Kasturi College, Itahari BBA V - Banking & Insurance

Unit-I
Banking Principles and Practices

Introduction to Banking

What is a Bank? Introduction

Banking: Meaning and definition Finance is the life blood of trade, commerce and industry. Now-a-days,
banking sector acts as the backbone of modern business. Development of any country mainly depends
upon the banking system. A bank is a financial institution which deals with deposits and advances and
other related services. It receives money from those who want to save in the form of deposits and it lends
money to those who need it. It deals with deposits and advances and other related services like lending
money to grow the economy. Banks act as bridge between the people who save and people who want to
borrow i.e., It receives money from those people who want to save as deposits and it lends money to
those who want to borrow it. The money you deposited in bank will not be idle. It will grow by means of
interest to your bank account they will earn interest in return for lending out the same money to
borrowers. This would ensure smooth money flow to develop our economy.
The term bank is either derived from old Italian word banca or from a French word banque both mean a
Bench or money exchange table. In olden days, European money lenders or money changers used to
display (show) coins of different countries in big heaps (quantity) on benches or tables for the purpose of
lending or exchanging.

Chamber’s Twentieth century

Dictionary defines a bank as, “an
institution for the keeping, lending and
exchanging etc. of money”.
According to Banking Regulation Act,
“Banking means the accepting for the
purpose of lending or investment of
deposits of money from the public,
repayable on demand or otherwise and
withdrawable by cheque, draft, and an
order or otherwise”.
Oxford Dictionary defines a bank as "an
establishment for custody of money,
which it pays out on customer's order."
Prof. Kentdefines a bank as, “an organization whose principal operations are concerned with the
accumulation of the temporarily idle money of the general public for the purpose of advancing to others
for expenditure”.
Characteristics / Features/Nature of a Bank
1. Dealing in Money: Bank is a financial institution which deals with other people's money i.e.
money given by depositors.
2. Individual / Firm / Company: A bank may be a person, firm or a company. A banking company
means a company which is in the business of banking.
3. Acceptance of Deposit: A bank accepts money from the people in the form of deposits which are
usually repayable on demand or after the expiry of a fixed period. It gives safety to the deposits of
its customers. It also acts as a custodian of funds of its customers.
4. Giving Advances: A bank lends out money in the form of loans to those who require it for
different purposes.
5. Payment and Withdrawal: A bank provides easy payment and withdrawal facility to its
customers in the form of cheques and drafts, It also brings bank money in circulation. This money
is in the form of cheques, drafts, etc.
6. Agency and Utility Services: A bank provides various banking facilities to its customers. They
include general utility services and agency services.

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7. Profit and Service Orientation: A bank is a profit seeking institution having service oriented
approach.
8. Ever increasing Functions: Banking is an evolutionary concept. There is continuous expansion
and diversification as regards the functions, services and activities of a bank.
9. Connecting Link: A bank acts as a connecting link between borrowers and lenders of money.
Banks collect money from those who have surplus money and give the same to those who are in
need of money.
10. Banking Business: A bank's main activity should be to do business of banking which should not
be subsidiary to any other business.
11. Name Identity: A bank should always add the word "bank" to its name to enable people to know
that it is a bank and that it is dealing in money.

Purpose and Need of Banking:

Banks are contributed to a country's economic development through providing various banking facilities.
Basically, the need and purpose of banking are as following reasons:
A proper financial sector is of special importance for the economic growth of developing and
underdeveloped countries. The commercial banking sector which forms one of the backbones of the
financial sector should be well organized and efficient for the growth dynamics of a growing economy.
No underdeveloped country can progress without first setting up a sound system of commercial banking.
The importance of a sound system of banking for a developing country may be depicted as follows:
1. Capital Formation: The rate of saving is generally low in an underdeveloped economy due to the
existence of deep -rooted poverty among the people. Even the potential savings of the country
cannot be realized due to lack of adequate banking facilities in the country. To mobilize dormant
savings and to make them available to the entrepreneurs for productive purposes, the development
of a sound system of commercial banking is essential for a developing economy.
2. Monetization of Economy: An underdeveloped economy is characterized by the existence of a
large non monetized sector, particularly, in the backward and inaccessible areas of the country.
The existence of this non monetized sector is a hindrance in the economic development of the
country. The banks, by opening branches in rural and backward areas, can promote the process of
monetization in the economy.
3. Encouragement to Entrepreneurial Innovations: Innovations are an essential prerequisite for
economic progress. These innovations are mostly financed by bank credit in the developed
countries. But the entrepreneurs in underdeveloped countries cannot bring about these innovations
for lack of bank credit in an adequate measure. The banks should, therefore, pay special attention
to the financing of business innovations by providing adequate and cheap credit to entrepreneurs.
4. Finance for Priority Sectors: The commercial banks in underdeveloped countries generally
hesitate in extending financial accommodation to such sectors as agriculture and small scale
industries, on account of the risks involved there in. They mostly extend credit to trade and
commerce where the risk involved is fearless. But for the development of these countries it is
essential that the banks take risk in extending credit facilities to the priority sectors, such as
agriculture and small scale industries.
5. Provision for Medium and Long-term Finance The commercial banks in under developed
countries invariably give loans and advances for a short period of time. They generally hesitate to
extend medium and long term loans to businessmen. As is well known, the new business need
medium and long term loans for their proper establishment. The commercial banks should,
therefore, change their policies in favour of granting medium and long term accommodation to
business and industry.
6. Implementation of Monetary Policy: The central bank issues monetary policy to control the
expansion and contraction of money in the country. The banks are implement the monetary policy
issued by central bank.
7. Regional development: The need of the banking are balance and regional development of the
territory/region in the country are promoted.

