Banking Instruments

INDIRA SELVAM. R
 Banking Instruments is a common expression for different types of
instruments issued by Banks.

 These are used for different financial transactions and purposes.

 They are cheques, drafts, bills of exchange, bank notes and so on.

 It is a document guaranteeing the payment of a specific amount of money,

either on demand, or at a set time, with the payer named on the
document.
 Bank Notes

• A banknote (often known as a bill, paper money, or simply a note) is a type of negotiable
instrument known as a promissory note, made by a bank, payable to the bearer on
demand.

• The banknotes issued by RBI have the RBI Governor's signature.

• Bank notes are legal tender.

 Banker’s Drafts

• Popularly known as demand draft [DD].

• It is a pre-paid negotiable instrument

• A bank issues a demand draft to a client (drawer), directing another bank (drawee) or
one of its own branches to pay a certain sum to the specified party (payee).

• The drawee bank takes the responsibility of making the payment when the Demand
draft is presented by the payee.

• The instrument can be prepared from any bank irrespective of having a bank account

• The validity period of a demand draft is 3 months.

 Deposit Receipts

• A deposit receipt is a receipt issued by a bank to a depositor for cash and

cheques deposited with the bank.

• Also called as pay in slips

• It has the signature of the cashier, as receipt.

• The information recorded on the receipt includes the date and time, the
amount deposited, and the account into which the funds were deposited.

 Bank Guarantee / indemnity

• A guarantee given by the bank to the beneficiary on behalf of the

applicant, to effect payment, if the applicant defaults in payment.

• Becomes active only when the applicant defaults in making payment.

 Letters of Credit

• Letters of credit also known as documentary credit are common in international trade.

• A letter from a bank guaranteeing that a buyer's payment to a seller will be received on
time and for the correct amount.

• It is an arrangement under which the bank , at the request of the buyer or on its own ,
undertakes to make payment to the seller provided specific Documents are submitted .
• Types

o Sight Letter of Credit – Payment is made as soon as the beneficiary submits acceptable
documents to the appropriate bank.

o Deferred Payment /usance - payment does not happen immediately after the
documents are accepted. It is made on the given date.

o Revocable & Irrevocable - An irrevocable LC cannot be changed without authorization

from all parties involved. If it can be amended by the issuing bank then it is revocable
LC.

o Transferable & non-transferable - A letter of credit that allows a beneficiary to further

transfer all or a part of the payment to another supplier in the chain or any other
beneficiary is a transferable LC. If not so then it is non transferable

o Revolving Letter of Credit - This type of letter of credit allows businesses to use a single
letter of credit for numerous transactions until the letter expires

o Back-to-back – It allows intermediaries to connect buyers and sellers. Two letters of

credit are used so that each party gets paid individually.
• Parties

o Applicant - LC is initiated and issued at his request and on the basis of his instructions.

o Beneficiary - A credit is issued in his favour to enable him or his agent to obtain payment
on surrender of stipulated documents

o Issuing Bank (Opening Bank) - The issuing bank is the one which create a letter of credit
and takes the responsibility to make the payments on receipt of the documents from the
beneficiary or through their banker.

o Advising Bank / Confirming Bank - The Bank to whom the LC is sent for authentication
and delivery. It gives its commitment to make the payment if conditions stipulated in
the credit are complied.

o Negotiating Bank - When paying bank is not located in exporter’s place, any bank is
permitted to make the negotiation of documents and disburse payment to exporter.
After payment, the negotiating bank claims reimbursement from the paying bank

o Paying Bank - It is normally the bank with which issuing bank has an account from which
payment has to be made.
 Traveller’s Cheques
• Generally used by travellers instead of cash, because of the added security

• Fixed-amount cheques, designed to allow payments from one person to

another.

• Travellers' cheques can be bought from most banks and post offices, and
they'll usually have a fixed value and a unique serial number.

• The issuer of the Traveler’s cheque unconditionally guarantees the payment

of the undersigned value, irrespective of the cheque being fraudulently issued
or lost or stolen.

• The payee receiving the cheque, can deposit it with the Bank, as done in the
case of ordinary cheques and can get the payment credited to his account.

• The traveler’s cheques are available in varied currencies such as US Dollars,

Great Britain Pounds (GBP), Japanese Yen (JY), Australian Dollars (AUD) etc
 Postal Order

• It is an order issued by the Post office for the payment of a sum of money through the
agency of the Post Office.

• A "Remitter" is the person who sends money by means of a money order.

• A "Payee" is the person named in money order as the person to whom the money is to
be paid.

• Amount received can also be credited to the savings bank account of the payee.

• Outward remittance is payable to beneficiaries by crediting the payment to the bank

account of beneficiaries in the destination countries

 Dividend Warrant

• An order, or warrant, issued by a company, and drawn upon its bankers, in favour of a
member of the company. for payment of the interest or dividend due to him upon his
holding of shares or stock in the company.

• An ordinary dividend warrant is practically a cheque in a special form, but the dividend
warrant of a bank, being drawn by a bank on a bank, is of the nature of a bank draft
rather than a cheque.
 Bonds

• Bonds are debt instruments in which the authorized issuer owes the bond holders a
debt.

• The authorized issuer is obliged to pay interest and/or repay the principal at a later date
upon maturity

• Example: Sovereign Gold Bond, RBI Bond, GOI Bonds