Lendings - 1, Banking Fundamentals to Know for Students.

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Principles of Sound Lending: 

The business of lending is not without risk. The following points are to be kept in mind while taking a lending decision. 

 

a) Safety - Safety of the fund is the most important principle of good lending. When a banker lends certain monies, he has to ensure that the advance is safe and in secure hands. Because it is public money which banks lend hence, it has to take utmost care in lending it to someone else. The repayment of loans depends on three things 1> Capacity to pay 2> Willingness to pay 3> Income generation. Bank takes collaterals which can be used for repaying the debt by selling in case the loan is not paid.  

b) Liquidity - It is to be seen that money lend is not going to be locked up for a long time. The money should return to the bank as per the repayment schedule. banks are intermediaries for short term funds as seventy percent of the deposits are payable within a year, so the funds advanced should be, to a large extent for working capital and term loans of not above three years.  

c) Profitability: A fair return on investment is essential in the case of lending by banks. Banks are commercial organizations and profit earning is the motto of the banks to adequate dividends to their shareholders. An interest margin (spread), between lending and borrowing of three to four percent, is essential to meet the administrative expenses and leave some profit from reserve and distribution purposes. While looking at profitability, it is prudent for a banker to look at profitability against the totality of business undertaken by the customer instead of applying for the test of profitability against each component of the business of service offered. It is therefore advisable to have a customer profitability analysis (CPA) done when the banker is engaged in more than one service or business is undertaken for the same customer.

d) Loan for non-productive purposes cannot be granted  

e) By diversification of risk, it is meant that the banker should not grant advances to only a few borrowers or few activities undertaken in an era. The advances may be diversified in a good number of customers and purposes. Diversification will help avoid the concentration of advances in the hands of a few people or purposes or a limited geographical area.  

f) The security offered against the loans may consist of a large variety of Items. It may be a piece of land; building, gold ornaments, and Insurance policies, there may be cases where there is no security except the personal promise. The banker is aware that the security if accepted, must be adequate and readily marketable, whenever there is a need to fall back upon. It should be clean security without any legal complications.