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8. Development of Agriculture and Other Neglected Sector: Banks are playing significant role to
develop the agro based business like farming, bee-keeping, silk culture, horticulture, etc. in the
economy. They provide fund to promoter agriculture and other neglected sector.
9. Economic Development: To develop the economy in the country, financial institutions provide
funding to the lower level. The central bank govern and monitoring to commercial bank and other
financial institutions. Banks are the means of transfer funds from savers (surplus) to users.
10. Economic Growth: Economic growth is one of the major indicators of development. It can be
affected by number of factors including social, economical and political. While social factor
include social values and norms. Economic factors include the availability of resources and their
state of utilization and political factors include political stability, desire to grow and commitment
from the national level.
11. Employment Creation: Banking sectors provides employment opportunities to the nation. Banks
are the sources of job.
12. Financial Stability: Banks follow the rules and regulations of government, central banks and
other national and international financial institutions to maintain the financial stability.
13. Resources Utilization: Banks support financially to use unused resources to the nation in
productive way. It provides seeds capital to the economy.
14. Raising Standard of Living: Banks provides job and support to use resources effectively in the
economy. It assists the entrepreneur, businessman and others who want to do some economic
activities creatively. It promotes self-dependency.
15. To meet national objectives: Banking are important to meet the national plan objectives
predetermine by the planning commission. They support to meet the target of government in the
issue of economic activities i.e, reduced poverty, employment creation, higher economic growth
rate, etc.
14. Custody of money: Banks act as custodian of money. It collects the deposits from customer and
keep the money safely.
15. Lockers on rent for valuable documents and precious articles:Banks provide locker
facility.The customer can use the facility of locker to keep their valuable documents like files and
precious articles like painting after paying certain charge.
16. Bank provides LC (Letter of credit),bank guarantee which contribute in boosting international
trade to a great extent.

Functions of Commercial Banks

A bank is a financial institution engaged in banking business. A bank is a financial intermediary. It deals
in money and credit. It deals with other people's money. It collects the savings of some people and gives
the money to those who are in need of it. Thus a bank is a reservoir of money. It is a manufacturer of
money. It manufactures credit and sells it. That is why a bank is called as a "factory of credit".
Commercial banks are profit making organizations that accept deposits and use these funds to make
loans. They are playing the most important role in modern economic organization. It performs an
important economic organization. They perform an important economic function by mobilizing the
savings of the community and channelize the savings to productive purposes. “The tiny streams of capital
flowing into the bank vaults become rives and these in turn fall into ocean of National Finance to drive
the wheels of industry and to float the vessels of commerce.”

Functions of Commercial Banks

Commercial banks perform a variety of functions. All functions of commercial banks may be broadly
classified into two-primary functions and secondary functions.
Primary Functions
Primary functions consist of accepting deposits, lending money and investment of funds.

