the requirement of the crossing

(under sec 12) .i.e., through any banker in case of general crossing and through the specified banker in case of special

crossing.

(v) Protection in case of draft Section 85A of the NI Act states that, Drafts drawn by one branch of a bank on

another payable to order where any draft, that is an order to pay money, drawn by one office of a bank upon another

office of the same bank for a sum of money payable to order on demand, purports to be endorsed by or on behalf of

the payee, the bank is discharged by payment in due course.

Cheques

A cheque, being a Negotiable Instruments can be passed from hand to hand easily and so it has become a

popular mode of payments. A cheque is the most economical and safe method of money transaction because the

transfer cost is very low and also the possibility of loss is minimum. A cheque is a document that orders a bank to pay

a specific amount of money from a person's account to the person in whose name the cheque has been issued. The

person writing the cheque, the drawer, has a transaction banking account (often called a current, cheque, chequing or

checking account) where their money is held. The drawer writes the various details including the monetary amount,

date, and a payee on the cheque, and signs it, ordering their bank, known as the drawee, to pay that person or

company the amount of money stated. A cheque, is a bill of exchange drawn on a specified banker, expressed to be

payable only on demand (Sec.6).

Although a cheque is a bill of exchange, yet is have two additional characteristics, namely:

(i) A cheque is always drawn on a specified banker with whom the drawer has deposited the money;

(ii) (ii) It is always payable on demand. Thus all cheques are bills of exchange but all bills of exchange

are not cheques.

THE SALIENT FEATURES OF A CHEQUE

1. Instruments in writing

A cheque must necessarily be an instrument in writing. Oral orders therefore do not constitute a cheque. There

is no specific rule regarding the writing materials to be used. It may be done by means of a nib, a pencil, a

type writer or any other printed character. So also, according to the Negotiable Instruments Act, writing out

cheques with lead pencils also. But, bankers in their own interest, and in the interest of their customers, allow

the cheques to be drawn only in ink. In all other cases, fraudulent alterations unauthorized by the drawer are

easy to make but difficult to detect.

2. An Unconditional Order

A cheque is an order to pay and it is not request. In the indigenous bill of exchange, words of courtesy with,

little monetary implication were generously employed. They are conspicuous by their absence in the modern

cheque. It is not essential that the word 'order' must form a part of the writing because the word ‘order' must

form a part of the writing because the word 'pay' itself denotes a command and words like 'please' or 'kindly'

are dispensed with in cheque.

3. On a Specified Banker

A Cheque is always drawn on a particular banker only. Usually the name and address of the banker is clearly

printed of the cheque leaf itself. It is advisable that the full name of the banker is mentioned in the cheque. For

e.g. instead of "l O B" it must be written "Indian Overseas Bank." A cheque drawn on a particular branch of a

particular bank cannot be encashed at another branch of the same bank, unless there is an agreement between

the parties.

4. Payee to be certain

In order that a cheque may be a valid one, it must be made payable to the order of a certain specified person

or to his agent or the bearer thereof. That is why Sir John Paget rightly points out that "A normal cheque is

one in which there is a drawer, a drawee whom the amount the cheque is payable. The payee must, therefore,

be a certain person. He may be a human being or an artificial person i.e., a body corporate, e.g., a company,

an authority, a trade union etc.

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5. A Certain Sum of Money

A cheque is usually drawn for a definite sum of money. Indefiniteness has no place in monetary transaction

any phrase like 'less than Rupee One Hundred Only' or Above rupees two hundred only does not give a clear

and concrete idea to the parties concerned and it will render the cheque invalid. That is why the modem

bankers request their customers to draw the amount both in words and figures even through, the Negotiable

Instruments Act is silent on this point. If there is any difference between the amount in figures and words, the

bankers can return the cheque, since, the amount is not certain.

6. Payable on Demand

A cheque is always payable only on demand. It is not necessary to use the word 'on demand' as in the case of

a demand bill. As per Sec.19 of the Negotiable Instruments Act, unless a time factor is specified by the

drawer, the cheque is always payable on demand.

7. To signed by the drawer:

The cheque must be signed by the drawer i.e., the drawer normally puts his- signature at the bottom right hand

comer of the cheque. The signature must be that of the person in whose name the account is kept or his

authorised agent. When the signature differs from the specimen or it is slightly different, the banker need not

honour the cheque.

Specimen of a Cheque

Types / kinds of cheques

1. Bearer Cheque When the words "or bearer" appearing on the face of the cheque are not cancelled, the cheque

is called a bearer cheque. The bearer cheque is payable to the person specified therein or to any other else who

presents it to the bank for payment. However, such cheques are risky, this is because if such cheques are lost, the

finder of the cheque can collect payment from the bank.

2. Order Cheque When the word "bearer" appearing on the face of a cheque is cancelled and when in its place

the word "or order" is written on the face of the cheque, the cheque is called an order cheque. Such a cheque is

payable to the person specified therein as the payee, or to any one else to whom it is endorsed (transferred).

3. Uncrossed / Open Cheque When a cheque is not crossed, it is known as an "Open Cheque" or an "Uncrossed

Cheque". The payment of such a cheque can be obtained at the counter of the bank. An open cheque may be a

bearer cheque or an order one.

4. Crossed Cheque Crossing of cheque means drawing two parallel lines on the face of the cheque with or

without additional words like "& CO." or "Account Payee" or "Not Negotiable". A crossed cheque cannot be

encashed at the cash counter of a bank but it can only be credited to the payee's account

5. Anti-Dated Cheque If a cheque bears a date earlier than the date on which it is presented to the bank, it is

called as "anti-dated cheque". Such a cheque is valid upto three months from the date of the cheque.

6. Post-Dated Cheque If a cheque bears a date which is yet to come (future date) then it is known as post-dated

cheque. A postdated cheque cannot be honoured earlier than the date on the cheque.

7. Stale Cheque If a cheque is presented for payment after three months from the date of the cheque it is called

stale cheque. A stale cheque is not honoured by the bank

Crossing of cheques

Cheques are of two types, open cheques and crossed cheques. Open cheques are those which are paid over the

counter of the bank. In other words, they need not be put through a bank account. Open cheques are liable to great

risk in the course of circulation. They may be either lost or stolen and the finder or thief can get it encased at the

bank unless the drawer has in the meantime countermanded payment. With a view to avoiding such risks, and

protect the owner of cheque, a system of crossing was introduced. Crossing is a direction to the banker not to pay

the cheque across the counter but to pay to a bank only or to particular bank in an account with the bank. Thus

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crossing provides a protection and safeguard to the owner of the cheque as by securing payment through a banker;

it can easily be detected to whose use the money is received.

Crossing does not, however, affect the negotiability or transferability of a cheque. But where the words ‘not

negotiable’ are added, the cheque is not negotiable. The practice of crossing is confined to cheques only and

cannot be extended to any other instrument.

Kinds of crossing: Crossing is of two type's namely general crossing and special crossing.

1. General Crossing: In a general crossing, simply two parallel transverse lines, with or without the words 'not

negotiable' in between, may be drawn. Such a cheque is crossed generally. The effect of general crossing is

that the payment of the cheque will not be made at the counter, it can be collected only through a banker.

Essential of General Crossing:

1. Two lines are to paramount importance in crossing.

2. The lines must be drawn parallel and transverse, Transverse means, that, they should be arranged in a

crosswise direction. They should not be straight lines.

3. The lines are generally drawn on the left hand sign so as not to obliterate or alter the printed number of the

cheque. Preferably, the line should cut cross some of the writings.

4. The words ‘And company' or its abbreviation may be Written in between the lines. They themselves are not

essential, and so, they do not constitute crossing without two parallel transverse lines.

5. So also, the words 'Not negotiable' may be added to a crossing but they themselves do not constitute a

crossing.

Significance of general crossing:

(i) The effect of general crossing is that it gives a direction to the paying banker.

(ii) The direction is that, the paying banker should not pay the cheque at the counter. It should be paid

only to a fellow banker. In other words, payment is made through an account and not at the counter.

(iii) If a crossed cheque is paid at the counter contravention of the crossing:

a. The payment does-not amount to payment in due course. So, the paying banker will lose his

statutory protection.

b. He has no right to debit his-customer's account since, it will constitute a breach of his customer's

mandate.

c. He will be liable to the drawer for any loss, which he may suffer,

d. He will be liable to the true owner of the cheque who may be a third party, irrespective of the fact,

that, there is no contract between the banker and the third party. As a general rule, a banker is

answerable only to his customer and this liability to a third party here is an exception.

(iv) The main intention of crossing a cheque is to give protection to it. When a cheque is crossed generally, a

person who is not entitled to receive its payment is prevented from getting that cheque cashed at the counter

of the paying banker.

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2. Special Crossing

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.

The effect to special crossing is that the paying banker will be the amount of the cheque only through the bank named

in the cheque Essential of Special Crossing:

(a) Two parallel transverse lines are not at all essential for a special crossing.

(b) The name banker must be necessarily specified across the face of the cheque. The name of the banker itself

constitute special crossing.

(c) It must appear on the left hand side, preferably on the corner, so as not to obliterate the printed number of the

cheque.

(d) The two parallel transverse line and the words 'Not negotiable' may be added to a special crossing.

