Instruments of CreditInstruments of Credit

Learning ObjectivesLearning Objectives

Why it is vital for a business to sale Why it is vital for a business to sale on credit?on credit?

To define on what basis instruments To define on what basis instruments are classified?are classified?

Importance of these instruments.Importance of these instruments. How to apply these instruments?How to apply these instruments? To understand the difference To understand the difference

between Inland and foreign billsbetween Inland and foreign bills

Classifications of

Instruments of Credit

Pay Roll Credit

Open Book Accounts

Documentary Credit

Promissory NotePromissory Note

Bills of Exchange

Cheques

Instruments of CreditInstruments of Credit

Pay roll CreditPay roll Credit Pay roll credit is also called Oral Agreement. Because in this credit a Borrower gets something from the Lender without any written contract. In case a Borrower refuses to pay then Lender cannot claim any obligation.

Instruments of CreditInstruments of Credit

Open Book AccountOpen Book Account This instrument is consist of entries. In this credit a debtor has entries as “Account Payable” and creditor has entries as “Account Receivable. It is the speedy way of carrying on the business transaction.

Instruments of CreditInstruments of Credit

DocumentaryDocumentary

Credit instrumentsCredit instruments

This instrument is consist of written agreement in which Creditor gives the specific time period to the Debtor to make payments in the future. It can be a Contract or to be a Promise.

Negotiable InstrumentNegotiable Instrument

““A negotiable instrument is a A negotiable instrument is a specialized type of contract specialized type of contract for the payment of money for the payment of money that is unconditional and that is unconditional and capable of transfer by capable of transfer by negotiation.”negotiation.”

Characteristics of Negotiable Characteristics of Negotiable InstrumentInstrument

Transferable by deliveryTransferable by delivery Entitled to receive moneyEntitled to receive money Filling a suitFilling a suit Transferee is not affected by defective titleTransferee is not affected by defective title

Negotiable InstrumentsNegotiable Instruments

Promissory Note

Bill Of

Exchange

Cheque

According to Section 4 of the Negotiable According to Section 4 of the Negotiable Instruments Act defines promissory-note as Instruments Act defines promissory-note as under: under:

““Promissory note is an instrument in writing( not Promissory note is an instrument in writing( not being a Bank Note or a Currency Note) containing being a Bank Note or a Currency Note) containing an unconditional undertaking signed by the an unconditional undertaking signed by the maker, to pay on demand or at a fixed or maker, to pay on demand or at a fixed or determinable future time, a certain sum of money determinable future time, a certain sum of money only, to, or to the order of a certain person, or to only, to, or to the order of a certain person, or to the bearer of the instrument.”the bearer of the instrument.”

Promissory Note

Essentials of Promissory NoteEssentials of Promissory Note

Unconditional Written OrderUnconditional Written Order Signed by THE MakerSigned by THE Maker Pay certain sum of MoneyPay certain sum of Money Payable to or to the order of a certain personPayable to or to the order of a certain person Made by two or more personsMade by two or more persons Amount promised Amount promised

Advantages of Promissory NoteAdvantages of Promissory Note

Witnesses of both the partiesWitnesses of both the parties Easy way to ensure Future PaymentEasy way to ensure Future Payment No chance of Fraud by the BorrowerNo chance of Fraud by the Borrower Simple and EasySimple and Easy

Rs. 50,000 Lahore

August 1, 2005

Sixty days after for value received, I promise to pay, Mr. A or order the sum of Rs. Fifty thousand only.

Mr. A 10 G. Gulberg, Mr. B Lahore Signature

Stamp

Promissory NotePromissory Note

According to Section 4 of the Negotiable According to Section 4 of the Negotiable Instruments Act defines Bill of Exchange Instruments Act defines Bill of Exchange as under: as under: ““An instrument in writing containing an An instrument in writing containing an unconditional order, signed by the maker, unconditional order, signed by the maker, directing a certain person to pay a certain directing a certain person to pay a certain sum of money only to or to the order of a sum of money only to or to the order of a certain person or to the bearer of the certain person or to the bearer of the instrument, on the demand or at a fixed instrument, on the demand or at a fixed future time.future time.

Parties of Bills of ExchangeParties of Bills of Exchange

Drawer:Drawer: The party who draws the bill is called “Drawer” The party who draws the bill is called “Drawer”

or the “Maker”.or the “Maker”. Drawee:Drawee: The party to whom the bill is addressed or on The party to whom the bill is addressed or on

whom the bill is drawn.whom the bill is drawn. Payee:Payee: The party to whom the bill is made payable. It The party to whom the bill is made payable. It

may be drawer or any other party.may be drawer or any other party.

Order:Order: The bill of exchange is an order for payment not a request The bill of exchange is an order for payment not a request

to debtor.to debtor.

In writing:In writing:

The order of payment for debtor is always in The order of payment for debtor is always in writing. writing.

Unconditional:Unconditional: The bill of exchange is an unconditional The bill of exchange is an unconditional

order for payment.order for payment.

Certain AmountCertain Amount

Specified Person (Drawee)Specified Person (Drawee)

AcceptanceAcceptance

Features of Bills of ExchangeFeatures of Bills of Exchange

Points Points Inland Bill Inland Bill Foreign BillForeign Bill

PartiesParties Both Parties (drawer & Both Parties (drawer & Drawee) belong to one or Drawee) belong to one or same countrysame country

The drawer and Drawee The drawer and Drawee do not belong to same do not belong to same countrycountry

Copies Copies Only one copy of inland Only one copy of inland bill is preparedbill is prepared

Three copies of foreign bill Three copies of foreign bill are prepared.are prepared.