1.Accepting deposits: Bank receives idle savings of people in the form of deposits. It borrows money in
the form of deposits.
These deposits may be of any of the following types:

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(a) Current or demand deposit: In the case of current deposits money can be deposited and
withdrawn at any time. Money can be withdrawn only by means of cheques. Usually a bank does
not allow any interest on this kind of deposit because, bank cannot utilize these short term
deposits. This type of deposits is generally opened by business people for their convenience.
Current account holders should keep a minimum balance of Rs. 2000, to keep the account
running.
(b)Fixed or time deposits: These deposits are made for a fixed period. These can be withdrawn
only after the expiry of the fixed period for which the deposits have been made. The bank gives
higher rate of interest on this deposit. The rate of interest depends upon the duration of deposit.
The longer the period the higher will be the rate of interest. For the evidence of the deposit, the
banker issues a ‘Fixed Deposit Receipt’.
(c) Savings Deposits: As the name suggests, this deposit is meant for promotion of savings and
thrift among the people. In the case of savings deposits there are certain restrictions on the number
of withdrawals or on the amount that can be withdrawn per week. A minimum balance of Rs. 100
should be maintained and if cheque book facility is allowed, the minimum balance should be Rs.
1000. On the savings deposit, the rate of interest is less than that on the fixed deposit.
(d) Recurring deposits: This is one form of savings deposit. In this type of deposit, at the end of
every week or month, a fixed amount is deposited regularly. The amount can be withdrawn only
after the expiry of the specified period. This deposit works on the maxim ‘little drops of water
make a big ocean’. It may be opened for monthly installments in sums of Rs. 100 or in multiples
of Rs. 100 with a maximum of Rs. 1000.

2. Lending Money: Lending constitutes the second function f a commercial bank. Out of the deposits
received, a bank lends money to the traders and businessmen. Money is lent usually for short periods
only.
A commercial bank lends in any one of the following ways:
(a)Loans: In case of loan, the banker advances a lump sum for a certain period at an agreed rate
of interest. The amount granted as loan is first credited in the borrower’s account. He can
withdraw this amount at any time. The interest is charged for the full amount sanctioned whether
he withdraws the money from this account or not. Loan is granted with or without security.
(b)Cash credit: Cash credit is an arrangement by which the customer is allowed to borrow
money up to a certain limit. The customer can withdraw the amount as and when required.
Interest is charged only for the amount withdrawn and not for the whole amount as in the case of
loan.
(c)Overdraft: overdraft is an arrangement between a banker and his customer by which the
customer is allowed to withdraw over and above the credit balance in the current account up to an
agreed limit. The interest is charged only for the amount sanctioned. This is a temporary financial
assistance. It is given either on personal security or on the security of assets.
(d)Discounting of bills: Bank grants advances to their customers by discounting bills of exchange
or promote. In other words, money is lent on the security of bill of exchange or promote. The
amount after deducting the interest (discount) from the amount of the bill is credited in the
account of the customer. Thus in this form of lending, the interest is received by the banker in
advance. Bank, sometimes, purchases the bills instead of discounting them.
3. Investment of funds: Another function is investing the funds in some securities. While making
investment a bank is required to observe three principles, namely liquidity, profitability and safety. A
bank invests its funds in government securities issued by central government as well as state
government. It also invests in other approved securities like the units of UTI, shares of GIC and LIC,
securities of State Electricity Board etc.
4. Credit Creation:-It is a unique function of Commercial Banks. When a bank advances loan to its
customer if doesn’t lend cash but opens an account in the borrowers name and credits the amount of
loan to that account. Thus, whenever a bank grants loan, it creates an equal amount of bank deposits.
Creation of deposits is called Credit Creation. In simple words we can define Credit creation as
multiple expansions of deposits. Creation of such deposits will results an increase in the stock
deposits. Creation of such deposits will results an increase in the stock of money in an economy.

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Secondary Functions
Secondary functions include agency services and general utility services Agency Services: Modern
commercial banks render a number of services to its customers. It acts as an agent to its customers.
The following are the important agency services rendered by a commercial bank:
1. It collects the cheques. bills and pronotes for and on behalf of its customers
2. It collects certain incomes like dividend on shares, interest on securities etc., on behalf of its
customers.
3. It undertakes to purchase or sell securities for its customers.
4. It accepts bill of exchange on behalf of its customers.
5. It acts as a referee by supplying information regarding the financial position of its customers when
inquiries made by other business people and vice versa. It supplies this information confidently.
6. It acts as an executor, administrator and trustee.

