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Secured Loan Definition
What are secured loans?
When loans are granted against the security which are either purchased with the help of loan amount or which are used for obtaining additional funds, they are called secured loans. The security forms the major component in deciding the loan.
Forms of secured loans
Banker will give secured loan in different forms. For an account holder, the banker will give secured loan as either
- overdraft or
- cash credit.
For overdraft, the account holder must have a current account and the borrower is given loan over and above his credit balance. In overdraft, the borrower has an advantage of getting lower interest for his loan. The interest rate is charged on the basis of the debit balance and according to the number of days the debit balance is prevailing in the account. Hence, the borrower under the overdraft facility will get cheap credit compared to others. But this loan is available only to selected customers.
Cash credit is different from overdraft. The borrower is given a stipulated sum for a stipulated period and it can be utilized by the borrower in any manner.
Example for cash credit:
If Rs. 10 lakhs is given under cash credit from January to December, the borrower can utilize Rs. 2 lakhs in March, Rs. 2 lakhs in June and the remaining balance of Rs. 6 lakhs in November. The interest rate for this loan will be as given below:
- The first Rs. 2 lakhs borrowed in March will be charged for 9 months
- the loan taken in June will have interest for 6 months and
- the last loan taken in November will carry interest for two months.
Thus, the cash credit facility gives enough choice for the borrower to draw the money according to his requirements, at the same time, he has to pay lesser interest only. But if the borrower utilities only part of the amount allocated, say, Rs. 4 lakhs against Rs. 10 lakhs allocated, the borrower will have to pay ‘commitment charge’ for the remaining unutilised portion. This kind of loan is more beneficial to such borrowers who require funds on a seasonal basis.
Industries purchasing raw material from the market at a particular season when the price will be lower.
Other Types of Secured Loans
A banker may provide secured loans against securities in the following forms.
Pledge is applicable for movable goods and is governed by Contract Act. There is physical possession of security by the creditor, though ownership is still retained by the borrower. The banker exercises a lien on securities given to him and banker’s lien is an implied pledge.
A banker gives loan under pledge especially jewel loans.
When loans are granted against immovable properties, it is mortgage. Here, the borrower who is the owner of the property surrenders his right of sale to the creditor or the mortgagee for obtaining loan. When the borrower defaults, the mortgagee will sell the property for recovering the loan. In some defaults, the mortgagee will sell the property for recovering the loan. In some cases, the mortgagee himself may take over the property as a settlement for the loan.
This is applicable to movable goods. The borrower is given loan for the purchase of goods or vehicles. Though the borrower is the owner of the security, the creditor has a charge on the security until the loan is repaid. If the borrower fails to pay, the creditor will cease the goods from the borrower. Thus, hypothecation provides a right for the creditor to take possession of the goods.
When there is a transfer of an actionable claim by a person to his creditor as a security, it is assignment. For example, a borrower has an insurance policy which is to mature in a couple of months. He may borrow from a bank against the security of the insurance policy. The claim on the insurance policy is transferred by the borrower to the bank as a security for the loan. This is the transfer of an actionable claim. Similarly, book debts can be transferred to the banker for obtaining loan by a wholesaler.
Types of Assignments:
There are two types of assignment, namely,
- equitable assignment and
- legal assignment.
In equitable assignment, there is only a formal handing over of the policy by the borrower to the bank but in legal assignment, the borrower will be transferring the policy in a legal manner towards the banker. The insurance company will also acknowledge the transfer.