Revenue stampRevenue stamp Revenue stamps are Revenue stamps are pasted once on inland billpasted once on inland bill

Revenue stamps are Revenue stamps are pasted twice on foreign pasted twice on foreign bill.bill.

Difference b/w Inland & Foreign BillDifference b/w Inland & Foreign Bill

PeriodPeriod The period of inland bill The period of inland bill is considered from its is considered from its issuance.issuance.

The period of foreign bill The period of foreign bill is considered from its is considered from its acceptanceacceptance

CurrencyCurrency The amount is written in The amount is written in local currency on inland local currency on inland bill.bill.

The amount on foreign The amount on foreign bill is written in the bill is written in the currency of drawee’s currency of drawee’s countrycountry

Difference b/w Inland & Foreign BillDifference b/w Inland & Foreign Bill

Advantages of Bills of Advantages of Bills of ExchangeExchange

Written Verification of debtWritten Verification of debt Negotiable InstrumentNegotiable Instrument Discounting facilityDiscounting facility Easy transfer of moneyEasy transfer of money Self Liquidating CreditSelf Liquidating Credit Facilitates foreign tradeFacilitates foreign trade

Rs. 40,000 Lahore

August 1, 2005

Two months after date pay to Mr. A or his order the sum of Rs. Fourty Thousand only, for value received.

To Mr. B 10 G. Gulberg, Mr. C Lahore Signature

Bills of ExchangeBills of Exchange

According to Section 4 of the Negotiable Instruments Act According to Section 4 of the Negotiable Instruments Act

defines promissory-note as under:defines promissory-note as under:

A cheque may be defined as a written order of a A cheque may be defined as a written order of a depositor upon a bank to pay to or to the order of a depositor upon a bank to pay to or to the order of a designated party or to bearer, a specified sum of designated party or to bearer, a specified sum of money on demand.money on demand.

Main Types of ChequeMain Types of Cheque

Cheque

Open Cheque Crossed Cheque

Bearer Cheque

Order Cheque

General Crossing

Special Crossing

Main Types of ChequeMain Types of Cheque

Open Cheque:Open Cheque: Open cheque are those cheque which are paid across the counter of Open cheque are those cheque which are paid across the counter of

the bank. Open cheque may be bearer or order cheque.the bank. Open cheque may be bearer or order cheque. Bearer ChequeBearer Cheque Order ChequeOrder Cheque

Crossed Cheque:Crossed Cheque: If a cheque is crossed by drawing two parallel lines across the If a cheque is crossed by drawing two parallel lines across the

face of the cheque, with or without the words & Co or A/c payee only, it is face of the cheque, with or without the words & Co or A/c payee only, it is called a crossed cheque.called a crossed cheque.

General ChequeGeneral Cheque Special ChequeSpecial Cheque

Importance of ChequeImportance of Cheque

Convenient and safe methodConvenient and safe method Transfer of funds from one place to anotherTransfer of funds from one place to another Safety to money deposited into bankSafety to money deposited into bank Purpose of receipt alsoPurpose of receipt also Saving of use of currencySaving of use of currency notesnotes

Promissory NotePromissory Note & & Bills of ExchangeBills of Exchange ContrastContrast

Promise to PayPromise to Pay Two parties involvedTwo parties involved Unconditional PromiseUnconditional Promise Not payable to the makerNot payable to the maker Needs no acceptanceNeeds no acceptance No notice in case of No notice in case of

dishonordishonor Not drawn in SetsNot drawn in Sets Liability of Maker is Liability of Maker is

PrimaryPrimary

Order to PayOrder to Pay Usually three parties Usually three parties Unconditional OrderUnconditional Order Payable to the drawerPayable to the drawer Acceptance is mustAcceptance is must Notice in case of dishonorNotice in case of dishonor Drawn in SetsDrawn in Sets Liability of the Drawer is Liability of the Drawer is

SecondarySecondary

Cheque & Bills of Exchange Cheque & Bills of Exchange ContrastContrast

Drawn on a bankDrawn on a bank Payable on demand Payable on demand Acceptance is not Acceptance is not

requiredrequired Immediately payable Immediately payable It can be crossed It can be crossed No need of dishonor No need of dishonor

noticenotice Payable on demand to Payable on demand to

bearerbearer Stoppable by the Stoppable by the

drawerdrawer No stamp requirementNo stamp requirement

Drawn on some person or Drawn on some person or firmfirm

Payable till the expiry of a Payable till the expiry of a fixed periodfixed period

Acceptance is necessaryAcceptance is necessary Three days of grace are Three days of grace are

allowed for paymentallowed for payment No crossing of billNo crossing of bill Dishonor notice is Dishonor notice is

necessarynecessary Unable to stop by the Unable to stop by the

drawerdrawer Noted and protested to Noted and protested to

establish dishonor establish dishonor Properly stampedProperly stamped

Main Modes of Inland Remittances by Main Modes of Inland Remittances by Commercial BanksCommercial Banks

Bank Draft Bank Draft Pay orderPay order Telegraphic TransferTelegraphic Transfer Mail TransferMail Transfer Inland Travelers ChequeInland Travelers Cheque Credit CardsCredit Cards