Prof.

Ruchi Mehrotra
Alliance Business Academy
Banking is defined in the Banking Regulation Act.

• Primary function to accept deposit, lend and

invest.
• Secondary functions include opening of Letters
of credit , Issuing Bank guarantees, Demand
Drafts
• Mail Transfers, Telegraphic Transfers, Collection
of instruments
• Executor Trustee services, Dealing in Forex
related transactions
• Offering Safe Deposit Locker facilities,
accepting Safe custody articles and so on
• Offer other services like
• ATM, Debit, Credit and other plastic cards
• Accepting Electricity, Telephone bills , and
extending services on behalf of the Service
providers
• Bancassurance, cross selling of various financial
products and so on
• While the bank is making a person as their
customer due care has to be shown taking into
consideration the latest provisions of KYC norms
• A banker should be able to justify beyond doubt
that his customer has become his customer after
following all the procedures, norms and he has
acted as a prudent banker.
**. Reserve Bank of India act was introduced in
1934 and since then amended from time to time
to include the latest requirements.
• A provision was inserted by the Information
Technology Act,2000 to enable RBI to make
regulations for regulating payment systems of
banks and financial institutions
• RBI as regulator of banking sector is mainly by
virtue of the provisions of the Banking Regulation
Act
• RBI inspects banks and exercise supervisory
powers and may issue directions in public
interest
• RBI also collects credit information and make
available the same
• RBI also imposes penalties wherever applicable
**The Banking Regulation Act authorizes the
RBI to cancel the license granted to any banking
company. The cancellation may be
on account of
a.. The company ceases to carry on banking
business in India
b.. The company at any time fails to comply with
any of the conditions imposed or the company
does not fulfill at anytime any of the conditions
referred in the act.
• ** “Payment in due course” means payment
in accordance with the apparent tenor of the
instrument in good faith and without
negligence to any person in possession
thereof under circumstances which does not
afford a reasonable ground for believing that
he is not entitled to receive payment of the
amount therein mentioned.
• ** A paying banker should not act in a casual
manner. To get appropriate protection under
the provisions of NI Act,1881, he should act
in good faith. He should not have any doubt
that the payment is being made to the
incorrect person. He should act without
negligence.
**A Collecting banker should act in good faith.
He should collect cheques only for his customer
Cheques should have been crossed (Generally
or specially)
Without negligence he should act.
**The banker to understand his customer properly
and the collecting banker should not act in a haste
or in a causal manner.
The proper identification and opening of account
with due care assumes lot of importance.
A collecting banker cannot avoid his
responsibility, even at a later date, when it is
proved that the account opened was not
properly opened.
** There is no bar as such to collect a third party
cheque.
However, an account payee crossed cheque,
the collecting banker is not to collect for a third
party.
He has to make necessary enquiries before any
third party cheques are collected on behalf of its
customer.
• A collecting Banker
o either collects a cheque as an agent (when
he collects & credits customers accounts)
o or as a holder for value or holder in due
course (when he purchases the cheque
from the customer & makes payment
before realization)
• Collection of cheques takes place through
current account & savings account (if cheque
book facility is provided to SB a/c)
• Collection of cheques is a service rendered
by banker for which he charges nominal
commission (only for outstation cheques &
need not for cheques collected locally)
• After receiving cheques, banker has to entry
in the book meant for recording the cheques
sent for collection
• Then he sends the local cheques to clearing
house for collection & outstation cheques
through post to the respective nearest banks.
• Cheques sent may be honoured or
dishonoured
• If honoured realised amount is credited to the
customers’ account.
• If dishonoured then required information is
sent to customers.
• Collecting Banker regarding collection of
cheques holds two positions :-
• Holder for value
• Customers agent for collection
• Sometimes as a matter of good gesture,
goodwill – the banker pays the value of
cheque to the customer even before it is
collected.
• In case of open cheques, he acts as though
he is a customer himself & collects the value
of cheque from the paying banker.
• So he will be collecting the cheques for
himself as he will have already paid the value
to the customer.
• This position is Holder for value.
• Even when value of crossed cheque are paid
to the customers before collection this may
be just one service.
• However he purchases the cheque for a
discounted value & so it called as discounting
of cheque.
• The banker is legal processor of the
instrument for value.
• To constitute value, there must be, in such a
case a contract between the banker &
customer that the bank will, before receipt for
the proceeds, honor cheques of the customer
drawn against the cheques.
• When he pays the value of cheque presented
for collection, even before it is presented
• Where customer pays in a cheque & the
banker expressly or impliedly permits him to
draw against it before it is collected
• When the cheque meant for collection is
obtained in exchange for cash
• When cheque to be collected is received from
the customer to appropriate the proceeds
towards the loan of the customer
• When he advances money against the
cheque meant for collection
• When banker exercises lien on the proceeds
of the cheque to be collected

