What is Cash Credit?
A Cash Credit (CC) is a short-term source of financing for a company. In other words, a cash credit is a short-term loan extended to a company by a bank. It enables a company to withdraw money from a bank account without keeping a credit balance. The account is limited to only borrowing up to the borrowing limit. Also, interest is charged on the amount borrowed and not the borrowing limit.
Important Features of Cash Credit
1. Borrowing limit
A cash credit comes with a borrowing limit determined by the creditworthiness of the borrower. A company can withdraw funds up to its established borrowing limit.
2. Interest on running balance
In contrast with other traditional debt financing methods such as loans, the interest charged is only on the running balance of the cash credit account and not on the total borrowing limit.
3. Minimum commitment charge
The short-term loan comes with a minimum charge for establishing the loan account regardless of whether the borrower utilizes the available credit. For example, banks typically include a clause that requires the borrower to pay a minimum amount of interest on a predetermined amount or the amount withdrawn, whichever is higher.
4. Collateral security
The credit is often secured using stocks, fixed assets, or property as collateral.
5. Credit period
Cash credit is typically given for a maximum period of 12 months, after which the drawing power is re-evaluated.
Difference between Cash Credit and Overdraft
|Interest rate is lower as compared to Overdraft||Interest rate is comparatively higher|
|Cash credit loan can be availed on hypothecation of stocks and inventory||Overdraft amount can be availed based on credit history, relationship with bank and investments like FDs, insurance policies, etc.|
|Cash Credit should be availed for business purposes, only||Overdraft can be used for any purpose, including business related requirements|
|Loan amount is based on the volume of stocks and inventory||Loan amount is based on financial statements and security deposited|
|Cash Credit does not reduce over time||There is a monthly reduction in case of Overdraft|
|To avail Cash Credit, new account needs to be opened||Overdraft facility is availed on existing account of the applicant (account holder)|
|Cash credit loan can be availed for minimum 1 year||Overdraft facility can be availed for shorter tenure like a month or quarter, maximum for 1 year|
|Cash credit loans can be availed by individuals, retailers, traders, manufacturers, distributors, companies, partnerships, sole proprietorship, LLPs, etc.||Overdraft facility can only be availed by account holders of the respective bank|
|Cash credit is sanctioned based on the business performance and market situation||Overdraft is sanctioned based on financial statements and credit history|