Significance of special crossing:

It is also a direction to the paying banker. The direction is that, the paying banker should pay the

cheque only to the banker whose name appears in the crossing or to his agent.

If a cheque specially crossed to a banker is present by another bank, not in the capacity of its agent,

the paying banker is justified in returning the cheque.

A special crossing gives more protection to the cheque than a general crossing. It makes a cheque still

safer because, a person, who does not have a real claim for it, without find it difficult to obtain

payment. In special crossing, the cheque is specially corresed to paying banker.

Difference between General and Special Crossing

GENERAL CROSSING SPECIAL CROSSING

1. Drawing of two parallel transverse lines is a must. 1. Drawing of two parallel transverse lines is not

essential.

2. Inclusion of the name of a banker is not essential. 2. Inclusion of the name of a banker is essential..

3. In General Crossing paying banker to honor the cheque

from any bank A/C

3. In Special Crossing paying banker to honor the cheque

only when it is presented through the bank mentioned in

the crossing and no other bank.

4. General Crossing can be converted into a Special

Crossing

4. Special Crossing can never be converted to General

Crossing

5. In case of General Crossing the words “And

Company” or “& Company” or “Not Negotiable”

between the transverse lines to highlight the crossing

does not carry special significance.

5. In case of Special Crossing the name of a banker may

be written within two parallel transverse lines or with the

words “And Company” or “Account Payee Only” or “Not

Negotiable” the inclusion of these words has become

customary.

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1. Not Negotiable Crossing: A person is taking cheque crossed generally or specially, bearing in either

case the words 'not negotiable' shall not be able to give a better title to the holder than that of the

transferor. The effect of a not negotiable crossing is that the cheque can be transferred but the

transferee will not acquire a better title to the cheque. Thus a cheque is deprived of its essential feature

of negotiability.

The objects of "not negotiable" crossing is to protect the drawer against loss or theft in the course of transit.

Significance of not negotiable crossing: 'Not Negotiable' does not mean transferable. Not Negotiable crossing does

not affect the transferability; it kills only the 'negotiability'. Negotiability is something different from transferability.

As per law, negotiability means transferability by mere delivery or endorsement and delivery plus transferability free

from defect.

2. Account Payee Crossing: Section 123 of Negotiable Instruments Act defines that when a cheque

crossed generally bears across its face an addition of the words ‘Payee’s Account’ between the two

parallel transverse lines, it is known as Payee’s Account Crossing.

Significance of Account Payee Crossing:

A/c payee crossing does not restrict the transferability of cheques. This type of crossing gives a further

protection to a cheque. This crossing gives a direction to the collecting banker. The direction is that, the collection

banker should not collect it for any person other than the payee. In other words, a colleting banker should ensure that,

the cheque is credited only to the account of the payee. Hence such cheque cannot be negotiated further in actual

practice, A/c payee crossed cheques cannot be collected to the account of any person other than the payee himself.

The safest form of crossing will be a combination of 'Not Negotiable' and A/c payee crossing, which give the fullest

protection to a cheque.

Double Crossing

When a cheque bears two separate special crossing, it is said to have been doubly crossed. Sec.125 of the Act

provides that "where a cheque is crossed specially, the banker to whom it is crossed may be again cross it especially to

another banker, his agent for collection". Sec. 127 of the Act lays down that, "where cheque is crossed specially to

more than one banker except when crossed to an agent for the purpose of collection the banker on whom it is drawn

shall refuse payment therefore”. Thus, if a cheque is crossed to two or more banks, the paying banker in put in

confused position as to whom he should pay. Such ambiguity renders the cheque is crossed, can cross it again in

favour of another banker for the purpose of collection It does not render the cheque

Endorsement

The word ‘endorsement’ in its literal sense means, a writing on the back of an instrument. But under the

negotiable instruments Act it means, the writing of one’s name on the back of the instrument or any paper attached to

it with the intention of transferring the rights therein. Thus endorsement is signing a negotiable instrument for the

purpose of negotiation. The person who effects an endorsement is called an ‘endorser’ and the person to whom

negotiable instrument is transferred by endorsement are called the ‘endorsee’. “The word endorsement is said to have

been derived from Latin ‘en’ means ‘upon’ and ‘dorsum’ meaning ‘the back’. Thus usually the endorsement is on the

back of the instrument though it may be even on the face of it. Where no space is left on the instrument, the

endorsement may be made on a slip of paper attached to it. This attached slip of paper is called ‘Allonge’.

Definition of Endorsement: Endorsement has been defined in Sec. 15 of the Negotiable instrument Act 1881

as follows: "where the maker or holder of a negotiable instrument signs the same, otherwise than as such maker, for

the purpose of negotiable, on the back or face thereof, or a slip of a paper annexed thereto... he is said to enclose the

same, and is called the endorser."

Essentials of a valid Endorsement

An endorsement in order to operate as mode of negotiation must comply with the following conditions,

namely:

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1. It must be written on the instrument itself and be signed by the endorser. The simple signature of the

endorser, without additional words, is sufficient.

2. The endorsement must be of the entire instrument. A partial endorsement, that is to say, an endorsement,

which purports to transfer to the endorsee a part only of the amount payable, or which purports to transfer the

instrument to two or more endorsees severally (i.e. separately), does not operate as a negotiation of the instrument.

3. Where a negotiable instrument is payable to the order of two or more payees or endorsees who are not

partners, all must endorse unless the one endorsee has authority to endorse for the others.

4. Wherein a negotiable instrument payable to order, the payee or endorsee is wrongly designated or his

name is misspelt, he should sign the instrument in the same manner as given in the instrument. Though, he may add, if

he thinks fit, his proper signature.

5. Where there are two or more endorsements on an instrument, each endorsement is deemed to have been

made in the order in which it appears on the instrument, until contrary is provided.

6. An endorsement may be made in blank or special. It may also be restrictive.

Kinds of Endorsement Important kinds of endorsements are given below:

1. Blank or general endorsement: If the endorser signs his name only and does not specify the name of the

endorsee, the endorsement is said to be in blank Sec. 16(1). The effect of a blank endorsement is to convert the order

instrument into bearer instrument (Sec. 54), which may be transferred merely by delivery.

2. Endorsement in full or special endorsement: If the endorser, in addition to his signature, also adds a

direction to pay the amount mentioned in the instrument to, or to the order of, a specified person the endorsement is

said to be in full [Sec. 16(1)].

If, for example, A, the holder of a bill of exchange, wants to make an endorsement in full to B, he would write

thus: “Pay to B or order, SdA4.” After such an endorsement it is only the endorsee, i.e., B, who is entitled to receive

the payment of the instrument and to further negotiate the instrument by his endorsement. A blank endorsement can

easily be converted into an endorsement in full, According to Section 49, the holder of a negotiable instrument

endorsed in blank may, without signing his own name, by writing above the endorser’s signature a direction to pay to

any other person as endorsee, convert the endorsement in blank into an endorsement in full; and since such holder

does not sign himself on the instrument he does not thereby incur the responsibility of an endorser.

3. Partial Endorsement: Section 56 provides that a negotiable instrument cannot be endorsed for a part of

the amount appearing to be due on the instrument. In other words, a partial endorsement which transfers the rights to

receive only a part payment of the amount due on the instrument is invalid. Such an endorsement has been declared

invalid because it would subject the prior parties to plurality of actions (one action by holder for part value and

another action by endorsee for par value) “and will thus cause inconvenience to them. Moreover, it would also

interfere with the free circulation of negotiable instruments. It may be noted that an endorsement which purports to

transfer the instrument to two or more endorses separately, and not jointly is also treated as partial endorsement and

hence would be invalid.

Thus, where A holds a bill for Rs 2,000 and endorses it in favour of B for Rs 1,000 and in favour of C for the

remaining Rs 1,000, the endorsement is partial and invalid. Section 56, however, further provides that where an

instrument has been paid in part, a note to that effect ma; be endorsed on the instrument and it may then be negotiated

for the balance. Thus, if in the above illustration the acceptor has already paid Rs 1,000 to A, the holder of the bill, A

can then make an endorsement saying “Pay B or order” Rs 1,000 being the unpaid residue of the bill.” Such an

endorsement would be valid.

4. Restrictive endorsement: Stating the effect of endorsement, Section 50 provides that “the endorsement of

negotiable instrument followed by delivery transfers to the endorsee the property herein with the right of further

negotiation.” However, Section 50 permits restrictive endorsement. An endorsement which, by express words,

14

prohibits the endorsee from further negotiating the instrument or restricts the endorsee to deal with his instrument as

directed by the endorser is called ‘restrictive’ endorsement. The endorsee under a restrictive endorsement gets all the

rights of an endorser except the right of further negotiation. In other words, such an endorsement entitles the endorsee

to receive the payment on due date and sue the parties for it but he cannot further negotiate the instrument.

Dishonour of Cheque

A cheque is said to be dishonoured when it is refused to accept or pay when presented to the bank. It is a condition in

which the paying banker does not pay the amount of the cheque to the payee. Circumstances or reasons for dishonour

of Cheques

A paying banker must refuse payment on cheques, issued by his customers, in the following circumstances:

1. Insufficiency of funds: When adequate funds are not available in the account of a customer, then the cheque can

be dishonoured. If the banker pays a countermanded cheque, he will not only be required to reverse the entry but also

be held liable to pay damages for dishonouring the cheques presented subsequently which would have been honoured

otherwise.

