You are on page 1of 11

Lending Products for Individual

Borrowers

Subject:
Credit Management

Submitted To:
Sir, Afzal Mehmood

Submitted By:
Aneeka Niaz

Roll No:
MBK-M-12-04
MBA (B&F) Morning
6thsemester

ALFALAH INSTITUTE OF BANKING AND


FINANCE
BAHAUDDIN ZAKARIYA UNIVERSITY
MULTAN

Introduction:
Banking system in the world has emerged many centuries ago and in India it rooted its seed with
the existence of the General Bank of India in the year 1786. In earlier days banks were the
Financial Institutions dealing in day to day services i.e. accepting deposits and lending money.
But now it has spread its wings to various others sectors like it first started lending to big
business entities and has also entered into the retail banking sector i.e. it started lending for
purchasing car, for education, marriage and most importantly for purchasing a house.
Consumer banking which is one of the fastest growing sectors of Pakistan Banking Industry is
also now major interest point for the banks. Initially the consumer banking sector was only
focused by the foreign banks but its efficiency & profitability attracted others to come towards
this business but still the major share of consumer banking in Pakistan is in the hands of foreign
banks.
In a generic sense, institutional arrangements that provide consumers with financing support to
enhance their consumption and as a result thereof, improve their standards of living should fall
within the broad definition of consumer finance.
Consumer banking is a huge industry with great profits massive potential for improving
economic conditions. But the banking sector has to care more for its subscribers rather than
solely about itself. It needs to offer better services at better terms and needs to inform the
consumer completely and fully about the services.

Types of Loans:
Loan refers to a sum of money borrowed at a particular interest rate. More generally, it refers to
anything given on condition of its return or repayment of its equivalent. A loan may be
acknowledged by a bond, a promissory note, or a mere oral promise to repay. The two main
categories of loans are:
1. Commercial loans
2. Consumer loans

Commercial loans:
Commercial loans are mainly provided to the business and industrial firms. These can be sub
divided into:

Short term loans:

Short term loans are mainly given for a period up to 1 year and usually granted to the business
and industrial firms to meet the working capital requirements. For e.g.: Cash credit, Bank
overdraft etc. (loans to finance the purchase of material or labour).

Long term loans:

Long term loans are granted for a period above 5 years and are granted to meet capital
expenditure. For e.g. project finance, Education loan etc. (loans to purchase machinery and
equipments). Most commercial bank offers a variable interest rate on these loans, which means
that the interest rate can change over the course of loan. Sanction of loan depends upon the credit
and loan history of the borrower, the borrower ability to make scheduled loan payment, the
amount of capital the borrower has invested in the business, the condition of the economy and
the value of the collateral the borrower pledges to give the bank if the loan payments are not
made.

Consumer Loans:
One of the important areas of bank financing in recent years is towards purchase of consumer
durables like TV sets, Washing Machines etc. Banks also provide liberal car finance. These days
banks are competing with one another to lend money for these purposes as default of payment is
not high in these areas as the borrowers are usually salaried persons as default of payment is not
high in these areas as the borrowers are usually salaried persons having regular income. Further,
banks interest rate is also higher. For e.g. Housing Loan, Medical Loan, Car Loan, Education
Loan.
According to the Regulations, consumer financing means any financing allowed to individuals
for meeting their personal, family or household needs. Thus, corporate or commercial
consumers are excluded from this definition.
Banks have requirements for individuals applying for bank loans. They generally look at the
trend of the individuals income, stability of cash flows, expenses and the individual ability to
sustain the loan and the cost.
There are two types of consumer loans:

Closed ended credit:

Closed ended loan are for fixed period of time, fixed amount of loan, but not for a fixed purpose.
The items purchased by the consumer serve as collateral for the loan.

Open ended credit:

Open ended loan are for variable amount of money and it does not require the borrower to
specify the purpose of the loan. For e.g. Credit cards. Most open ended loans carry fixed interest
rate and it requires no collateral but interest or other penalties or fees may be charged. Open end
credit interest rates usually exceed close end rate because open end loans are not backed by
collateral.

Classification of Loans On The Basis Of Security:


Loans given by bankers can also be classified broadly into the following categories on the basis
of security:
a) Asset-based / Secured Loans:
These are those Loans which are covered by tangible or collateral security. Bank provides such
loan against different types of securities which a banker may accept for such advances. Types of
security include the following; Tangible assets such as plant and machinery, motor-van, etc,
Documents of title to goods, like Railway Receipt (R/R), Bills of exchange, etc, Financial
Securities (Shares and Debentures), Life-Insurance Policy, Real estates (Land, building, etc),
Fixed Deposit Receipt (FDR) and Gold ornaments, Jewellery etc.
b) Unsecured / Clean Loans:
Advances for which are given on the personal security of the debtor, for which no tangible or
collateral security is taken; this type of given either when the amount of the advance is very
small, or when the borrower is known to the banker and banker has complete confidence in him.
Because an unsecured loan is not guaranteed by any type of property, these loans are bigger risks
for lenders and, as such, typically have higher interest rates than secured loans (such as a
mortgage). Although the interest rates are higher, the rates may still be lower than those of credit
cards. Unlike mortgage loans, the interest on an unsecured loan is not tax deductible.
An unsecured loan may be a good option for individuals who do not have enough equity in their
homes to be approved for a home equity loan. An unsecured loan may have a fixed interest rate
and be due at the end of a specified term, or it can exist as a revolving line of credit with a
variable interest rate