While acting as holder for value enjoys

certain rights & responsibilities.
• Proceeds of collection will be retained by the
banker as he has already paid the value to
the customer
• He has right to recover the value of cheque
sent for collection, when it is dishonoured
from the drawer as well as the endorsers, if
any.
• If any cheque collected bears a forged
endorsement, the CB has the right to recover
the amount from the concerning person or
any endorses subsequent to the forgery.
• The person who has presented the cheque
for collection had obtained the cheque in
good faith without knowing the defective title
in it, & in turn the collecting banker finds that
the cheque has a defective title.
• If a cheque sent for collection bears a forged
endorsement & if the collecting banker
collects the cheque for himself, he is liable to
the real owner of the cheque
• If the cheque presented for collection
possesses a defective title or having no title
at all & if it is crossed or un-crossed the CB is
liable to the real owner of the instrument
• Obtain a consent letter from the person
presenting the cheque that he will reimburse
the amount to the CB in case of dishonor.
• A letter should be obtained when a cheque
with defective title has been presented for
collection – from presenter
• Should be presented in a reasonable time –
delayed presentation shoots problems
• In event of dishonor CB will sent notice of
dishonor to all endorsers & drawer for
necessary action to be taken
• In this case the CB does not pay the value of
cheques to the holder of the cheque on
presentation to collect the value.
• He neither discounts nor purchases the
cheque.
• He simply acts as an agent by obtaining the
cheque & sends it for collection to the
concerned branch.
• He credits the a/c of the customer only when
the value is collected or sends a notice of
dishonor, if it is dishonored.
• While collecting a cheque for customer,
banker cannot assert any right of a holder for
value.
• He will not have any better title than that of
his customer.
• He will not enjoy any right of his own.
• Whatever good or defective title his customer
carries, the same title he possesses as he
acts as His agent.
• He should execute the collection work –
Honestly & without negligence. If any loss is
caused due to negligence, such loss should
be borne by CB.
• When CB collects a cheque for his customer
having defective title & forged endorsements,
he is liable to the true owner of the cheque.
• He is not liable to pay when he gets a
statutory protection.
• When any outstation cheque for collection is
received by a CB, he may not have his own
branch in the place where the paying banker
is. In this case the CB can appoint some
other branch to collect the cheque.

