A businessman has two options while taking a loan for his business. Either to opt for long term funding like LAP (Loan against property) or to go for flexible funding like Cash Credit (CC) or Overdraft (OD). Long term funding generally carries a lower rate of interest while flexible funding gives opportunity to save interest by depositing extra funds in the account and thus paying interest only for amount needed.
Overdraft and Cash Credit account both are the type of loan accounts in which the account holder can withdraw the amount he requires . These generally are considered as similar type of loan by many,yet there are some differences between them. A number of such differences are listed below.
|Cash Credit Account||Overdraft Account|
|It is normally given on security of stock, debtors etc.||It is normally given on security of a fixed asset.|
|The maximum amount is calculated as a percentage of sale and stock along with financial statements. For eg A bank allowed cash credit upto 80% of stock plus 20% of sales.||The maximum amount allowed is calculated mainly on basis of financial statements and security.|
|It should be used for the purpose of business.||Can be used for any purpose|
|Balance Sheet, P & L account , VAT reports is required be submitted to bank generally annually or quarterly.||Financial statements are generally not required to be resubmitted after approval.|
|It doesn’t reduce over time.||There is a monthly reduction in amount of overdraft facility in Dropdown Overdraft (DOD).|
|Insurance of stock is normally required.||Insurance of the property is generally required.|
|Many a times new account has to be opened to take cash credit facility.||Overdraft facility is generally started by banks in existing current accounts.|
|Interest rate is normally lower than overdraft account.||Interest rate is normally higher than cash credit account.|
Points to be considered while taking a CC or OD account facility
- Rate of Interest – Rate of interest is higher than fixed loans like Loan against property (LAP) therefore if you generally don’t have extra money to park in cc or od account then you should opt for LAP.
- Processing fees – Processing fees charged by bank is normally .5% to .75% and could bargain on it.
- Minimum usage condition – Some bank levies charges if the cc or od account is not utilized upto a certain limit. For example you take an OD account of Rs. 10 lakhs and average use during the year is not 30% i.e Rs. 3 lakh then charges are levied.
- Account closing charges – Some banks also levies a percentage of loan amount as charges called foreclosure charges if you want to close the account. This generally ranges from 1% to 2%. If your bank levies 2% foreclosure charges then its not beneficial for you to shift to other bank even if other bank gives you a better interest rate.
- Interest Servicing – Some banks required the customers to deposit the interest of the month in the account through cash or cheque deposit within a few days of the next month.
The charges levied by bank is huge if you don’ t fulfill the conditions 3 and 5 above. So you should check the conditions and charges with your bank before opening a new account.