2. Notice of the Customer’s Death: The banker should not make payments on cheques presented after the death of

the customer. He should return the cheque with the remark ‘Drawer Deceased’.

3. Notice of the Customer’s Insolvency: A banker should refuse payment on the cheques soon after the customer is

adjudicated as insolvent.

4. Receipt of the Garnishee Order: Where Garnishee order is received attaching the whole amount, the banker

should stop payment on cheques received after the receipt of such an order. But if the order is for a specific amount,

leaving the specified amount, cheques should be honoured if the remaining amount is sufficient to meet them.

5. Presentation of a post dated cheque: The banker may refuse the cheque when the cheque is presented before the

valid date.

6. Stale Cheques: When the cheque is presented after a period of three months from the date it bears, the banker may

refuse to make payment.

7. Material Alterations: When there is material alteration in the cheque, the banker may refuse payment. 8. Drawer’s

Signature: If the signature of the drawer on the cheque does not tally with the specimen signature, the banker may

refuse to make payment.

Types of Dishonour Dishonour of cheque can be divided into two categories i.e.:

1. Rightful Dishonour

Dishonour of cheque by the drawee banker for any of the reasons specified above or for any other rightful

reason. In this case there is no remedy available against the banker but the holder in due course has remedy

both civil and criminal against the drawer.

2. Wrongful Dishonour

Dishonour of cheque by the banker due to negligence or carelessness by its employees. The drawer may bring

an action against the bank for losses suffered by him. The payee has no action against the banker in this case.

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Consequences of wrongful dishonour of Cheque

(i) Wrongful dishonour of the customer's cheque makes the Bank liable to compensate the customer on

contractual obligations as well as for injury to his creditworthiness. A return of a cheque would cause

injury to the drawer’s reputation.

(ii) Quantum of Damages is not limited to the actual pecuniary loss sustained by reason of such dishonour.

When the customer is a trader he is entitled to claim substantial damages even if he had suffered no actual

pecuniary loss sustained by such dishonour, if he can show that his creditworthiness had suffered by the

dishonour of the cheque.

(iii) A non-trader is not entitled to recover substantial damages unless the damage he has suffered is alleged

and proved as special damages, otherwise he would be entitled to nominal damages.

(iv) The Plaintiff's evidence on the transaction was vague, ill-defined and indeterminate and further he had

not proved any actual or special damages, unless special damages are claimed and proved nominal

damages will be awarded.

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3. Paying Banker

Meaning: Paying banker

“The bank on which a cheque is drawn (the bank whose name is printed on the cheque) and which pays the

amount for which the cheque is written and deducted that sum from the customer’s account”

Payment in due course

Analysis of section 10 reveals that the following conditions must be satisfies before a payment of a

negotiable instrument can be called as a payment in due course.

1. Payment in accordance with apparent tenor: When a paying banker receives cheques, he has to

carefully go through the instructions given by the drawer. For example, if the drawer has issued a cheque

dated 10th June 2000, Payment cannot be made before the date. If the cheque is crossed, then the banker

cannot make payment across the counter.

2. In good faith: The paying banker will make payment to a person whose ownership is certain. In other

words, the person presenting the cheque creates absolute good faith in the minds of the banker regarding the

ownership.

3. without negligence: The paying banker has to go through the contents of cheque before making

payment. If the cheque contains any alteration, overwriting or cancellation, payment cannot be made.

Sometimes, the cheque may also contain " material alteration”.

4. To the person in possession: Paying banker can make payment to a holder in due course only when he

is in possession of the instrument. Possession is a must for a holder in due course. For a holder it is not a

must. Thus, a paying banker should make payment only to that person who is in possession and presents the

cheque for payment.

5. Circumstances: Even though the person presenting the cheque may fulfills all conditions, but still

creates a doubt in the minds of the paying banker at the time of making payment, the paying banker must

get it clarified before making payment. There are instances where the amount of the cheque and the status of

the presenting the cheque are inconsistent.

Precautions to be taken by paying banker

While making payment of Cheques The banker has to take the following precautions while honouring the

cheques of his customers:

1. Crossed Cheque: The most important precaution that a banker should take is about crossed cheques. A

banker has to verify whether the cheque is open or crossed. He should not pay cash across the counter in

respect of crossed cheques. If the cheque is a crossed one, he should see whether it is general crossed or

special crossed. If it is general crossing, the holder must be asked to present the cheque through some

banker and should be paid to a banker. If the cheque bears a special crossing, the banker should pay only the

bank whose name is mentioned in the crossing.

2. Open Cheque: If it is an open cheque, a banker can pay cash to the payee or the holder across the

counter. If the banker pays against the instructions as indicated above, he is liable to pay the amount to the

true owner for any loss sustained. Further, a banker loses statutory protection in case of forged endorsement.

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3. Proper Form: A banker should see whether the cheque is in the proper form. That means the cheque

should be in the manner prescribed under the provisions of the Negotiable Instruments Act. It should not

contain any condition.

4. Presentment of Cheque: Presentation of the cheque should be in right format and right place. A banker

can honour the cheques provided it is presented with that branch of the bank where the drawer has an

account or another branch if it is multi-city cheque.

5. Date of the Cheque: The paying banker has to see the date of the cheque. It must be properly dated. It

should not be either a post-dated cheque or a stale-cheque. If a cheque carries a future date, it becomes a

post-dated cheque. If the cheque is presented on the date mentioned in the cheque, the banker need not have

any objection to honour it. If the banker honours a cheque before the date mentioned in the cheque, he loses

statutory protection. If the drawer dies or becomes insolvent or countermands payment before the date of the

cheque, he will lose the amount. The undated cheques are usually not honoured.

6. Words and Figures: The amount of the cheque should be expressed in words, or in words and figures,

which should agree with each other. When the amount in words and figures differ, the banker should refuse

payment. However, Section 18 of the Negotiable Instruments Act provides that, where there is difference

between the amount in words and figures, the amount in words is the amount payable. If the banker returns

the cheque, he should make a remark ‘amount in words and figures differ’.

7. Alterations and Overwriting: The banker should see whether there is any alteration or overwriting on

the cheque. If there is any alteration, it should be confirmed by the drawer by putting his full signature. The

banker should not pay a cheque containing material alteration without confirmation by the drawer. The

banker is expected to exercise reasonable care for the detection of such alterations. Otherwise, he has to take

risk. Material alterations make a cheque void.

8. Proper Endorsements: Cheques must be properly endorsed. In the case of bearer cheque, endorsement is

not necessary legally. In the case of an order cheque, endorsement is necessary. A bearer cheque always

remains a bearer cheque. The paying banker should examine all the endorsements on the cheque before

making payment.

Statutory Protection for Paying Banker

The paying banker should take the following protection, in order to protect himself and customer’s interest,

while making the payment of his customer’s cheques:

(i) Protection regarding the order cheque In case of an order cheque, Section 85(1) of the NI Act

provides statutory protection to the paying banker as follows,

where a cheque payable to order purports to be endorsed by or on behalf of the payee, the drawee

is discharged by payment in due course.

o Endorsement must be regular: the endorsement made on the cheque must be-regular though

not necessarily genuine or valid. There are some differences between the regular

endorsement and its genuineness or valid endorsement.

o Regular Endorsement: one in which a cheque payable to certain person in endorsed under the

signature bearing the same name and in the same spelling as that of the payee or the

endorsee, the endorsement is said to be regular.

o Valid or genuine endorsement is that endorsement which has been made by the person who

is the true owner of the cheque or has the necessary authority to sign on the behalf of the

payee.

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(ii) Protection in case of bearer cheques Section 85 (2) of the Negotiable Instruments Act, 1881 states,

“Whereas a cheque is originally expressed to be payable to bearer, the drawee is discharged by payment in

due course to the bearer thereof, notwithstanding any endorsement whether in full or in blank appearing

thereon, notwithstanding that any such endorsement purports to restrict or exclude further negotiation.”

(iii) Protection in case of crossed cheques Regarding payment of crossed cheque, the paying banker gets

the protection under Section 128 of the Negotiable Instruments Act, 1881: “Whereas the banker on whom a

crossed cheque is drawn has paid the same in due course, the banker paying the cheque and the drawer

thereof (in case such cheque has come to the hands of the payee) shall be entitled respectively to the same

rights and placed in the same position if the amount of the cheque had been paid to and received by the true

owner thereof.”

Paying banker has to fulfill the following two condition to avail the protection under section 128.

*Payment in due course: he was made payment in due course (under sec 10) .i.e., in good faith and

without negligence and according to the apartment tenor of the cheque and

* requirement of the crossing: the payment has been made in accordance with the requirement of the

crossing (under sec 12) .i.e., through any banker in case of general crossing and through the specified

banker in case of special crossing.

(v) Protection in case of draft Section 85A of the NI Act states that, Drafts drawn by one branch of a bank

on another payable to order where any draft, that is an order to pay money, drawn by one office of a bank

upon another office of the same bank for a sum of money payable to order on demand, purports to be

endorsed by or on behalf of the payee, the bank is discharged by payment in due course.

