written by | December 23, 2022

Vital Rules Followed by Banks for Lending Money | All You Must Know

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Table of Content


In India, lending is a significant industry that affects all facets of the economy and the population, both intrinsically and extrinsically. A portion of the loan market comprises participants from the NBFC and banking industries. With millions of Indians holding loans totaling billions of rupees, any solution that might improve the lending industry's ability to reduce the risks of fraud and bankruptcy would be helpful.

When performing loan and credit activities- a banker adheres to a few fundamental lending rules. Banks collect deposits of public funds, lend to their borrowers, and make a profit by doing so. Banks adhere to basic lending rules to guarantee safety, stability, and profitability. One of the most crucial tasks of commercial banks is lending, which also serves as a significant revenue source for the institution.

Did you know? Before making a lending decision, the bank adheres to a few principles. It considers certain factors, including the borrower's reason for the advance, activities, financial situation, ability to repay the loan, and risk.

Meaning of Lending

Lending is the act of allowing someone else to borrow. Lending frequently takes place- in the context of obtaining a loan in aspects of business and finance. An entity receives a loan from a lender and is responsible for paying back the loan. Property or another item afterward returned or fully paid for may also be involved in lending.

For loans, major lending institutions like banks are excellent. However, banks frequently need help to meet the needs of potential borrowers, like a particular money lending company, when it comes to lesser quantities or alternative loan alternatives. It is where working with hard money or a private lender is advantageous.

A Private Money Lending Company

Establishing a private lending company is something you should consider if you want to create a money-lending enterprise and structure loans using your own money as the source of funding. There must be fail-safe processes to ensure repayments are made on schedule and to deal with late payments, customers who defer on loans, and collections, in addition to the high level of risk that the business owner assumes.

Private lenders are individuals or private businesses that offer loans to borrowers. Since they are not connected to any banking or financial institutions, like banks, these lenders do not follow conventional lending standards. Because private lenders don't adhere to any set of loan conditions and criteria, lending can be more open because they are free to do as they wish.

Also Read: Business Loan For Shop Purhcase - Compelet Process, Benefits, Documenst Required

What is Private Money Lending?

Private money lending is asset-based loans that emphasize the deal or asset itself than the borrower's financial position. Hard money lenders are authorized to lend money, but private lenders are not organized and frequently are not.

The capacity to appropriately estimate whatever collateral the customer pledges as security for the loan is another requirement for private money lending. So to ensure that the customer is pledging assets equal to the amount you are lending, it is wise to verify your valuations by two or more other agencies.

The Job of Private Money Lenders

Private money lenders also have to maintain insurance coverage on top of everything else. Ascertain that your customers have liability coverage and that their valuables get covered by fire insurance. Your clients will need to add you to their policy when negotiating a loan, and the insurance provider will need to know the reason for the addition. In this manner, the reimbursement cheque will still be available if the items used as collateral are damaged.

The Job of Hard Money Lenders

Hard money lenders collaborates with underwriters and other money broker companies to arrange loans for their customers. The risk and out-of-pocket expenses are significantly reduced as a result, and the majority of the business will come from equity investors, accountants, and even bank referrals for clients who don't exactly fit inside the parameters of a traditional lending institution.

Also Read: How To Apply For Dairy Farm Loan - Intrest Rates, Eligibility, Features

What are the principles of lending?

Private money lenders, Hard money lenders have higher lending requirements. Hard money lenders often adhere to predetermined guidelines on the points, rate of interest, and loan periods, whereas private money lenders have more latitude.Below are some major principles of lending in recent times. 

Liquidity

Another crucial lending element in banking is liquidity. The public money that banks lend is repayable upon request by depositors. Thus banks only lend for a little time. A banker must guarantee that money will return upon demand or following the repayment timetable. After a demand is made, the borrower must be able to pay back the loan in a fair amount of time.

Both "liquidity" and "funds safety" are crucial. The justification for this is that a large portion of their deposit is repayable immediately. The banker is responsible for keeping the money secure for a long period. Bankers might not be able to fulfill their commitments to depositors if a loan becomes illiquid.

Assurance for the future

When considering a loan application, the bank will consider security options. The primary security may be a pledge or hypothecation of shares, book debts, or other assets obtained through bank financing. A charge on real estate may be required by the bank in addition to safety and a third-party assurance for collateral security. The fundamental issue is that the bank should have access to adequate security that it can rely on in an emergency.

The approved security value should be constant and simple to determine. Take every precaution to ensure that the security provided has a transferable title before accepting the movable property as collateral.