General Utility Services: General utility services are rendered not only to its costumers but also to the
general public. The following are the important general utility services rendered by a commercial bank.
1. It facilitates easy and quick transfer of funds from one place to another place by means of cheques,
drafts, MT, TT etc.
2. It issues letter of credit, traveler’s cheques, gift cheques etc.
3. It deals with foreign exchange transactions thereby helping the importers and exporters.
4. It undertakes the safe custody of valuables. For this purpose safe deposit vaults are maintained. Vault
is a strong room for keeping the valuables safe.
5. Bank makes arrangements for transport, insurance and warehousing of goods.
6. It underwrites the shares and debentures of the newly promoted joint stock companies.
7. Some commercial banks undertake merchant banking business equipment leasing business.
8. It provides tax consultancy services. It gives advice on income tax and other personal taxes. It
prepares customers annual statement, files appeals etc.,
9. It provides consultancy services on technical, financial, and managerial and economic aspects for the
benefit of micro and small enterprises.

Modern Functions of a Commercial Bank

1. Changing cash for bank deposits and bank deposits for cash.
2. Transferring bank deposits between individuals and/or companies.
3. Exchanging deposits for bills of exchange, government bonds, secured and unsecured promises of
trade and industrial units.
4. Underwriting capital issues.
5. Providing 24 hours facility of payments through ATMs.
6. It issues credit cards, smart cards etc.

Types of Banks
1. Central Bank
A central bank functions as the apex controlling institution in the banking and financial system of the
country. It functions as the controller of credit, banker’s bank and also enjoys the monopoly of issuing
currency on behalf of the government. A central bank is usually control and quite often owned, by the
government of a country. The Nepal Rastra Bank (NRB) is such a bank within Nepal.

2. Commercial Banks
It operates for profit. It accepts deposits from the general public and extends loans to the households, the
firms and the government. The essential characteristics of commercial banking are as follows:
- Acceptance of deposits from public
- For the purpose of lending or investment
- Repayable on demand or lending or investment.
- Withdrawal by means of an instrument, whether a cheque or otherwise.

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Another distinguish feature of commercial bank is that a large part of their deposits are demand deposits
withdrawable and transferable by cheque.

3. Development Banks
It is considered as a hybrid institution which combines in itself the functions of a finance corporation and
a development corporation. They also act as a catalytic agent in promoting balanced and viable
development by assuming promotional role of discovering project ideas, undertaking feasibility studies
and also provide technical, financial and managerial assistance for the implementation of project.
In Nepal ‘Nepal Industrial Development Corporation’ (NIDC) and other development banks are the
example of development bank. It has been designated as the principal institution of the country for
coordinating the working of the institutions engaged in financing, promoting or development of industry.

4. Co-operative Banks
The main business of co-operative banks is to provide finance to agriculture. They aim at developing a
system of credit. Agriculture finance is a special field. The co-operative banks play a useful role in
providing cheap exit facilities to the farmers. There are three wings of co-operative credit system namely
(i) Short term, (ii) Medium-term, (iii) Long term credit.

Co-operative Banks (i) Primary credit societies (ii) Central Co-operative Banks (iii) State Co-operative
Banks
Co-operative banks at the state level. At the intermediate level (district level) these are central co-
operative banks, which are generally established for each district.
At the base of the pyramid there are primary agricultural societies at the village level. The long term exit
is provided by the central land development Bank established at the state level. Initially, these banks used
to advance loans on mortgage of land for the purpose of securing repayment of loans.

5. Specialised Banks
These banks are established and controlled under the special act of parliament. These banks have got the
special status. This bank is established for providing loan facilities, discounting and rediscounting of
bills, direct assistance and leasing facility for specialized purpose like Hydropower, Reconstruction etc.

6. Indigenous Bankers
That unorganised unit which provides productive, unproductive, long term, medium term and short term
loan at the higher interest rate are known as indigenous bankers. These banks can be found everywhere
in cities, towns, mandis and villages.

7. Rural Banking
A set of financial institution engaged in financing of rural sector is termed as ‘Rural Banking’. The
polices of financing of these banks have been designed in such a way so that these institution can play
catalyst role in the process of rural development.

8. Saving Banks
These banks perform the useful services of collecting small savings commercial banks also run “saving
bank” to mobilise the savings of men of small means. Different countries have different types of savings
bank viz. Mutual savings bank, Post office saving, commercial saving banks etc.

9. Export - Import Bank

These banks have been established for the purpose of financing foreign trade. They concentrate their
working on medium and long-term financing. The Export-Import Bank of India (EXIM Bank) was
established on January 1, 1982 as a statutory corporation wholly owned by the central government.

10. Foreign Exchange Banks

These banks finance mostly to the foreign trade of a country. Their main function is to discount, accept
and collect foreign bulls of exchange. They also buy and self-foreign currencies and help businessmen to

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convert their money into any foreign currency they need. Over a dozen foreign exchange banks branches
are working in India have their head offices in foreign countries.