Cheques

A cheque, being a Negotiable Instruments can be passed from hand to hand easily and so it has

become a popular mode of payments. A cheque is the most economical and safe method of money

transaction because the transfer cost is very low and also the possibility of loss is minimum. A cheque is a

document that orders a bank to pay a specific amount of money from a person's account to the person in

whose name the cheque has been issued. The person writing the cheque, the drawer, has a transaction

banking account (often called a current, cheque, chequing or checking account) where their money is held.

The drawer writes the various details including the monetary amount, date, and a payee on the cheque, and

signs it, ordering their bank, known as the drawee, to pay that person or company the amount of money

stated. A cheque, is a bill of exchange drawn on a specified banker, expressed to be payable only on demand

(Sec.6).

Although a cheque is a bill of exchange, yet is have two additional characteristics, namely:

(i) A cheque is always drawn on a specified banker with whom the drawer has deposited the

money;

(ii) (ii) It is always payable on demand. Thus all cheques are bills of exchange but all bills of

exchange are not cheques.

THE SALIENT FEATURES OF A CHEQUE

1. Instruments in writing

A cheque must necessarily be an instrument in writing. Oral orders therefore do not constitute a

cheque. There is no specific rule regarding the writing materials to be used. It may be done by means

of a nib, a pencil, a type writer or any other printed character. So also, according to the Negotiable

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Instruments Act, writing out cheques with lead pencils also. But, bankers in their own interest, and in

the interest of their customers, allow the cheques to be drawn only in ink. In all other cases,

fraudulent alterations unauthorized by the drawer are easy to make but difficult to detect.

2. An Unconditional Order

A cheque is an order to pay and it is not request. In the indigenous bill of exchange, words of

courtesy with, little monetary implication were generously employed. They are conspicuous by their

absence in the modern cheque. It is not essential that the word 'order' must form a part of the writing

because the word ‘order' must form a part of the writing because the word 'pay' itself denotes a

command and words like 'please' or 'kindly' are dispensed with in cheque.

3. On a Specified Banker

A Cheque is always drawn on a particular banker only. Usually the name and address of the banker

is clearly printed of the cheque leaf itself. It is advisable that the full name of the banker is

mentioned in the cheque. For e.g. instead of "l O B" it must be written "Indian Overseas Bank." A

cheque drawn on a particular branch of a particular bank cannot be encashed at another branch of the

same bank, unless there is an agreement between the parties.

4. Payee to be certain

In order that a cheque may be a valid one, it must be made payable to the order of a certain specified

person or to his agent or the bearer thereof. That is why Sir John Paget rightly points out that "A

normal cheque is one in which there is a drawer, a drawee whom the amount the cheque is payable.

The payee must, therefore, be a certain person. He may be a human being or an artificial person i.e.,

a body corporate, e.g., a company, an authority, a trade union etc.

5. A Certain Sum of Money

A cheque is usually drawn for a definite sum of money. Indefiniteness has no place in monetary

transaction any phrase like 'less than Rupee One Hundred Only' or Above rupees two hundred only

does not give a clear and concrete idea to the parties concerned and it will render the cheque invalid.

That is why the modem bankers request their customers to draw the amount both in words and

figures even through, the Negotiable Instruments Act is silent on this point. If there is any difference

between the amount in figures and words, the bankers can return the cheque, since, the amount is not

certain.

6. Payable on Demand

A cheque is always payable only on demand. It is not necessary to use the word 'on demand' as in the

case of a demand bill. As per Sec.19 of the Negotiable Instruments Act, unless a time factor is

specified by the drawer, the cheque is always payable on demand.

7. To signed by the drawer:

The cheque must be signed by the drawer i.e., the drawer normally puts his- signature at the bottom

right hand comer of the cheque. The signature must be that of the person in whose name the account

is kept or his authorised agent. When the signature differs from the specimen or it is slightly

different, the banker need not honour the cheque.

Specimen of a Cheque

Types / kinds of cheques

1. Bearer Cheque When the words "or bearer" appearing on the face of the cheque are not cancelled,

the cheque is called a bearer cheque. The bearer cheque is payable to the person specified therein or to

any other else who presents it to the bank for payment. However, such cheques are risky, this is because

if such cheques are lost, the finder of the cheque can collect payment from the bank.

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2. Order Cheque When the word "bearer" appearing on the face of a cheque is cancelled and when in

its place the word "or order" is written on the face of the cheque, the cheque is called an order cheque.

Such a cheque is payable to the person specified therein as the payee, or to any one else to whom it is

endorsed (transferred).

3. Uncrossed / Open Cheque When a cheque is not crossed, it is known as an "Open Cheque" or an

"Uncrossed Cheque". The payment of such a cheque can be obtained at the counter of the bank. An open

cheque may be a bearer cheque or an order one.

4. Crossed Cheque Crossing of cheque means drawing two parallel lines on the face of the cheque with

or without additional words like "& CO." or "Account Payee" or "Not Negotiable". A crossed cheque

cannot be encashed at the cash counter of a bank but it can only be credited to the payee's account

5. Anti-Dated Cheque If a cheque bears a date earlier than the date on which it is presented to the bank,

it is called as "anti-dated cheque". Such a cheque is valid upto three months from the date of the cheque.

6. Post-Dated Cheque If a cheque bears a date which is yet to come (future date) then it is known as

post-dated cheque. A postdated cheque cannot be honoured earlier than the date on the cheque.

7. Stale Cheque If a cheque is presented for payment after three months from the date of the cheque it is

called stale cheque. A stale cheque is not honoured by the bank

Crossing of cheques

Cheques are of two types, open cheques and crossed cheques. Open cheques are those which are paid

over the counter of the bank. In other words, they need not be put through a bank account. Open cheques

are liable to great risk in the course of circulation. They may be either lost or stolen and the finder or

thief can get it encased at the bank unless the drawer has in the meantime countermanded payment. With

a view to avoiding such risks, and protect the owner of cheque, a system of crossing was introduced.

Crossing is a direction to the banker not to pay the cheque across the counter but to pay to a bank only or

to particular bank in an account with the bank. Thus crossing provides a protection and safeguard to the

owner of the cheque as by securing payment through a banker; it can easily be detected to whose use the

money is received.

Crossing does not, however, affect the negotiability or transferability of a cheque. But where the

words ‘not negotiable’ are added, the cheque is not negotiable. The practice of crossing is confined to

cheques only and cannot be extended to any other instrument.

Kinds of crossing: Crossing is of two type's namely general crossing and special crossing.

1. General Crossing: In a general crossing, simply two parallel transverse lines, with or without the

words 'not negotiable' in between, may be drawn. Such a cheque is crossed generally. The effect of

general crossing is that the payment of the cheque will not be made at the counter, it can be collected

only through a banker.

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Essential of General Crossing:

1. Two lines are to paramount importance in crossing.

2. The lines must be drawn parallel and transverse, Transverse means, that, they should be arranged

in a crosswise direction. They should not be straight lines.

3. The lines are generally drawn on the left hand sign so as not to obliterate or alter the printed

number of the cheque. Preferably, the line should cut cross some of the writings.

4. The words ‘And company' or its abbreviation may be Written in between the lines. They

themselves are not essential, and so, they do not constitute crossing without two parallel transverse

lines.

5. So also, the words 'Not negotiable' may be added to a crossing but they themselves do not

constitute a crossing.

Significance of general crossing:

(i) The effect of general crossing is that it gives a direction to the paying banker.

(ii) The direction is that, the paying banker should not pay the cheque at the counter. It should

be paid only to a fellow banker. In other words, payment is made through an account and not

at the counter.

(iii) If a crossed cheque is paid at the counter contravention of the crossing:

a. The payment does-not amount to payment in due course. So, the paying banker will lose

his statutory protection.

b. He has no right to debit his-customer's account since, it will constitute a breach of his

customer's mandate.

c. He will be liable to the drawer for any loss, which he may suffer,

d. He will be liable to the true owner of the cheque who may be a third party, irrespective of

the fact, that, there is no contract between the banker and the third party. As a general rule, a

banker is answerable only to his customer and this liability to a third party here is an

exception.

(iv) The main intention of crossing a cheque is to give protection to it. When a cheque is crossed

generally, a person who is not entitled to receive its payment is prevented from getting that cheque

cashed at the counter of the paying banker.

2. Special Crossing

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

7

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.

The effect to special crossing is that the paying banker will be the amount of the cheque only through the

bank named in the cheque Essential of Special Crossing:

(a) Two parallel transverse lines are not at all essential for a special crossing.

(b) The name banker must be necessarily specified across the face of the cheque. The name of the banker

itself constitute special crossing.

(c) It must appear on the left hand side, preferably on the corner, so as not to obliterate the printed number

of the cheque.

(d) The two parallel transverse line and the words 'Not negotiable' may be added to a special crossing.

Significance of special crossing:

It is also a direction to the paying banker. The direction is that, the paying banker should pay

the cheque only to the banker whose name appears in the crossing or to his agent.

If a cheque specially crossed to a banker is present by another bank, not in the capacity of its

agent, the paying banker is justified in returning the cheque.