Spread

It is never a good idea to put all your eggs in one basket; the bank used this strategy (the principle of variety) when building its portfolio of advances. Any time you give a loan to any borrower, there is a risk involved.

Banks should offer to borrowers in various crafts and industries, such as agriculture, education, IT, pharmaceuticals, and education, among others, to reduce risk. In a downturn, lending excess to a single industry may hurt the bank. A lender must adhere to various concepts when selecting its investment portfolio. Instead of investing in a specific security, he must spread the cash over shares and debentures of several sectors.

Evaluation of a credit proposal

The accumulation of non-performing assets (NPA) gets influenced by the technical and economic viability of the credit appraisal's poor quality. Accepting a wildly optimistic projection and fixing an excessively tight payback timeline could lead to issues when trying to recover.

The credit officer would account for all the data gathered from internal and external investigative sources to justify the credit decision. While evaluating the proposals, it is important to consider the promoter's educational background, professional experience, managerial skills, history of payments, and fulfillment of financial responsibilities, among other factors.

Execution

The Manager or other authorized person must be present when the paper is signed. The borrower should not be supplied the documents to gain the borrower's or guarantor's consent. In addition to ensuring the executants have read the documents before execution, the documents should be delivered at once. The borrower must sign their name and not just their initials. 

The real signature of the executant or executors must be used to certify any cutting, overwriting, or interlining. Any document signed outside of India that is subject to stamp duty must be stamped no later than three months after it is first received there.

Also Read: Petrol Pump Loan - Benefits, Eligibility, Factors To Consider While Applying For Loan

Follow-up

Direct payment is necessary for any items or equipment purchased following an invoice prepared by demand draft in the supplier's favor. Crediting the loan amount to the borrower's SB/CD account is improper because it has been noted that the borrower frequently uses bank funds for purposes other than those for which the loan was approved. The inspection will be done to find out how assets financed by banks were ultimately used or produced. The inspecting authority must avoid being exhibited- as outdated or broken equipment as new equipment.

The documents provided must be properly preserved, and to keep them active, revival letters, debt acknowledgments, etc., must be obtained regularly. An asset financed by a bank must be insured with a bank condition. In some instances, the business keeps inventories above the working capital threshold while merely purchasing insurance to the amount of available credit.

Conclusion

A significant change is visible now in how lenders identify trustworthy borrowers. The popular practice changed from allowing families to reducing loan risks by using financial sectors to seek loans. Although banks' primary line of business, lending, provides some inherent risks, if a bank wishes to lend, it cannot take more than calculated money. 

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FAQs

Q: What is the maximum loan amount for studying in India?

Ans:

Education loans are provided by banks and financial institutions to students who want to pursue higher education, with the maximum loan amount being ₹1.5 crore. The interest rate starts lowest at 6.85%, and the maximum tenure of education loans is 15 years.

Q: What is the best interest rate for student loans?

Ans:

Student loans can be availed for interest rates ranging from 6.85% to 15% p.a.

Q: How do lenders earn?

Ans:

Lenders like banks are in the business of earning money. In contrast to lending money to borrowers at a higher interest rate through mortgages and credit cards, financial firms pay a low lending rate on deposit accounts like savings and money market accounts.

Q: How to start a lending business?

Ans:

Although not required, having experience in banking or accounting is recommended. To manage the aspects of the business you do not know, about the pros and cons of the business. You'll start down the road to profitable lending if you have an eye for detail and are prepared to lend out your own money.

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Disclaimer :
The information, product and services provided on this website are provided on an “as is” and “as available” basis without any warranty or representation, express or implied. Khatabook Blogs are meant purely for educational discussion of financial products and services. Khatabook does not make a guarantee that the service will meet your requirements, or that it will be uninterrupted, timely and secure, and that errors, if any, will be corrected. The material and information contained herein is for general information purposes only. Consult a professional before relying on the information to make any legal, financial or business decisions. Use this information strictly at your own risk. Khatabook will not be liable for any false, inaccurate or incomplete information present on the website. Although every effort is made to ensure that the information contained in this website is updated, relevant and accurate, Khatabook makes no guarantees about the completeness, reliability, accuracy, suitability or availability with respect to the website or the information, product, services or related graphics contained on the website for any purpose. Khatabook will not be liable for the website being temporarily unavailable, due to any technical issues or otherwise, beyond its control and for any loss or damage suffered as a result of the use of or access to, or inability to use or access to this website whatsoever.