11. International Banks

An international bank is a financial entity that offers financial services, such as payment accounts and
lending opportunities, to foreign clients. These foreign clients can be individuals and companies, though
every international bank has its own policies outlining with whom they do business.

12. Merchant Banking

A Merchant Bank could be best defined as a financial institution conducting money market activities and
lending, underwriting and financial advice, and investment services whose organization is characterized
by a high proportion of professional staff able to able to approach problems in an innovative manner and
to make and implement decisions rapidly.

Banking System and Structure in Nepal

Banks are institution which collect deposits,

provide loans, issue credit and handle various
kinds of transaction in money and monetary
instrument.

In Nepal bank is started in 1937 by Nepal

bank limited which is the oldest bank in
Nepal. From this the people of the country are
started to save the money in bank and various
kinds of payment and received are made
through the bank and which help to keep their
money safe. Banks are provided interest on the deposit amount. They are providing loan facility which
help people to start their business. In our country Nepal all the banks are generated with the Central
Bank. There are 298 banks in Nepal other are financial institution. There are different types of bank in
Nepal and the some rule of the bank in Nepal is as:

A) Central Bank:
Central banks are the head of the every bank there is one central bank in every country. Central bank is
the guardian of the entire banking system. All other banks are required to follow the instruction of central
bank. It holds foreign exchange, issue note and control credit creation.
Functions of Central Bank:
 Banker to the Government
 Bankers to banks
 Note issue
 Custodian of foreign exchange and precious metals
B) Commercial Bank:
The institution which collect deposit, issue short term loan provide necessary facilities for trade and
payments and various kinds of commercial services are called commercial banks.

Functions of Commercial Bank:

The excess of income over consumption is called saving. Such saving amounts are deposited in
commercial banks. Payments for goods and services are drawn by cheques. Commercial banks pay
interest on such deposits. In context of Nepal there are three kinds of deposits are mainly followed they
are:
Current deposit

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Depositers can draw such deposit at any time partly or wholly. Banks are not paid interest for these
deposits.
Saving deposit
Depositers cannot draw saving deposit they need. Only limited amount can be drawn at a time. It earns
interest.

Fixed deposit
Amounts deposited for a fixed time is called fixed deposit. It is not promisible to draw any amount before
fixed period expires. It earns higher interest it is because commercial banks can invest such deposits to
earn profit.

Commercial banks are providing loans on interest. They are providing education, housing, vehicle,
industry, business and other many more loan facility are providing to the Nepalese people which help to
promote the life of illiterate people from destroy their assets.

C) Development Bank
Development banks are the specialized financial institutions that are sit up to provide loans for
developmental purpose in the various sectors like agriculture, industry, service etc. The development
banks also perform almost the same functions as commercial banks but they mainly focus on
developmental activities. According to the data of 2015 there are 72 development banks but they are
going to merge.

D) Finance Company
Finance companies are those financial institutions particularly engaged in small and short term consumer
financing. The finance companies can accept deposits and extend short-term consumer loans with limited
amount specified by central bank directives. The finance companies are small in size of capital and assets
so that they can be established in regional (sub-regional level) where other banking institutions are not
available.

The banks in Nepal are categorized in the system of Nepal Rastra Bank(NRB) they are mainly in three
methods they are KA, KHA, GHA, 'ka' means the bank, 'kha' means the development bank and 'gha'
means the finance company which are established with the authorization of Nepal Rastra Bank(NRB).
Definition of Financial System
There are many descriptions of the financial system. Despite these variations, there is a consensus on its
basic function: to efficiently and effectively allocate resources. In this regard, there are three main actors:
(1) Banks and financial institutions;
(2) Insurance companies; and
(3) Capital markets. These three actors are not independent but are interdependent and given the present
innovation of technology, the separating lines, at times, are blurred.1 For this paper, the domestic
financial sector takes a narrow focus that is confined within the perspective of the Nepal Rastra Bank,
given its longer history and the availability of data compared to others.

History of Domestic Financial Sector Development

The Nepalese financial system development has a very recent history, starting just from the early
twentieth century. The full period, from initiation to the present, can be broken down into three distinct
phases. The shifts in these phases are determined by different milestones: the first milestone is the
establishment of the Nepal Rastra Bank (NRB), the Central Bank of Nepal, in 1956 - this determines the
shift from the first to the second phase; similarly the second milestone is the promulgation of the current
NRB Act 2002 - this determines the shift from the second phase to the ongoing third phase.