A special crossing gives more protection to the cheque than a general crossing. It makes a

cheque still safer because, a person, who does not have a real claim for it, without find it

difficult to obtain payment. In special crossing, the cheque is specially corresed to paying

banker.

Difference between General and Special Crossing

GENERAL CROSSING SPECIAL CROSSING

1. Drawing of two parallel transverse lines is a must. 1. Drawing of two parallel transverse lines is not

essential.

2. Inclusion of the name of a banker is not essential. 2. Inclusion of the name of a banker is essential..

3. In General Crossing paying banker to honor the

cheque from any bank A/C

3. In Special Crossing paying banker to honor the

cheque only when it is presented through the bank

mentioned in the crossing and no other bank.

4. General Crossing can be converted into a Special

Crossing

4. Special Crossing can never be converted to

General Crossing

5. In case of General Crossing the words “And

Company” or “& Company” or “Not Negotiable”

between the transverse lines to highlight the crossing

does not carry special significance.

5. In case of Special Crossing the name of a banker

may be written within two parallel transverse lines

or with the words “And Company” or “Account

Payee Only” or “Not Negotiable” the inclusion of

these words has become customary.

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1. Not Negotiable Crossing: A person is taking cheque crossed generally or specially, bearing in

either case the words 'not negotiable' shall not be able to give a better title to the holder than

that of the transferor. The effect of a not negotiable crossing is that the cheque can be

transferred but the transferee will not acquire a better title to the cheque. Thus a cheque is

deprived of its essential feature of negotiability.

The objects of "not negotiable" crossing is to protect the drawer against loss or theft in the course of transit.

Significance of not negotiable crossing: 'Not Negotiable' does not mean transferable. Not Negotiable

crossing does not affect the transferability; it kills only the 'negotiability'. Negotiability is something

different from transferability. As per law, negotiability means transferability by mere delivery or

endorsement and delivery plus transferability free from defect.

2. Account Payee Crossing: Section 123 of Negotiable Instruments Act defines that when a

cheque crossed generally bears across its face an addition of the words ‘Payee’s Account’

between the two parallel transverse lines, it is known as Payee’s Account Crossing.

Significance of Account Payee Crossing:

A/c payee crossing does not restrict the transferability of cheques. This type of crossing gives a

further protection to a cheque. This crossing gives a direction to the collecting banker. The direction is that,

the collection banker should not collect it for any person other than the payee. In other words, a colleting

banker should ensure that, the cheque is credited only to the account of the payee. Hence such cheque

cannot be negotiated further in actual practice, A/c payee crossed cheques cannot be collected to the account

of any person other than the payee himself. The safest form of crossing will be a combination of 'Not

Negotiable' and A/c payee crossing, which give the fullest protection to a cheque.

Double Crossing

When a cheque bears two separate special crossing, it is said to have been doubly crossed. Sec.125

of the Act provides that "where a cheque is crossed specially, the banker to whom it is crossed may be again

cross it especially to another banker, his agent for collection". Sec. 127 of the Act lays down that, "where

cheque is crossed specially to more than one banker except when crossed to an agent for the purpose of

collection the banker on whom it is drawn shall refuse payment therefore”. Thus, if a cheque is crossed to

two or more banks, the paying banker in put in confused position as to whom he should pay. Such

ambiguity renders the cheque is crossed, can cross it again in favour of another banker for the purpose of

collection It does not render the cheque

Endorsement

The word ‘endorsement’ in its literal sense means, a writing on the back of an instrument. But under

the negotiable instruments Act it means, the writing of one’s name on the back of the instrument or any

paper attached to it with the intention of transferring the rights therein. Thus endorsement is signing a

negotiable instrument for the purpose of negotiation. The person who effects an endorsement is called an

‘endorser’ and the person to whom negotiable instrument is transferred by endorsement are called the

‘endorsee’. “The word endorsement is said to have been derived from Latin ‘en’ means ‘upon’ and ‘dorsum’

meaning ‘the back’. Thus usually the endorsement is on the back of the instrument though it may be even on

the face of it. Where no space is left on the instrument, the endorsement may be made on a slip of paper

attached to it. This attached slip of paper is called ‘Allonge’.

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Definition of Endorsement: Endorsement has been defined in Sec. 15 of the Negotiable instrument

Act 1881 as follows: "where the maker or holder of a negotiable instrument signs the same, otherwise than

as such maker, for the purpose of negotiable, on the back or face thereof, or a slip of a paper annexed

thereto... he is said to enclose the same, and is called the endorser."

Essentials of a valid Endorsement

An endorsement in order to operate as mode of negotiation must comply with the following

conditions, namely:

1. It must be written on the instrument itself and be signed by the endorser. The simple signature

of the endorser, without additional words, is sufficient.

2. The endorsement must be of the entire instrument. A partial endorsement, that is to say, an

endorsement, which purports to transfer to the endorsee a part only of the amount payable, or which

purports to transfer the instrument to two or more endorsees severally (i.e. separately), does not operate as a

negotiation of the instrument.

3. Where a negotiable instrument is payable to the order of two or more payees or endorsees who are

not partners, all must endorse unless the one endorsee has authority to endorse for the others.

4. Wherein a negotiable instrument payable to order, the payee or endorsee is wrongly designated or

his name is misspelt, he should sign the instrument in the same manner as given in the instrument. Though,

he may add, if he thinks fit, his proper signature.

5. Where there are two or more endorsements on an instrument, each endorsement is deemed to have

been made in the order in which it appears on the instrument, until contrary is provided.

6. An endorsement may be made in blank or special. It may also be restrictive.

Kinds of Endorsement Important kinds of endorsements are given below:

1. Blank or general endorsement: If the endorser signs his name only and does not specify the

name of the endorsee, the endorsement is said to be in blank Sec. 16(1). The effect of a blank endorsement

is to convert the order instrument into bearer instrument (Sec. 54), which may be transferred merely by

delivery.

2. Endorsement in full or special endorsement: If the endorser, in addition to his signature, also

adds a direction to pay the amount mentioned in the instrument to, or to the order of, a specified person the

endorsement is said to be in full [Sec. 16(1)].

If, for example, A, the holder of a bill of exchange, wants to make an endorsement in full to B, he

would write thus: “Pay to B or order, SdA4.” After such an endorsement it is only the endorsee, i.e., B, who

is entitled to receive the payment of the instrument and to further negotiate the instrument by his

endorsement. A blank endorsement can easily be converted into an endorsement in full, According to

Section 49, the holder of a negotiable instrument endorsed in blank may, without signing his own name, by

writing above the endorser’s signature a direction to pay to any other person as endorsee, convert the

endorsement in blank into an endorsement in full; and since such holder does not sign himself on the

instrument he does not thereby incur the responsibility of an endorser.

3. Partial Endorsement: Section 56 provides that a negotiable instrument cannot be endorsed for a

part of the amount appearing to be due on the instrument. In other words, a partial endorsement which

transfers the rights to receive only a part payment of the amount due on the instrument is invalid. Such an

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endorsement has been declared invalid because it would subject the prior parties to plurality of actions (one

action by holder for part value and another action by endorsee for par value) “and will thus cause

inconvenience to them. Moreover, it would also interfere with the free circulation of negotiable instruments.

It may be noted that an endorsement which purports to transfer the instrument to two or more endorses

separately, and not jointly is also treated as partial endorsement and hence would be invalid.

Thus, where A holds a bill for Rs 2,000 and endorses it in favour of B for Rs 1,000 and in favour of

C for the remaining Rs 1,000, the endorsement is partial and invalid. Section 56, however, further provides

that where an instrument has been paid in part, a note to that effect ma; be endorsed on the instrument and it

may then be negotiated for the balance. Thus, if in the above illustration the acceptor has already paid Rs

1,000 to A, the holder of the bill, A can then make an endorsement saying “Pay B or order” Rs 1,000 being

the unpaid residue of the bill.” Such an endorsement would be valid.

4. Restrictive endorsement: Stating the effect of endorsement, Section 50 provides that “the

endorsement of negotiable instrument followed by delivery transfers to the endorsee the property herein

with the right of further negotiation.” However, Section 50 permits restrictive endorsement. An endorsement

which, by express words, prohibits the endorsee from further negotiating the instrument or restricts the

endorsee to deal with his instrument as directed by the endorser is called ‘restrictive’ endorsement. The

endorsee under a restrictive endorsement gets all the rights of an endorser except the right of further

negotiation. In other words, such an endorsement entitles the endorsee to receive the payment on due date

and sue the parties for it but he cannot further negotiate the instrument.

Dishonour of Cheque

A cheque is said to be dishonoured when it is refused to accept or pay when presented to the bank. It is a

condition in which the paying banker does not pay the amount of the cheque to the payee. Circumstances or

reasons for dishonour of Cheques

A paying banker must refuse payment on cheques, issued by his customers, in the following circumstances:

1. Insufficiency of funds: When adequate funds are not available in the account of a customer, then the

cheque can be dishonoured. If the banker pays a countermanded cheque, he will not only be required to

reverse the entry but also be held liable to pay damages for dishonouring the cheques presented

subsequently which would have been honoured otherwise.

2. Notice of the Customer’s Death: The banker should not make payments on cheques presented after the

death of the customer. He should return the cheque with the remark ‘Drawer Deceased’.

