banking | bank lending | - principles of good lending

Bank  lending : 

bank extends credit to different categories of borrowers for a wide variety of purposes . bank credit is provided to households , retail traders , small and medium enterprises , corporates , the government undertakings etc. in the economy .

retail banking loans are accessed by consumers of goods and services for financing the purchase of consumer durables , housing even for day to day operations of private corporates and the government undertakings are met through wholesale lending .

loans for capital expenditure are usually extended with medium and long term maturities , while day to day finance requirement are provided through short term credit ( working capital loans ) . meeting the financing sector is also an important role that Indian bank play .

principles of good lending :

• safety
• liquidity
• profitability
• security
• purpose of the loan 
• sources of repayment 

principles of sound lending :

safety :

as the bank lends the funds entrusted to it by the depositors , the first and foremost principles of lending is to ensure the safety of the funds lent . by safety is meant that the borrowers is in a position to repay the loan . the repayment of the loan depends on the borrowers 1. capacity to pay and 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 profit 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 borrower is capable for carrying it out successfully .he should be a person of integrity , good character and reputation .

liquidity :

liquidity is an important principle of bank lending . bank lend for short period only because they lend public money which can be Withrow at any time by depositors .

they therefore advances loans on security of such assets which are easily marketable and convertible into the cash or short notice .

a bank chooses such security in its investment portfolio which possess sufficient liquidity . it is essential because if the bank needs cash to meet the urgent requirement of its customers , it should be in position to sell some of the securities at every short notice without disturbing their market price much .

there are certain securities such as central , state and local government bonds which are easily saleable without affecting the price of market .

profitability :

this is cardinal principles or making investment by a bank . its must earn sufficient profits.

it should therefore invest in such securities which was sure a fair and stable return on the funds invested .

the earning capacity of securities and shares  depends upon the interest rate and the dividend rate and the tax benefit they carry .

it is largely the government securities of the center , state and local bodies that largely carry the exemption of their interest from taxes .

the bank should invest more in such securities rather than in the shares of new companies which also carry tax exemption . this is because shares of new companies are not the safe investment .

security :

the security offered by a borrower for an advance is as like as the insurance to the banker .it serves as the safety value for an un foreseen emergency . so another principle of sound lending is security of lending .

security offered against loan may be various . it may be a plot of land , building , flat , insurance policies ;term deposits etc. nevertheless the security if accepted must be adequate and readily marketable , easy to handle and free from encumbrance .it is the duty of the banker to check the nature of the security and assess whether it id adequate for the loan granted .

purpose of the loan :

the purpose should be productive so that the money not only remain same but also provides s definite source of repayment .loans may be required for productive purposes , trading purposes , agriculture , transport , self employment etc. if a loan is required for a non productive or speculative purpose , the banker should be very much watchful in entertaining such proposals .

it is very difficult to ensure that the loan has been utilized for the purpose for which it was sanctioned . banker should take follow up measures to ensure end use of funds exactly for the same purpose for which it is borrowed .

source of repayment :

before giving financial accommodation , a banker should considered the source from which repayment is promised .in some instances, debentures which are to be redeem in few months tome or a life policy which is to mature in near future may be offered as security . advances against such security gives no trouble .