Lending products for individuals under secured loan category


Lending products under secured loan category include the following;
1. Home loans/mortgage loans
2. Auto/vehicle loans
a) Auto financing
b) Auto leasing

3. Consumer durables
Home or mortgage loans:
House financing includes loans for construction, purchase, renovation, purchase of house or
apartment, purchase of land, house expansion, and purchase of land plus construction.
It is a kind of loan given by a bank, Mortgage Company or other financial institution for the
purchase of a primary or investment residence. In a home mortgage, the owner of the property
(the borrower) transfers the title to the lender on the condition that the title will be transferred
back to the owner once the payment has been made and other terms of the mortgage have been
met.
A home mortgage will have either a fixed or floating interest rate, which is paid monthly along
with a contribution to the principal loan amount. As the homeowner pays down the principal over
time, the interest is calculated on a smaller base so that future mortgage payments apply more
towards principal reduction as opposed to just paying the interest charges.
Home Loan is one of the fastest growing retail and mass banking area. It forms an important part
of the countrys priority in 5 year plans. Almost all public and private sector banks are offering
home loans at attractive rates for purchasing their dream home. Home loan usually cover a
variety of types. All Banks have come out with home loan products studded with features and
value additions that make the schemes not only attractive but also serve as a substantial source to
the borrowers for owning their dream home.

Types of Home Loans:

Lending institutions like banks offer different types of home loans for a wide gamut of housing
activities. Some of the popular home loans are:

Home Purchase Loans:


There

are

the

basic

home

loans

for

the

purchase

of

new

home.

Home Improvement Loans:


These loans are given for implementing repair works and renovations in a home that has already
been purchased by the borrower.
Home Construction Loans:
These

loans

are

available

for

the

construction

of

new

home.

Home Extension Loans:


These are given for expanding or extending an existing home. For example addition of an extra
room, etc.
Land Purchase Loans:
These loans are available for purchase of land for both home construction or investment
purposes.
Bridge Loans:
Bridge Loans are designed for people who wish to sell the existing home and purchase another.
The bridge loan helps finance the new home, until a buyer is found for the old home.

Auto Loans:
A car loan is a personal loan for the specific purpose of buying a new or used car. You borrow an
amount of money that you agree to repay within a certain period of time (called the term). This
can vary, but is usually 12 months to 5 years. You will have to sign a credit contract which will
specify the amount borrowed and how you will repay it.
In Pakistan auto loans are purchase of brand new or used, imported or local cars for private use.
Auto financing and auto leasing both facilities are offered by most of the banks. Salaried
Persons/Self Employed Professionals / Business Persons who meet the terms and conditions to
qualify for the finance are eligible for the loan. Some banks are also offering both variable rate &
fixed rate options for auto loans.
There are two types of auto loans being offered by the banks:

a) Auto financing:
Auto financing is a type of loan in which car is registered under the name of borrower and is
mortgaged to the bank as long as the consumer pays off the amount borrowed from the bank.
b) Auto leasing:
In case of car lease, the car is registered in the name of the Bank and the original papers are also
in the name of the bank. Most of the banks offer car financing instead of leasing.
The financier buys the car and then leases it to the customer. This offers the immediate use of the
car with little or no capital outlay. These leases are available for individuals and businesses
where the car is for business purposes. The customer pays fixed, monthly rental payments and is
financially responsible for the maintenance and trade-in residual risk of the car. At the end of the
lease period, the motorist is given the option to refinance, return, sell or buy the car for the
residual amount.

Important features

Immediate use of the car with little or no capital outlay.


Repayments are generally tax deductible, but GST is payable
Lease payment is made from pre-tax rupees.
Interest rate is fixed and is low because finance is secured against the car

Consumer durables:
Consumer durables are a category of consumer products that do not have to be purchased
frequently because they are made to last for an extended period of time (typically more than
three years). They are also called durable goods or durables.
Consumer Durable loan is a finance option for purchase of household items like Washing
Machines, Refrigerators, AC, Color TV, LCD, Microwaves etc. Consumers find these schemes
attractive as they do not have to bear the interest burden while making purchases, making many
high-value consumer products within the reach of low- and middle-income families.
Financing schemes enable customers, especially those with lower income levels, to use future
income streams to buy consumer products upfront and pay in installments over a period.