3. Notice of the Customer’s Insolvency: A banker should refuse payment on the cheques soon after the

customer is adjudicated as insolvent.

4. Receipt of the Garnishee Order: Where Garnishee order is received attaching the whole amount, the

banker should stop payment on cheques received after the receipt of such an order. But if the order is for a

specific amount, leaving the specified amount, cheques should be honoured if the remaining amount is

sufficient to meet them.

5. Presentation of a post dated cheque: The banker may refuse the cheque when the cheque is presented

before the valid date.

11

6. Stale Cheques: When the cheque is presented after a period of three months from the date it bears, the

banker may refuse to make payment.

7. Material Alterations: When there is material alteration in the cheque, the banker may refuse payment. 8.

Drawer’s Signature: If the signature of the drawer on the cheque does not tally with the specimen signature,

the banker may refuse to make payment.

Types of Dishonour Dishonour of cheque can be divided into two categories i.e.:

1. Rightful Dishonour

Dishonour of cheque by the drawee banker for any of the reasons specified above or for any other

rightful reason. In this case there is no remedy available against the banker but the holder in due

course has remedy both civil and criminal against the drawer.

2. Wrongful Dishonour

Dishonour of cheque by the banker due to negligence or carelessness by its employees. The drawer

may bring an action against the bank for losses suffered by him. The payee has no action against the

banker in this case.

Consequences of wrongful dishonour of Cheque

(i) Wrongful dishonour of the customer's cheque makes the Bank liable to compensate the customer

on contractual obligations as well as for injury to his creditworthiness. A return of a cheque

would cause injury to the drawer’s reputation.

(ii) Quantum of Damages is not limited to the actual pecuniary loss sustained by reason of such

dishonour. When the customer is a trader he is entitled to claim substantial damages even if he

had suffered no actual pecuniary loss sustained by such dishonour, if he can show that his

creditworthiness had suffered by the dishonour of the cheque.

(iii) A non-trader is not entitled to recover substantial damages unless the damage he has suffered is

alleged and proved as special damages, otherwise he would be entitled to nominal damages.

(iv) The Plaintiff's evidence on the transaction was vague, ill-defined and indeterminate and further

he had not proved any actual or special damages, unless special damages are claimed and proved

nominal damages will be awarded.

4. Lending Operation

Introduction

Bank’s main source of fund is deposits. These deposits are repayable on demand or after a specific time. Hence, banks

should deploy such funds very carefully. The main business of banking consists of receiving deposits and lending for

production purposes. A deployment of funds is regulated by the directives of the reserve bank of india. After meeting

statutory liquidity ratio and investments, the funds available for lending is determined. These lend-able funds determine

criteria for a proper credit deposit ratio and for pursuing the necessary lending policies and scheme. Lending should be in

such a manner that the bank is in a position to meet unexpected demands.

Lending money is the most important function of bank in the context of economic development in general and of the

development of trade, commerce and industry in particular. Lending is not without risk. The banker has to take utmost

precaution in lending as he deals essentially with considerations for sound lending money. Banks in India have to

consider the national interest along with their own interest while determining the lending policy.

Principles of bank lending

Banks lend money from deposits it receives from public, bank perform difference functions lending of money to different

kind of borrowing is one of the most important functions of a bank and the business of lending carries certain inherent

risks. A major portion of its funds is used for this purpose and this is also the major source of bank income. Interest

received from the lending is the main source of income for the bank.

The borrower of a bank range from individuals to partnership, companies, institutions, societies etc. the nature of their

activities, the location of business, financial stability, earning and repaying capacity purpose of advance, securities all

differ and their degree of risk also differ. Therefore a bank must take proper precaution in this process, bank therefore

follows some fundamental principles of lending to safeguard the internet of depositors.

Safety

As the bank lends the funds entrusted to it by the depositors, the first and foremost principle of lending is to ensure

the safety of the funds lent. By safety is meant that the borrower is in a position to repay the loan, along with interest,

according to the terms of the loan contract. The repayment of the loan depends upon the borrower’s (a) capacity to pay,

and (2) willingness to pay. The former depends upon his tangible assets and the success of his business; if he is

successful in his efforts, he earns profits and can repay the loan promptly. Otherwise, the loan is recovered out of the sale

proceeds of his tangible assets. The willingness to pay depends upon the honesty and character of the borrower. The

banker should, therefore, taken utmost care in ensuring that the enterprise or business for which a loan is sought is a

sound one and the borrower is capable of carrying it out successfully. He should be a person of integrity, good

characterand reputation. In addition to the above, the banker generally relies on the security of tangible assets owned by

the borrower to ensure the safety of his funds.

principles of lending

Safety

profitability

liquidity

purpose

Risk

Security

The safety it is just implies that the borrower would repay the principle sum and the interest thereo in the manner and on

the condition provided for him in the loan agreement.

While lending out the funds, a banker must ensure that:

The loan of particular borrower should not involve any available risk of non-payment.

A bank must follow an aggressive policy of lending in its bid to maximize earning; but it also has to be defensive

in its approach as it cannot lose its depositor’s money.

A banker should always take calculated risk.

Banker must always insist upon collaterals, margins and guarantee in addition to the personal promise of the

borrowing.

The ability to repay the loan depends upon the borrower’s capacity to pay as well as his willingness to repay. To

ensure the former, the banker depends upon his tangible assets and viability of his business to earn profit.

Borrower’s willingness depends upon his honesty and character aspects to determine the credit worthiness of the

borrower and to ensure safety of the funds lent.

Thus a bank should lend money after ensuring its full safety of repayment: otherwise the banker will not be in position

to repay the deposits. Consequently they may lose public confidence.

Liquidity

Liquidity means ease of conversion of an asset into cash. The term liquidity refers to the extent of availability of

funds with the banker for providing credit to borrower. It is to be seen that money lent is not going to be locked up for a

long term. The money should return to the bank as per the repayment schedule. This schedule that is drawn up by the

banker has to adhere to the requirement that at any point of time the banker should possess liquidity to meet the

withdrawals of the depositors.

It is to be kept in mind that various maturities and some of it would also be payable on demand. a bank s inability

to meet the demand of its depositors can lead to a run on the bank which is a threat to the survival. Hence the banker has

to always monitor the cash flows and carry out the exercise of ensuring liquidity with the borrower as this in turn means

liquidity with the banker.

If the banker lends a large portion of his funds to borrowers from whom repayment would be coming in but slowly,

the ability of the banker to meet the demand made on him would be seriously affected in spite of the safety of the

advantage for example an loan of Rs 50 lakhs on the security of a legal mortgage of a bungalow of the market value of

10 lakhs will be very safe. If, however the recovery of the mortgage money has to be made through a court process, it

may take a few years to do so. The loan is safe but not liquid.

A loan will be liquid if it has been given for short period to finance

A banker should give short term advances which can be recalled in time to satisfy the demand of depositors.

Bank should not lend short period funds for a long term. As in that case the loan and advances will tend to be less

liquid, and it would be a great problem for it to realize cash in case of any emergency.

Loans, to be liquidity should be given against the security of quickly realizable assets so that in case the borrower

default in repayment; these might be readily converted into cash.

Profitability

Banks are not charitable institutions. All banks are profit earning institutions. The ultimate objective of lending is

to earn profits. Bank receives interest on loan and advances lent, and they pay interest on deposits. The differences

between the receipts and payment will be the bank’s gross profit. Bank further incur various expenses as any

organization does. After accounting for all such expenses and provisions, bank have to earn reasonable amount as net

profit so the dividend can be paid to its shareholders. The trust confidence level of the customer and investors will be

high with bank that has a good track record of profit and dividend rates.

Equally important is the principle of profitability. The difference between the lending and borrowing rates

constitutes the gross profit of the bank. Banks need to earn profit for several reasons:

Like other economic entities, banks must earn sufficient income to pay interest to the depositors in order to meet

establishment charges, pay dividends to owners, and retain a portion of the income for the future growth,

expansion and contingencies.

Lending rates are affected by the bank rate, interbank competition and interbank agreements, where they have

been agreed.

No banker will and should ordinarily think of an advance without a satisfactory margin between the lending and

borrowing rates.

Different rates are charged, depending on the credit risk involved in the lending to different borrowers, type of

loans, the nature of security, the mode of charge, the margin requirement.

Advances should be given to customers after proper enquiry about the risk and credibility associated with him.

Also, proper guarantees must be taken.

A prudent banker will avoid making profit at the expense of the liquidity and safety of his capital. Thus, within the limits

of liquidity, safety, and the national policies as laid down by the government and the Central Bank, a banker should

strive for accomplishing the objective of profitability.

Purpose

Banker should always enquire about the purpose for which the loan is taken. As a matter of fact, the safety and

liquidity of loans depends on the purpose of which it will be put. The purpose should also be short termed so that it

ensures liquidity.

The purpose should be productive so that the money not only remain safe but also provides a definite source of

repayment. Loans may be required for productive purposes, trading purposes, agriculture, transport, self-employment.

Bankers should always inquire about the purpose for which the loan is taken. As a matter of fact, the safety and liquidity

of loan depends on the purpose for which it will be put.

An advance given for productive purposes in all probability will be repaid because the grant of the loan will

generate additional income for the borrower to enable him to repay it.

