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BASIC PRINCIPLES OF LENDING

Objectives of Lending

The basic objectives of lending are to grant credit facilities to the entities:

i. For a defined purpose.

ii. To deploy the Banks resources in a profitable manner and to achieve the statutory

and regulatory norms.

Basic Principles

To achieve these objectives, the Bank has to follow a prudent policy and conduct the

business on the basis of sound principles of lending namely, Safety, Liquidity and

Profitability. These aspects are further elaborated below.

Safety

Safety of the funds lent has to be ensured with respect to:

i. Borrower

The Borrower should have the means, ability and willingness to repay the advance

along with interest as per the terms of finance. These depend on factors like tangible

assets, income generating potential, operational efficiency and integrity of the

borrower. It is therefore imperative to make a thorough investigation into the means,

character, antecedents, respectability and capacity of the borrower before allowing

them any credit facilities and by keeping a close watch on their dealings and on the

operations in their accounts during the period of advance. Character - Indicating the

borrowers honesty, integrity, business ethics, regularity, dependability, reputation

and promptness to keep promise.

ii. Profitability

Notwithstanding the socio-economic objectives of lending, the fact remains that banks

are profit making institutions. They have to be run on commercial considerations to

meet the expectations of the shareholders and ensure their healthy growth. The Bank

should, therefore, have a proper mix of credit portfolio which would earn sufficient

income to enable it to defray the cost of funds, meet establishment and other

expenses, provide for contingencies and risky assets, build reserves and pay dividendto the shareholders.

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iii. Liquidity

As the funds lent mostly belong to the depositors and as the Bank should always be in

a position to meet the demands of the depositors, it is essential that the loans and

advances are recoverable in full on demand or within a reasonable period. It is,

therefore, necessary to ensure that the funds lent are backed by securities that are

easily marketable and realisable. Matching of Assets and Liabilities is very critical

from this point of view.

iv. Security

Though repayment in the ordinary course must come out of the surplus from business

of the borrower, the security aspect cannot be neglected. Security serves as a cushion

or comfort to fall back upon in the event on the borrowers failure or default in the

repayment of advance. Adequate tangible security ensures safety of advance. The

assets purchased out of the credit facilities are obviously the first to be taken. It is a

safeguard against disposal/alienation of such securities. Wherever necessary, the

advances could also be secured by obtaining collateral securities.