The first phase:

This phase corresponds with the initiation of formal domestic banking system in Nepal till the
establishment of NRB in 1956. Nepal's formal financialsystem had a late start and began less than one

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and a half centuries ago. The establishment of Tejarath Adda in 1880 can be conceived as the beginning
of the process of credit mobilization in Nepal. However, this institution, although formally
established,was not allowed to take public deposit and provide credit to public – the fund had been
provided by the government for credit to their staff and landlords only. Therefore, it was not a bank per
se. Even the urban people in need of the financial support had to rely on Shahus (merchants) and
landlords because of the limited activities of Tejarath Adda. It was only with the establishment of Nepal
Bank Limited (NBL) in 1937 that the financial services were made available to the general public. In this
regard, the establishment of NBL was the epoch-making since it signified commencement of formal
Banking system in Nepal.
The second phase:
This phase commences with the establishment of NRB in 1956 under the NRB Act 1955, and completes
with the promulgation of the current NRB Act 2002. With the establishment of NRB in 1956, the process
was made easier for establishment of banks and financial institutions in the country. However, this phase
can be further subdivided into two sub-periods: The first sub-period (or second phase A), was
a period of restriction where the Nepalese payment system was characterized as "predominantly a cash-
economy" but, this period took a different turn with the establishment of Nepal Arab Bank Limited as
the first joint-venture bank in 1984, under the Government's liberalized policy. The first sub-period saw
more directed role of NRB in terms of credit control (including directed credit programs) and control of
different categories of interest rates. In this sub-period, three institutions of diverse nature were
established under the full ownership of the Government of Nepal (GON). They were
(i) Nepal Industrial Development Corporation
(ii) Rastriya Banijya Bank and
(iii) Agriculture Development Bank, Nepal .
The second sub-period (or second phase B) witnessed greater financial liberalization that practically
started from 1984 until the enactment of new NRB Act in 2002. This subperiod corresponds with the
overall economic liberalization policy of GON after the nation underwent sustained balance of payment
crisis in the early 1980s. This later sub-period saw major shifts in the policy measures such as: from a
controlled to a deregulated framework of interest rate; from direct to indirect methods of monetary
control, emphasizing open market operations as the main policy tool; and permitting marketdetermined
exchange rate of the Nepalese currency against convertible currencies and full convertibility of the
Nepalese currency in the current account (NRB, 1996). During this sub-period, Nepal Indosuez Bank
(later named as Nepal Investment Bank) and Nepal Grindlays Bank (now Standard Chartered Bank
Nepal) were established in 1986 and 1987 respectively as the second and third joint-venture banks.
However, no fully owned domestic-funded banks were established during this period. The entry of other
development banks, finance companies, micro-credit development banks, savings and credit cooperatives
and Non-government organizations (NGOs) for limited banking transactions started after 1992 under
three major acts namely Finance Company Act 1985, Company Act 1964 and Development Bank Act
1996.

The third phase:

The current NRB Act of 2002 marks the initiation of the currently undergoing third phase. This act
replaced the NRB Act 1955 and allowed NRB to be more autonomous in exercising decisions relating to
formulation of monetary and foreign exchange policy as well as monitoring and regulating banks and
financial institutions across the nation. However, it was felt that the existing situation of multiple
numbers of acts under banking and financial institution sector made the process of regulation and
monitoring system very cumbersome. As a result and as a process of financial sector reform program , all
those diversified acts were grouped together under the 'Bank and Financial Institution Act (BAFIA),
2006.'6 This Act, also known as Umbrella Act, categorized all the banks and financial institutions
under four heads on the basis responsibility differences: Group A as commercial bank; Group B as
development bank; Group C as finance company; and Group D as microcredit development banks. The
other two forms of institutions, namely saving and credit cooperatives and Non-Government
Organizations (NGOs), both allowed by NRB for limited banking transactions, are however not put in
any of those groups and are being operated under specific directives and rules.