An advance made for nonproductive and speculative purposes is subject to greater credit risk because the

purpose for which the loan was sought would in no way improve the repaying capacity of the borrower.

Borrower may or may not be able to pay.

There are chances that funds borrowed for a productive use may be used for speculative purposes. The banker (as

far as possible) should, therefore, take follow-up steps to see that the end-use of credit is not for a purpose other

than for which it is taken. Thus, a banker should avoid giving loans for wasteful expenditure, social functions

and speculative transactions.

Risk spread/Risk Diversification

A prudent banker always tries to select the borrower very carefully and takes tangible assets as security to

safeguard his interests. While this is no doubt an Aquent measures, there are other unforeseen contingencies against

which the banker has to guard himself. Further if the bank lends large amount to a single industry or borrower then the

default by that customer can affect the banking industry as a whole and will affect the basic survival of the industry

A banker should adhere to the principle of diversification (spread) of risks while lending funds. Diversification

implies the dispersal (lending) of funds over a large number of borrowers and borrowing firms situated in different parts

of the country.

In other words, a bank should not lend money to a few entities. Also, a bank should lend money in different

types and ranges of interest whereby some are risky, some with less risk and some risk-free.

Purposes of this principle are:

Minimizing the risk inherent in the grant of loans.

It is a defensive policy to protect the bank against risk.

Also, a device for increasing the average return on a fund that might otherwise, for the sake of safety, be

confined to risk-free assets providing little or no return.

A banker should remember that if he puts all his eggs in one basket he may lose all of them together at a time. In

view of this, he should avoid concentrating the bank’s funds in a few customers. If these few customers do not

pay then the bank may go bankrupt.

A bank must offer advances to different firms belonging to different industries, which are Notes situated over

different geographical areas, so that he may not be badly affected by the failure of one industry or a few big

borrowers.

Maturity diversification: The most important form of diversification is maturity diversification. The loan

portfolio should be such that different loans and advances have different maturity time. This results in continuous

repayments throughout the year and thereby maintains liquidity of bank.

Security

The security offered by a borrower foe an advance is as like as the insurance to the banker. It serves as the safety

valve for an unforeseen emergency. So another principle of sound lending is the security of lending. Security offered

against loan may be various. It may be a plot of land, building, flat, insurance policies; term deposits etc. the banker

carefully scrutinizes all the different aspects of an advance before granting it.

There may even be cases where there is no security at all. The banker must realize that is it only a cushion to fall

back upon in case of need. The security and its adequacy alone should not form the sole consideration for judging the

viability of a loan proposal. Nevertheless the security if accepted must be adequate and ready marketable, easy to handle

and free encumbrance. It is the duty of the banker to check the nature of the security and assess whether it is adequate for

the loan granted.

Types of Lending/ kinds of Lending:

The business of lending is carried on by banks offering various credit facilities to its customers. Basically various credit

facilities offered by banks are generally repayable on demand. A bank should ensure proper recovery of funds lent by

him and acquaint itself with the nature of legal remedies available to it and also law affecting the credit facilities

provided by it.

Credit facilities broadly may be classified as under:

(a) Fund Based Credit Facilities: Fund based credit facilities involve outflow of funds meaning thereby the money of

the banker is lent to the customer. They can be generally of following types:

i. Cash credits/overdrafts

ii. Demand Loans/Term loans

iii. Bill finance

(b) Non-Fund Based Credit Facilities In this type of credit facility the banks funds are not lent to the customer and they

include:

i. Bank Guarantees

ii. Letter of Credit

Cash credit

A cash credit is an arrangement by which the customer is allowed to borrows money up to a certain limit.

Other features of cash credit arrangements are as follows:

(1) Under this system the banker specifies a limit, called the cash credit limit, for each customer up to which the

customer is permitted to borrow against the security of tangible assets or guarantees.

iii. Cash credit is a flexible system of lending under which the borrower has the option to withdraw the funds as and

when required and to the extent of his needs. Under this arrangement the banker specifies a limit of loan to

customer.

iv. Cash credit limit is based on the borrower’s need and as agreed with the bank. Against the limit of cash credit ,

the borrower is permitted to withdraw as and when he need money subject to the limit sanctioned.

v. it is normally sanctioned for a period of one year and secured by the security of some tangible assets or personal

guarantee.

vi. If the account is running satisfactorily, the limit of cash credit may be renewed by the bank at the end of the year.

the interested is calculated and charged to the customer.

vii. Cash credit is one of the types of bank lending against security by way of pledge or hypothecating of goods.

Advantages of Cash Credit System

1. Flexibility: The borrowers need not keep their surplus funds idle with themselves, they can recycle the funds quite

efficiently and can minimize interest charges by depositing all cash accruals in the bank account and thus ensures

lesser cost of funds to the borrowers and better turnover of funds for the banks.

2. Operative convenience: Banks have to maintain one account for all the transactions of a customer. The repetitive

documentation can be avoided.

Weakness of the System

1. Fixation of Credit Limits: The cash limits are prescribed once in a year. Hence it gives rise to the practice of fixing

large limits than is required for most part of the year. The borrowers misutilise the unutilized gap in times of credit

restraint.

2. Bank’s inability to verify the end-use of funds: Under this system the stress is on security aspect. Hence there is no

conscious effort on the part of banks to verify the end-use of funds. Funds are diverted, without banker’s

knowledge, to unapproved purposes.

3. Lack of proper management of funds: Under this system the level of advances in a bank is determined not by how

much the banker can lend at a particular time but by the borrower’s decision to borrow at the time. The system,

therefore, does not encourage proper management of funds by banks. These weaknesses of the cash credit system

were highlighted by a number of committees appointed for this purpose in India. Guidelines have been issued by the

Reserve Bank for reforming the cash credit system on the basis of recommendations of the Tandon Committee and

the Chore Committee.

credit facilities

Fund based credit facilities

cash credit bill finance overdraft Term loan

Non fund based credit facilities

Bank Gurantee Letter of Credit

Overdrafts

A facility is allowed for current account holder by the bank to draw more than the credit balance in the account; such a

facility is called as “ overdraft” facility.

Example: if a bank has allowed overdraft to the extent of Rs 50lakhs to a businessman, he can draw cheques in excess of

the amount of his own deposits with the bank to the tune of Rs, 50 lakhs. The bank charges interest only on the amount

overdrawn. For a businessman, the overdraft facility is the easiest and most convenient method of borrowing funds from

bank.

Salient features of this type of account are as under:

(i) All rules applicable to current account are applicable to overdraft accounts mutatis mutandis.

(ii) Overdraft is a running account and hence debits and credits are freely allowed.

(iii) Interest is applied on daily product basis and debited to the account on monthly basis. In case of temporary

overdraft, interest should be applied as and when temporary overdraft is adjusted or at the end of the month,

whichever is earlier.

(iv) Overdrafts are generally granted against the security of government securities, shares & debentures, National

Savings Certificates, LIC policies and bank’s own deposits etc. and also on unsecured basis.

(v) When a current account holder is permitted by the banker to draw more than what stands to his credit, such

an advance is called an overdraft. The banker may take some collateral security or may grant such advance

on the personal security of the borrower. The customer is permitted to withdraw the amount as and when he

needs it and to repay it by means of deposit in his account as and when it is feasible for him. Interest is

charged on the exact amount overdrawn by the customer and for the period of its actual utilization.

(vi) Generally an overdraft facility is given by a bank on the basis of a written application and a promissory note

signed by the customer. In such cases an express contract comes into existence. In some cases, in the absence

of an express contract to grant overdraft, such an agreement can be inferred from the course of business

(vii) Banks should, therefore, obtain a letter and a promissory note incorporating the terms and conditions of the

facility including the rate of interest chargeable in respect of the overdraft facility. This is to be complied

with even when the overdraft facility might be temporary in nature.

Discounting of bills of exchange:

The banker takes a bill of exchange from the customer and pays him immediately the present value of the bill (i.e. face

value of the bill minus discount charges) then on the due date of the bill he receives the face value of the bill from the

acceptor of the bill. In case the bill is dishonored by the acceptor the banker recovers the amount from the customer

himself.

Advantages of Discounting of Bills:

a. There is certainty of payment on the due dates.

b. There is security of payment in the case of bills. This is because even if the bill of exchange is dishonored by the

acceptor the banker can look to the other parties to the bill, i.e. the drawer and the endorser for the payment. Bills

are supported by trade documents and transport receipts, which facilitates the banker to realize the value in case of

default. Even if the bill is dishonored by the acceptor, the banker can debit the account of the drawer. That is why

it is secured.

c. Investment in bills of exchange is for a short period say 30 days, 60 days or 90 days. Therefore the funds of a

banker are not locked up for a long period.

d. A bill of exchange is a Negotiable Instrument. So the transferee of the bill, i.e. the banker can get a better title

than that of the transferor of the bill, i.e. the customer. Hence safety of the bill is assured.

e. Bills are liquid in the sense that they can be rediscounted with the RBI or with a fellow banker whenever there is

need for cash.

f. The value of the bill is fixed and does not change for any reason. The amount advanced against bills remains

intact unlike the tangible assets whose values are subjected to change.

g. The profit obtained by discounting the bill will be more when compared to the profit gained by lending in the

form of overdraft or cash credit.

