DEPARTMENT OF TECHNICAL EDUCATION

ANDHRA PRADESH
Name.. : Sreenivasa Rao B.
Designation : Lecturer in CCP
Branch : Commercial and Computer Practice
Institute : S.U.V.R&S.R GPW,Ethamukkala
Semester : VI Semester
Subject Name : Banking II
Subject Code : CCP 604 (B)
Major Topic : Loans and Advances –Short term &Long
term
Duration : 50 minutes
Sub Topic : Principles of sound lending policy
Teaching Aids : PPTs

CCP604(B).2 1
Objectives:

On completion of this period you

would be able to

 Explain the general principles of Sound

Lending Policy of Banks

CCP604(B).2 2
Recap

Granting of advances is the primary function of

a Bank.
A major part of the money lent by the banker
comes from the deposits of public.
Lending money is not without risk and,
therefore, a banker must take proper precautions
in lending

CCP604(B).2 3
General Principles of Sound Lending
Since all loans entail a Credit risk, the banks have to
follow the following principles while granting loans
And advances:

 Safety :
 ”Safety first” should be the guiding principle to be
followed .
 Banks have to ensure safety of the funds lent.
 Safety means that the borrowers should be in a
position to repay the loans borrowed with
interest, as and when they are due.
CCP604(B).2 4
1. Liquidity:

 Liquidity is the ability of a banker to convert an

asset into cash readily without much loss in its
value.
 The depositor may demand his/her money at
any time and the bank must be in a position to
repay the same.
 Liquidity depends upon the type of the asset a
banker accepts and selects while granting
loans and advances.
 A banker should restrict his lending to short
term, against assets which can be converted
into cash immediately.
CCP604(B).2 5
3. Profitability.
 Commercial banks exist for earning profit.

 Interest on loans is the main source of bankers’

profit.

 Profit is essential to meet the day to day

expenses, to pay interest on deposits, to meet
the salaries of staff etc.,

 Safety and liquidity should not be sacrificed for

higher profitability.

 Banks always aim at profitable deployment of

their funds. CCP604(B).2 6
4. Security:

 Any valuable item given to support a loan or

advance is known as security.

 No banker sees the horoscope of a customer

and lends.

 He calculates his lending risk and lend.

CCP604(B).2 7
4. Security…

 To minimize the chances of risk, security

should be insisted upon.

 The security must be adequate, easily

realizable and free from encumbrances.

CCP604(B).2 8
1. Purpose of the loan:

 The purpose of the loan must be enquired into

by the banker.

 Repayment of loans mainly depends upon the

purpose for which loans are needed.

 Loans for productive purposes would enhance

the earning capacity of the barrower.

CCP604(B).2 9
5. Purpose of the loan…

 The purpose of the loans must be legal ,

productive and commercially viable.
 The proposal for loan should project future flow
of funds.
 Loans for unproductive purposes, like hoarding,
social ceremonies etc., would decrease the
guarantee of repayment.

CCP604(B).2 10
6. Diversification of Risks:

 Since every loan entails some risk element, it is

advisable to spread the credit risk.

 It is dangerous to give advances in any

particular area or field of business or sector.

 This is in accordance with the maxim “ Do not

keep all the eggs in one basket”.

CCP604(B).2 11
7. Assured Repayment:
 A banker should come forward to lend only
when the repayment is assured.
 The sound and safe credit is one , where timely
repayment is assured.

Example:
1. Loans against a FDR which is going to mature
shortly.
2. A Life Insurance Policy which is going to mature
soon.
3. A debenture which is to be redeemed shortly
etc.,

CCP604(B).2 12
Summary
 The general principles of sound lending they
are.
1. Safety
2. Liquidity
3. Profitability
4. Security
5. Purpose of loan
6. Diversification of Risks
7. Assured Repayment

 Other principles will be discussed in next period.

CCP604(B).2 13
 Quiz
1. Liquid assets include:
a) Cash in hand
b) Shares and Stocks
c) Loan and advances
d) Building

CCP604(B).2 14
Quiz

2. Bankers are called as manufactures of :

a) Money
b) Loans
c) Deposits
d) Over drafts

CCP604(B).2 15
Quiz

3. When money is deposited for a fixed period it

is called :
a) Fixed Deposits
b) Savings Deposits
c) Recurring Deposits
d) Current Deposits

CCP604(B).2 16
Frequently Asked Questions

 Explain the principles of sound lending policies of a

bank.

CCP604(B).2 17