What is Cash Credit?
Cash Credit (CC) is a short-term loan facility banks provide to businesses, financial institutions, and companies to meet their working capital needs. It allows organisations to withdraw funds even without a credit balance, up to a predefined borrowing limit set by the bank.
Understanding Cash Credit
- Purpose: Designed to finance the instant cash requirements of businesses, such as purchasing current assets or managing daily operations.
- Loan Limit: Varies among commercial banks and is determined based on the business's creditworthiness and collateral.
- Interest: Charged only on the amount utilised from the approved borrowing limit, calculated daily on the closing balance.
- Repayment Tenure: Typically restricted to 12 months or less.
Key Features of Cash Credit
- Short-Term Finance: Ideal for meeting temporary working capital requirements.
- Collateral Requirement: A secured loan where businesses need to pledge assets like inventory, receivables, or other movable assets.
- Borrowing Limit: Sanctioned by banks in advance based on business turnover, vintage, and creditworthiness.
- Loan Account: Requires creating a separate loan account, unlike overdrafts.
- Flexible Usage: Funds can be withdrawn as needed, thereby giving flexibility in the management of liquidity.
- Interest Charges: Applicable on the withdrawn amount, not on the total credit limit.
Advantages of Cash Credit
- Flexibility: The businesses have the liberty of withdrawing funds as needed so that the liquidity can be dealt with properly and efficiently.
- Cost Efficiency: Only the used amount is charged on interest and the entire credit limit.
- Liquidity Management: Ensures that businesses have immediate access to cash when needed.
- Lower Interest Rates: Generally more affordable than overdraft facilities.
- Collateral-Based Security: Provides a sense of assurance to the bank, leading to better terms for borrowers.
Limitations of Cash Credit
- Collateral Requirement: Cash credit is not suitable for firms that cannot pledge assets.
- Strict Evaluation: Cash credit requires detailed financial statement and strong creditworthiness.
- Commitment Charges: Some banks charge some fees for opening and maintaining the loan account.
- Short Tenure: Repayment is normally required within 12 months which is not suitable for long term requirements.
Bottomline
Cash credit is a vital financial instrument for businesses that are looking for short-term liquidity to manage working capital requirements. It is flexible and cost-efficient and ensures smooth business operations. However, companies need to evaluate repayment capabilities and understand the bank's terms before opting for cash credit.