Discounting of bills of exchange

Discounting or purchasing the bills of exchange is an important form of bank lending. A bill of discounting is a

major activity of some of the smaller banks. The bank takes the bills drawn by borrower on his borrower’s

customer and pay him immediately deducting some amount as discount/commission.

The bank then present the bill to the borrower’s customer on the due date of the bill and collect the total amount.

If the bill is delayed, the borrower or his customer pays the bank a predetermined interest depending upon the

predetermined terms.

Thus by discounting bills the bank pays money to the creditor when he needs it and allows the debtor to make

payment only when the bill is due for payment. Discounting of bills of exchange is, therefore, really important

form of bank lending.

In order to ease the pressures on cash flow and facilities smooth running of business, banks provides bills

discounting facility to its corporate/non-corporate clients.

In case the bills is dishonored by the acceptor, the bank recover the amount from customer himself.

For example, a drawer has a bill for Rs. 10,000. He discounted the bill with his bank two months before its due

date at 15% p.a. rate of discount. Discount will be calculated as the follw:

(10,000 *15/100)*2/12=250.

Thus the drawer will receive cash worth Rs. 9750 and will bear a loss of Rs. 250.

Loan

The loan is disbursed by way of single debit/stage-wise debits (wherever sanction so accorded) to the account. The

amount may be allowed to be repaid in lump sum or in suitable installments, as per terms of sanction. Loan is

categorized Demand Loan if the repayment period of the loan is less than three years, in case the repayment of the loan is

three years and above the loan be considered as Term Loan. Under the loan system, credit is given for a definite purpose

and for a predetermined period. Normally, these loans are repayable in installments. Funds are required for single non-

repetitive transactions and are withdrawn only once. If the borrower needs funds again or wants renewal of an existing

loan, a fresh request is made to the bank. Thus, a borrower is required to negotiate every time he is taking a new loan or

renewing an existing loan. Banker is at liberty to grant or refuse such a request depending upon his own cash resources

and the credit policy of the central bank.

Advantages of Loan System

a. Financial Discipline on the borrower: As the time of repayment of the loan or its installments is fixed in advance,

this system ensures a greater degree of self-discipline on the borrower as compared to the cash credit system.

b. Periodic Review of Loan Account: Whenever any loan is granted or its renewal is sanctioned, the banker gets as

opportunity of automatically reviewing the loan account. Unsatisfactory loan accounts may be discontinued at the

discretion of the banker.

c. Profitably: The system is comparatively simple. Interest accrues to the bank on the entire amount lent to a

customer.

Drawbacks

a. Inflexibility: Every time a loan is required, it is to be negotiated with the banker. To avoid it, borrowers may

borrow in excess of their exact requirements to provide for any contingency.

b. Banks have no control over the use of funds borrowed by the customer. However, banks insist on hypothecation of

the asset/ vehicle purchased with loan amount.

c. Though the loans are for fixed periods, but in practice the roll over, i.e., they are renewed frequently. 4. Loan

documentation is more comprehensive as compared to cash credit system.

Types of Term Loans:

Term loans are granted by banks to borrowers for purchase of fixed assets like land and building, factory

premises, embedded machinery etc., to enable their manufacturing activities, and their business expansion, if the amounts

are repayable after a specific period of time, they are all called as term finance. On the basis of the period for which the

funds are required by the borrowers, these loans are classified as short, medium and long term loans. Banks have been

given freedom to fix their own interest rate for loans and advances. As per bank’s lending and interest rate policies

applicable interest and other charges would be applicable to CC, OD, Term loan accounts. Each bank should decide

“base rate” of interest on advances as per RBI directives.

Term Loans - Important aspects:

a. Term loans are given to the manufacturing, trading and service sector units which require funds for purchasing

various items of fixed assets, such as, land and building, plant and machinery, electrical installation and other

preliminary and pre-operative expenses.

b. Repayment of term loans would depend upon the firm’s capacity to produce goods or services by using the fixed

assets as financed by banks.

c. Like any other loan, a term loan is sanctioned by the bank, after evaluation of credit proposal (application). The

bank before granting terms loans needs to carry out a clear due diligence as to the borrower’s requirement, capacity

and other aspects.

d. While considering a term loan proposal, the bank need to verify the financial status, economic viability and the

firm’s production capacity.

e. After proper verification and satisfaction of various requirements, banks can grant a term loan, on certain terms

and conditions, covenants, including repayment terms.

f. Term loans like any other credit facility needs to cover Six C concepts and the banks should follow bank’s lending

policy, exposure norms and the RBI’s guidelines and directives

g. All required valid collateral security, duly executed should be one of the pre conditions for the loan amount to be

disbursed.

h. The assets created out of the bank loan, are charged depending upon the nature of security (hypothecation,

mortgage, etc.,

i. At the time of fixing the limit and quantum of finance, a banker is required to make assessment of actual cost of

assets to be acquired, margin to be contributed, sources of repayment, etc.

Letter of credit

A letter of credit, or "credit letter" is a letter from a bank guaranteeing that a buyer's payment to a seller will be received

on time and for the correct amount. In the event that the buyer is unable to make a payment on the purchase, the bank

will be required to cover the full or remaining amount of the purchase. It may be offered as a facility.

Due to the nature of international dealings, including factors such as distance, differing laws in each country, and

difficulty in knowing each party personally, the use of letters of credit has become a very important aspect of

international trade.

Process:

The importer who wish to import goods approaches his banker and request him to open letter of credi in favour

of the overseas supplier.

The importer is called the opener or accountee and his bank is known as aopening bank.

The letter of credit is sent to the foregin branch of the bank or to its correspomdent bank, which is called the

negotiating bank (beneficiary)

The exporter ship the goods, prepared the document and draw a bill on his importer.

The negotiating bank receives the bills and pays the amount ifit is in accordance with the letter of credit.

The opening bank received the bill and documents and present them for acceptance.

Documents are delivered on payment or acceptance, as the case may be, to the impoter who takes delivery of

goods.

Example:

:

Four principal parties involved in a Letter of credit transaction.

Applicant/opener:

The bank opens the Letter of Credit on behalf of the applicant (customer) who is normally a buyer of goods. The

customer on whose behalf the LC opened is called ‘applicant’ or ‘opener’.

Issuing bank:

The bank which opens (issues) an LC and undertakes to make payment to the beneficiary on submission of documents as per terms of L.C is called LC issuing Bank.

Beneficiary:

The beneficiary of LC is one in whose favour LC is issued. The beneficiary is normally the seller who has to get payment

from the buyer

The beneficiary of LC is one in whose favour LC is issued. The beneficiary is normally the seller who has to get payment

from the buyer.

Advising bank:

The bank through whom LC is advised to the beneficiary is called Advising Bank. Advising bank will be situated normally in the place or country of the beneficiary.

Types of letter of credit:

Standby Letter of Credit

This type of letter of credit is different: It provides payment if something fails to happen. Instead of facilitating a

transaction, a standby letter of credit provides compensation when something goes wrong. Standby letters of credit are

very similar to commercial letters of credit, but they are only payable when the payee (or “beneficiary”) proves that they

didn’t get what was promised. Standby letters of credit are like insurance that you’ll get paid, and they can be used to

ensure that services will be performed satisfactorily.

Confirmed (And Unconfirmed) Letters of Credit

When a letter of credit is confirmed, another bank (presumably one that the beneficiary trusts) guarantees that payment

will be made. Exporters might not trust a bank that issues a letter of credit on behalf of a buyer (because the exporter is

not familiar with that bank, for example, and is not sure if payment will ever arrive), so they might require that a bank in

their home country confirm the letter. If the issuing bank fails to pay—and the exporter can meet all of the requirements

of the letter of credit—the confirming bank will have to pay the exporter (and try to collect from the issuing bank later).

Back-to-Back Letters of Credit

A back to back letter of credit allows intermediaries to connect buyers and sellers. Two letters of credit are used so that

each party gets paid individually: An intermediary gets paid by the buyer, and a supplier gets paid by the intermediary.

The final buyer and the intermediary use a “master” letter of credit, and the intermediary and supplier use a letter of

credit based on the master letter.

Revolving Letters of Credit

A revolving letter of credit can be used for multiple payments. If a buyer and seller expect to do business continually,

they may prefer not to obtain a new letter of credit for every transaction (or for every step in a series of transactions).

This type of letter of credit allows businesses to use a single letter of credit for numerous transactions until the letter

expires (typically up to one year).

Sight Letter of Credit

Payment under a sight letter of credit occurs as soon as the beneficiary submits acceptable documents to the appropriate

bank. The bank has a few days to review the documents and ensure that they meet the requirements in the letter of credit.

If the documents are compliant, payment is made immediately.

Red Clause Letter of Credit

With a red clause, the beneficiary has access to cash up front. The buyer allows for an unsecured loan to be issued as part

of the letter of credit, which is essentially an advance on the rest of the payment. The seller or beneficiary can then use

the money to buy, manufacture, or ship goods to the buyer.

Irrevocable Letter of Credit

An irrevocable letter of credit cannot be changed without authorization from all parties involved. Almost all letters of

credit now are irrevocable, because revocable letters of credit simply do not provide the security that most beneficiaries

want.