Fund-based facilities refer to the facilities for drawing cash and funds as per the requirement of the concerned borrower. In other Non-fund based facilities given by the bank where actual funds are not involved. Through these facilities, banks facilitate trade transactions by offering their commitment/ promise/undertaking to pay in case the buyer (banks customer) fails to pay the seller and the seller remains unpaid.
The financial guarantee/ assurance is offered by banks to facilitate the trade transaction through a suitable instrument to cater to the needs of buyer and seller. Nonfunded instruments are designed in such a way whereby the seller of the goods or services gets a financial commitment by a solvent person like a bank subject to the compliance of terms and conditions as mentioned in the related trade instrument.
Non-fund-based facilities are not sanctioned in isolation. For example, a customer wanting to import a machine would be sanctioned a term loan and the LC will be opened to import the machinery. Alternatively, it could be a customer with working capital who will need to open an LC for importing some material. A guarantee will be given to a customer who is executing an order and is enjoying a working capital or term lending facilities.
Given this non-fund facilities will, eventually, get converted into term loans or working capital. In view of this non-fund facilities will call for an almost equal level of credit appraisal.
In addition to it there will be due diligence which is unique to the type of non-fund limit. The non-fund facilities are divided into three broad categories as under:
- Letter of Credit
- Guarantees
- Co-acceptance of Bills
How the non-fund limits play a role in Business:
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