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Evolution of Banking Sector in Nepal

Banking service is the oldest service industry in Nepal. It has gone through the various stages of
evolution and development since the Vedic times (200 to 1400 B.C.) Though the modern banking
institution has a very recent origin in Nepal, some crude bank operations were in practice even in the
ancient time In the Nepalese Chronicle, it was recorded that the new era known as Nepal Sambat was
introduced by Shankhadhar, a sudra merchant of Kantipur in 879 or 880 A.D; after having paid all the
outstanding debts in the country. This shows the basis of money lending practice in ancient Nepal.
Towards the end of 8th century, Gunkam Dev had borrowed money to rebuild the Kathmandu Valley. In
11th century, during Malla regime there was an evidence of professional moneylenders and bankers. It is
further believed that money-lending business, particularly for financing the foreign trade with Tibet,
became quite popular during regime of Mallas. However, in the absence of any regulatory measures, the
unscrupulous moneylenders were known to have charged exorbitant rates of interest and other extra dues
on loans advanced.
These inconveniences led the Prime Minister Ranodeep (1877-1885) to establish Tejarath Addaha in
Kathmandu, which was a government financial institution supplying credit to the people at 5% rate of
interest against security of gold, silver and ornaments. The government servants were also entitled to take
loans from Tejarath, repayable from their salary at the source. During the time of Chandra Shamsher
(1901-1929), credit facilities of Tejarath were extended to some other parts of the country by opening its
branches. It is believed that the so-called well-to-do persons used to take loans from private money
lenders even at a higher rate of interest than those from the government institution, for they were not
prepared to disclose in public anything that was likely to affect their prestige. When they were
approached by this type of clients, the professional money lenders used to raise loans in their own names
from Tejarath at 5% rate of interest against gold and ornaments, which were not their own but brought to
them by their clients as security for the loans to be financed from the funds raised from Tejarath itself.
Thus, without any resources of their own and without any risks on their own part, the money lenders
could manage very well to exploit their special type of clients just playing the role of middleman between
their clients and the government institution. To control spurious rates of interest and also to curb unfair
practice on the part of the unscrupulous moneylenders, legislative measures were also taken.
Later, with the growing necessity of the commercial banks in the world, Nepal Bank Limited, the first
commercial bank of Nepal, came into being in 1937 A.D. replacing the older system of banking. In the
present scenario different types of banks are being practiced in Nepal, but among them commercial banks
play a vital role in the economic development of the country.
As mentioned above, with the motive to develop the trade and industry in the country commercial bank
called Nepal Bank Limited was established in 1937 A.D. It was established under the Nepal Bank Act of
1936 A.D. and the late King Tribhuvan Bir Bikram Shah Dev inaugurated this bank. At that time the
authorized capital of Nepal Bank Limited (NBL) was Rs. 10 millions, divided into 1,00,000 shares of Rs.
100.00 each. Nepal Bank Limited had a responsibility of attracting people towards banking sector from
predominant sahu-mahajan's transaction and introducing other banking services as well. Being a
commercial bank, it was natural that Nepal Bank Limited paid more attention to profit generating
business. But it is the duty of the government to look into the neglected sectors. Therefore Nepal Bank
Limited was established with 51% ownership of His Majesty Government (HMG) (Now Nepal
Government) and 49% of the equity participation from private sector. With the development of banking
sector and to help the government, formulate monetary policies, Nepal Rastra Bank was set up in 1956
A.D. (14th Baisakh 2013 B.S), the central bank of the country. Since then it has contributed to the growth
of financial sector.

The growth and development of the country is possible only when competitive banking services reach
each and every corner of the country. However, as the central bank, Nepal Rastra Bank had its own
limitations and as a commercial bank it was not logical for Nepal Bank Limited to go to unprofitable
sectors. So, to catch up with these problems, the government established Rastriya Banijaya Bank is 2022
B.S. (1965 A.D), under Banijya Bank Act 1965 A.D. as a fully state owned commercial. Then the
establishment of Nepal Industrial Development Corporation, Employee Provided Fund, Agriculture
Development Bank etc, followed the formation of financial institutions.

