Banker as lender

Module 5
 In this Module
• Types of loans
• Overdraft facilities
• Discounting of bills
• Financing book debts and supply bills
• Charging of Security bills
• Pledge
• Mortgage
 Principles of Sound Lending- G & N Pg 166

1. Safety
2. Liquidity
3. Profitability
4. Security
5. Purpose of loan
6. Sources of repayment
7. Diversification of risks
8. Recent concept of sound lending
 Newsfeed
• Banks are penalised- Indiscriminate
lending
• AQR- by RBI
• Recapitalisation bonds- bonds issued by
the Union government to which PSBs can
subscribe
 Types of Loans
• Loans and advances:-
1. Secured advances- based on tangible assets
2. Unsecured advances/ Clean advances/ Personal advances-
based on personal security of borrower

Secured advances
a. Primary Security
b. Collateral Security
The five C's of credit are:-

1. Character-respectability, business morality, honesty, integrity,

regularity
2. Capacity- managerial & technical expertise in running business-
experience
3. Capital
4. Collateral- assurance
5. Conditions- interest rate and amount of principal
 Forms of Advances
1. Loans- Demand Loan/ Term Loan
2. Cash Credit System
3. Overdraft
4. Bills purchased and discounted
 Modes of charging Security
1. Lien
2. Pledge
3. Mortgage
4. Assignment
5. Hypothecation
 1. Lien
• Right to retain the properties belonging to
the debtor
• Till the debt due to him is repaid
• Lien gives a right to retain possession of
the goods and not the power to sell the
goods
• But a banker’s lien is an implied pledge
• Implied pledge- right to sell the securities-
notice
 2. Pledge
• Section 172 of the Indian Contract Act-1872
defines pledge as:-
‘bailment of goods as security for payment of a
debt or performance of a promise’
(i) Pledge occurs when goods are delivered for
getting advance
(ii) Goods returned-repayment
(iii) Goods serve as security for the debt
Example - Gold loans, Jewellery loans,
advances against NSC (National Saving
Certificates), or loans against any
other assets.
 Essentials of Pledge
(i) Delivery of goods
(ii) Transfer of ownership
(iii)Right in case of failure to repay
 Advantages of Pledge
• Good-easy to dispose
• No possibility of same goods-
subsequently charged
• Manipulation of stock is difficult
• Loss or damage of pledged goods- bank
can claim insurance
Rights of Banker as a Pledgee
• Right to retain goods- until repayment
• Related to particular debt
• Right to claim for extraordinary expenses incurred-
preserve the goods
• In case of default:-
a. File a suit for the recovery of the amount
b. Sue for sale of the goods
c. Sell the goods- notice
• Pledgee is deprived the use of goods
• Damage suffered
• Loss suffered- due to defective title
 Duties of Pledgee
• Care of the goods pledged
• Use of the goods- agreement
• Deliver the goods- repayment of debt
• Deliver- increase or profit to the pledger
(Eg.dividend on shares)
• Delay in delivering goods- loss, destruction or
deterioration
 Mortgage
• Method of creating charge on immovable property-
land or building
Characteristics of Mortgage:-
a. Immovable property only
b. Transfer of interest
c. Motive of transfer is to secure a loan
d. Specific property- size, location, description
e. Actual possession- rests with mortgager
f. Interest in the property- reconveyed on repayment
g. Failure of repayment- right to sell

Mortgages are generally those assets, which are

permanently attached with Earth surface,
like house, land, factory etc.
 Forms of Mortgage
1. Simple Mortgage
2. Mortgage by Conditional Sale
3. Usufructuary Mortgage
4. English Mortgage
5. Mortgage by deposit of title deeds
6. Anomalous mortgage
7. Reverse mortgage
 1. Simple Mortgage
• Does not deliver the possession of the
property
• Mortgagee has power to sell only with
intervention of the court
• Apply to court for permission to sell
• File a suit for recovery of the whole
amount without selling the property
 2. Mortgage by Conditional Sale
The mortgager sells the property to the mortgagee
on the following conditions:-
(i) Sale shall become void- repayment
(ii) Mortgagee will retransfer the property-
repayment
(iii) Sale shall become absolute- failure to repay
(iv) The mortgagee has no right of sale-foreclosure
(loss of right to redeem the property- by the
mortgager)
 3. Usufructuary Mortgage
• Mortgager delivers the possession to mortgagee
• Mortgagee retains the possession until repayment
• Mortgagee is enabled to receive rents and profits relating
to the mortgaged property- in lieu of interest/ loan or both
• The mortgagee cannot sue the mortgager for repayment
• Only remedy- retain possession- rent/profit
• No time limit is fixed for redemption- Waiting time is very
long
• Title deed remains with the owner
 4. English Mortgage
1. Transfer of property to mortgagee
2. Fixed date of repayment
3. Retransfer of property- once the loan is repaid
4. Incase of non-repayment- sell without seeking
permission from the court
 5. Mortgage by Deposit of Title Deeds