• What will be type of liability the CB should

discharge, if there is any lapse on the agent
appointed for the purpose of collection?
• Type of liability the CB should discharge, if
there is any lapse on the agent - lies on the
type of agnet appointed for the purpose of
collection? If he is -
• Sub-agent - if this then CB will have to bear
liability for lapses of sub-agent
• Substituted agent – if this then CB need not
discharge any liability caused by the
substituted bank.
Doctrine of conversion –
• conversion is an un-authorized interference
with another person’s property inconsistent
with the owner’s right of possession.
• Any person who however, innocently obtains
possession of the goods of a person who has
been fraudulently deprived of them &
disposes of them whether for his own benefit
or that of some other person is guilty of
conversion.
• It is applicable to all tangible goods – like NI’s
• When a CB collects the cheques of
customers which have defective titles
• The true owner may sue the banker & collect
the money already collected by the banker &
paid to the person who presented the cheque
for collection.
• Banker has to present the cheque for collection
within a reasonable time. If banker is in same
town, it should be presented for clearing on the
same day it is presented before clearing hours &
on next day if presented after clearing hours.
• In case of outstation cheques, he should
send it to his agent on the same day on which
the cheque was received for collection.
• Otherwise he runs the risk of paying
damages for delay in acting.
• The CB should follow normal channel of
collection to avoid delay in collection.
• If he delays the collection then he will have to
compensate the customer just in case the
customer draws a cheque against the cheque
sent for collection.
• If any instruction is given regarding the
appropriation of collection proceeds, the CB
should follow. Otherwise, risk of non-
compliance of request of customer will be
accounted for.
• In case of dishonor the CB should inform /
sent notice of dishonor to the concerned
customer.
• The CB should always accept cheque for
collection which are genuine & are only for
genuine customers.
• The customers who open account for sake of
getting the cheque collected, the CB should get
proper introduction from his account holder of
integrity.
• The genuinity of the title of instrument should be
tested before accepting the cheque for collection.
• He must also ascertain whether all endorsements
on the cheque are valid.
• If cheque presented for collection belongs to any
firm/trust/body corporate & presented thru’ personal
a/c of the partner, trustee/ director; then CB should
closely examine the issue & credit the proceeds to
the private a/c only after satisfying himself with the
genuinity of such credit.
• The CB should not collect a cheque under suspicious
circumstances.
• The CB while receiving the cheque for
collection should see that only the crossed
cheque is given for collection.
• If uncrossed is presented, he must get it
crossed by the customer before it is sent
for collection. The CB does not get any
statutory protection for open cheques.
• NI Act 1881, provides some protection. Sec
131 & 131A of the Act deals with the
protection given to the CB.
• Sec 131 lays down that ‘a banker who has in
good faith & without negligence, received
payment for a customer, of a cheque crossed
generally or specially to himself, shall not in
case the title to the previous cheque proves
defective, incur liability to the true owner of
the cheque by reason only of having received
such payment’.
• The cheque must be crossed before it is
presented for payment by the customer who
presents it for collection
• An open cheque cannot be collected or when
sent for collection after crossing by the
collecting banker, he will not get statutory
protection opening the account.
• It is the duty of the banker to ascertain the name of
husband & his employer when the banker has to open
an a/c in the name of a married woman. It amounts to
negligence when he opens the a/c without ascertaining
the details of her husband.
• Not verifying the name & his position of a
stranger, who is given as reference to open
an account.
• Not verifying regularity of endorsements on
an order cheque or draft collected by the
banker.
• Wrong credit of customer’s private account of
the proceeds of a cheque which should have
been credited to the a/c in an official capacity
of the customer.
• Collecting the A/C payee crossed cheque to a
party other than the payee named in the
cheque.
• When a customer presents a cheque for
collection which may lead to suspicion & if the
enquiry is not made in such circumstances.
• Not verifying the existence of authority

If CB avoids all these circumstances he will be

given protection u/s 131 of NI Act.
• Sec 131 A of NI Act, also gives protection to
the collecting banker as regards the draft
collected by him having forged endorsement
or the draft having defective title or no title at
all.
• However, all conditions laid down in Sec 131
should be satisfied.
• As bills of exchange are NOT CROSSED so
provisions of Sec 131 & 131A do not apply to
them.
• The CB has no obligation to collect the bills
on behalf of customers. However, as matter
of routine service the bills are also collected.
• but the proceeds should be remitted to the
true owner or else he will not get statutory
protection
• Even if bills having defective title or no title are
collected the CB is liable to the true owner.
• He must make sure that the bill presented for
collection has genuine title & is free of defects.
• Only bills of trusted customers must be
collected
• The bill on realization should be credited to
the customers a/c & be informed accordingly
to the customer.
• The bill should be presented for collection
within a reasonable time, after the lapse of
the stipulated time in the bill either to the
acceptor or to the drawee.
• If bill is dishonored on due date- Customer
should be informed through a notice of
dishonor within reasonable time.
• Sometimes cheques are drawn on banker
himself by one customer for another
customer.
• Here banker will act as both paying banker &
collecting banker
• He will get protection under both capacities, if
he satisfies the conditions relating to both the
provisions.
• But it is easier to get protection as paying
banker than as a collecting banker.
** A contract of indemnity has two parties.
.. The indemnifier has to make good the loss as
soon as it occurs.
.. There are only two parties to a contract of
indemnity and hence only one contract.
.. An indemnity is for the reimbursement of loss
**Issuing of Bank guarantees is one of the
functions of a banker.
It is a Non fund based finance extended
The bank to secure the bank guarantee in
addition to necessary securities will have to
obtain a Counter guarantee or Counter
indemnity to safe guard their interest
**Bank guarantee is the commitment given by
the issuing bank (Guarantor) to the beneficiary.
If the claim is made by the beneficiary within the
guarantee period and as per the terms and
conditions of the bank guarantee, then the bank
should make the payment without fail and also
without any delay.