Lending products for individuals under unsecured loan category

Generally it has three types:


1) Running finance
2) Personal loan
3) Credit cards

Running Finance:
Running finance facility is the form of lending where customer is allowed to borrow money from
a banker up to a certain limit either at once or as and when it is required. If it is availed and
withdrawn at different intervals and paid back on various occasions then the mark up levied there
on is worked out on daily product basis. The markup in running finance facility is a revolving
credit. It renews until the exhaustion of amount of credit, the customer has the facility to draw it
again when the limit is reached. Credit is automatically reinstated after each drawing, within the
limit. The limit is renewable credit, until its full utilization.
A revolving credit is a line of credit where the customer pays a commitment fee and is then
allowed to use the funds when they are needed. It is usually used for operating purposes,
fluctuating each month depending on the customer's current cash flow needs, often referred to as
"revolver."
Revolving lines of credit can be taken out by both corporations and individuals. The bank that is
in agreement with the customer guarantees a maximum amount that can be loaned to the
customer, along with the commitment fee there are also interest expenses for corporate borrowers
and carry forward charges for consumer accounts.
A credit card is a payment card issued to users as a system of payment. It allows
the cardholder to pay for goods and services based on the holder's promise to pay for them. The
issuer of the card creates a revolving account and grants a line of credit to the consumer (or the
user) from which the user can borrow money for payment to a merchant or as a cash advance to
the user.

Personal loan:
Personal Loans are generally unsecured type of loans but in certain cases when the amount of
personal loans increases the normal limit its remaining portion must be secured. Personal loans
include loans for the purpose of education, marriage, purchase of consumer durables, furnishing,
traveling, etc. Generally the limit for personal loans is maximum Rs.500, 000/-

Financial institutions offer a variety of personal loans. There are fixed interest rates, where the
monthly payment stays the same for the term of the loan. Variable interest rates may seem more
attractive at first, because the initial interest rate is usually lower than fixed rates. However, the
banks can adjust variable interest rate loans and if the interest rate rises, so does your monthly
payment. Unsecured loans do not require collateral from the borrower. If the borrower fails to
pay, the bank has nothing to repossess.
Most banks offer a variety of application methods including Internet, phone and hand written
applications at a branch office. Incentives may be offered to individuals to set up payments
automatically deducted from a bank account each month. Other banks send monthly statements
or provide a book of payment coupons. Internet banks may offer to direct deposit the amount
borrowed into a borrower's account at any financial institution, or pay off other debts directly.

Credit card:
A credit card is a payment card issued to users as a system of payment. It allows the card
holder to pay for goods and services based on the holder's promise to pay for them. The issuer of
the card creates a revolving account and grants a line of credit to the consumer (or the user) from
which the user can borrow money for payment to a merchant or as a cash advance to the user.
A credit card issuing company, such as a bank or credit union, would enter into agreements with
merchants for them to accept their credit cards. Merchants often advertise which cards they
accept by displaying acceptance marks generally derived from logos or may communicate this
orally, as in "We take (brands X, Y, and Z)" or "We don't take credit cards".
The credit card issuer would issue a credit card to a customer at the time or after an account has
been approved by the credit provider, which need not be the same entity as the card issuer. The
cardholders can then use it to make purchases at merchants accepting that card. When a purchase
is made, the cardholder agrees to pay the card issuer. The cardholder indicates consent to pay by
signing a receipt with a record of the card details and indicating the amount to be paid or by
entering a personal identification number (PIN). Also, many merchants now accept verbal
authorizations via telephone and electronic authorization using the Internet, known as a card not
present transaction (CNP)

The main characteristics or features of credit card are listed as follows:

Alternative to cash.

Credit limit.

Aids payment in domestic and foreign currency.

Record keeping of all transactions.

Regular charges.

Contribution of Consumer Banking in Economic


Development:
During past few years the domestic consumer finance emerged as one of the
key factors to boost economic growth. Regional and global markets and
economic players have become highly competitive and banking sector is
more concerned to safeguard its capital and enrich itself with higher returns
on loans than governments concern about boosting economic growth.
Lending through credit cards, personal loans, auto loans, loans for durables
and housing finance emerged main streams of consumer finance. They
shaped domestic demand and lending strategy by the banking sector in
quite subtle ways. Consumer finance has also brought social change through
higher circular of money and relaxation of income constraints for borrowing
particularly among those middle class segments that were eager to become
part of growing economy and keen to benefit from economic growth.
The big attraction in extending financing facilities to the passive consumer
segment is the prospect of earning high interest rate spreads because
consumers are soft targets as far as haggling over interest rates chargeable
to them are concerned. They are much more likely to borrow at
unrealistically high rates a convenience that is no longer available on lending

to industrial and commercial borrowers who now insist on the finest possible
loan rates. But in pricing consumer loans unrealistically high, banks would be
making a serious mistake because "they cannot charge a high enough loan
rate that could compensate for the loss arising out of an irrecoverable loan."
More importantly, if consumer finance has to pick-up as a truly helpful
mechanism for spurring domestic demand, it must be ensured that it
remains within the consumers' capacity to repay their loans on time, and
they feel confident about borrowing again and again.

You might also like