• Document of title to immovable property

• Restricted to towns of Kolkata, Mumbai and
Chennai and other towns- State Government-
Official Gazette
• Does not require registration
 6. Anomalous Mortgage
• Depends on terms and conditions of
mortgager and mortgagee
• Combination of two or more of the above
types
• Abnormal type of mortgage (deviating from
standard)
 Types of Mortgage based on
transfer of title
1. Legal Mortgage - title is transferred- deed-
registration- expensive- registration charges &
stamp duty
2. Equitable Mortgage- agrees to grant legal
mortgage- incase of non-payment
 Reverse Mortgage
• Homeowner can borrow money against the
value of his or her home
• Receiving funds in the form of a fixed monthly
payment or a line of credit
• No repayment of the mortgage (principal or
interest), is required until the borrower dies,
moves away permanently or sells the home
• Homeowners above the age of 62 years
• House rich but cash poor
 Rights of Mortgager
1. Right of Redemption- after repayment- before
due date
2. Access to Mortgaged Property- any extra
expenses incurred- additions- reimbursed
3. Right to transfer to third party
4. Right of Inspection and Production of
Documents- have a copy of the documents
 Rights of Mortgagee
• Right to sue for mortgage money
• Right of sale
• Right of foreclosure
• Right of access to property- land + building
• Right of possession
 Assignment
• Transfer of existing or future rights,
property or debt
• In banking business borrower may assign
to the banker:-
1. Book debts
2. Money due from government department
3. Policy holder can take loan against Life
Insurance policy
 Assignment Contd.
Assignment may be of two types:-
a. Legal Assignment
b. Equitable Assignment
Legal Assignment-
i. absolute transfer of actionable claim
ii. Writing
iii. Notice
Equitable Assignment- assignee can sue in his
own name
 Hypothecation
• Mortgage for movable property
• Goods, raw material, goods-in-progress
• Neither ownership nor possession is
passed to the creditor
• It is intention to give a specific property as
security for a particular loan
Example - Car loans, Bus loans, etc.
 Hypothecation Contd.
Hart defines hypothecation as

‘A charge against property for an amount

where neither ownership nor possession is
passed to the creditor
Characteristics of Hypothecation
• Applicable to movable goods and commodities, movable
machinery, book debts etc.
• Possession + Ownership- remains with borrower
• Charge is created by deed of hypothecation
• Borrower gives a right to possession when required
• Banker has the right to inspect the security at any time
• Since it is a charge on movable property without
possession, hypothecation is risky-granted only to
parties-highest integrity
 Precautions to be taken by the banker

1. Periodic stock check

2. Inspection of stock and books of accounts of the
borrower
3. Undertaking- writing- same goods- hypothecated with
another bank
4. Obtain a letter of hypothecation
5. Insuring the goods against all risks
6. Board- put up- ‘Stock hypothecated to XYZ Bank’
should be displayed in the place where goods are
stored
• Movable assets - Pledge,
Hypothecation, Lien
• Immovable assets - Mortgage
 To summarize
Pledge Hypothecation Mortgage

Type of Security Movable Movable Immovable

Possession of Remains with the Remains with the Usually remains

the security lender (pledgee) borrower with the borrower

Example of Loan Gold Loan, Advances Car/Vehicle Loan, Housing Loans

where used against NSC advances against
stock and debtors
 Layaway Sale- Emerging concept in India

FEATURES:-
a. Applicable- items of retail stores
b. Undertaking- to settle on future date
c. Seller keeps selected items separately
d. Initial cash payment- is free of any interest payment by
the seller
e. On full payment- goods are handed over to the buyer
f. Banks do not lend- credit risk angle
g. Provisions of ‘agreement for sale’ is applicable
 Questions
1. What are the various types of loans?
2. What are the principles of sound lending?
3. Explain the reasons for overdraft.
4. Explain the various types of loans
5. Explain the characteristics of mortgage. What are the rights of Mortgagee
and Mortgagor.
6. Explain in detail the modes of charging security.
7. What do you mean by Assignment? What are the types of Assignment?
8. Explain the different forms of Advances given by banks.
9. What do you mean by Hypothecation? What are the characteristics?
10. What do you mean by Pledge? Explain the advantages of Pledge and
rights & duties of a Pledgee.
11. What do you mean by Mortgage? Explain in detail the different types of
Mortgages.
12. What do you mean by Layaway sale?