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With the aim to provide quality-banking service, enhance the efficiency and healthy competition, foreign
investment and new technology in banking sector was introduced. Nepal Arab Bank, the first joint
venture bank of Nepal was established in 1984 A.D. (2041 B.S). The bank was the outcome of joint
venture with Dubai Bank Limited of United Arab Emirates. The footstep of this bank was followed by
Nepal Indosuez Bank a joint venture bank with a Bank of Paris in 1986 A.D. (2041 B.S) and later other
joint venture banks are established in Nepal.
A History and Developing of Banking System in Nepal
Nepal bank Ltd. is the first modern bank of Nepal. It is taken as the milestone of modern banking of the
country. Nepal bank marks the beginning of a new era in the history of the modern banking in Nepal.
This was established in 1937 A.D. Nepal Bank has been inaugurated by King Tribhuvan Bir Bikram Shah
Dev on 30th Kartik 1994 B.S. Nepal bank was established as a semi government bank with the authorized
capital of Rs.10 million and the paid -up capital of Rs. 892 thousand. Until mid-1940s, only metallic
coins were used as medium of exchange. So the Nepal Government (His Majesty Government on that
time) felt the need of separate institution or body to issue national currencies and promote financial
organization in the country.
Nepal Bank Ltd. remained the only financial institution of the country until the foundation of Nepal
Rastra Bank is 1956 A.D. Due to the absence of the central bank, Nepal Bank has to play the role of
central bank and operate the function of central bank. Hence, the Nepal Rastra Bank Act 1955 was
formulated, which was approved by Nepal Government accordingly, the Nepal Rastra Bank was
established in 1956 A.D. as the central bank of Nepal. Nepal Rastra Bank makes various guidelines for
the banking sector of the country.
A sound banking system is important for smooth development of banking system. It can play a key role
in the economy. It gathers savings from all over the country and provides liquidity for industry and trade.
In 1957 A.D. Industrial Development Bank was established to promote the industrialization in Nepal,
which was later converted into Nepal Industrial Development Corporation (NIDC) in 1959 A.D.
Rastriya Banijya Bank was established in 1965 A.D. as the second commercial bank of Nepal. The
financial shapes for these two commercial banks have a tremendous impact on the economy. That is the
reason why these banks still exist in spite of their bad position.
As the agriculture is the basic occupation of major Nepalese, the development of this sector plays in the
prime role in the economy. So, separate Agricultural Development Bank was established in 1968 A.D.
This is the first institution in agricultural financing.
For more than two decades, no more banks have been established in the country. After declaring free
economy and privatization policy, the government of Nepal encouraged the foreign banks for joint
venture in Nepal.
Today, the banking sector is more liberalized and modernized and systematic managed. There are various
types of bank working in modern banking system in Nepal. It includes central, development, commercial,
financial, co-operative and Micro Credit (Grameen) banks. Technology is changing day by day. And
changed technology affects the traditional method of the service of bank.
Banking software, ATM, E-banking, Mobile Banking, Debit Card, Credit Card, Prepaid Card etc.
services are available in banking system in Nepal. It helps both customer and banks to operate and
conduct activities more efficiently and effectively.
For the development of banking system in Nepal, NRB refresh and change in financial sector policies,
regulations and institutional developments in 1980 A.D. Government emphasized the role of the private
sector for the investment in the financial sector. These policies opened the doors for foreigners to enter
into banking sector in Nepal under joint venture.
Some foreign ventures are also established in Nepal such as Nepal Bangladesh Bank, Standard Chartered
Bank, Nepal Arab Bank, State Bank of India, ICICI Bank, Everest Bank, Himalayan Bank, Bank of
Kathmandu, Nepal Indo-Suez Bank and Nepal Sri Lanka Merchant Bank etc.
The NRB will classify the institutions into “A” “B” “C” “D” groups on the basis of the minimum paid-up
capital and provide the suitable license to the bank or financial institution. Group ‘A’ is for commercial
bank, ‘B’ for the development bank, ‘C’ for the financial institution and ‘D’ for the Micro Finance
Development Banks.

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Generally banks in Nepal are opened 9 am to 3 pm Sunday to Thursday and 9 am to 1 am on Friday. But
nowadays most of banks in Kathmandu are opened throughout the week.
There are 29 commercial banks, 72 development banks, 44 financial companies, 40 micro credit
(Grameen) development banks and 16 saving and credit co-operation (licensed by Nepal Rastra Bank) are
established so far in Nepal. The bank with the largest network in Nepal is The Nepal Bank Ltd. These
commercial banks and financial institutions have played significant roles in creating banking habit among
the people, widening area and business communities and the government in various ways.

Functions of Nepal Rastra Bank

The Role and functions of Nepal Rastra Bank shall be as follows:
(a) To issue bank notes and coins;
(b) To formulate necessary monetary policies in order to maintain price stability and to implement or
cause to implement them;
(c) To formulate foreign exchange policies and to implement or cause to implement them;
(d) To determine the system of foreign exchange rate;
(e) To manage and operate foreign exchange reserve;
(f) To issue license to commercial banks and financial institutions to carry on banking and financial
business and to regulate, inspect, supervise and monitor such transactions;
(g) To act as a banker, advisor and financial agent of Government of Nepal;
(h) To act as the banker of commercial banks and financial institutions and to function as the lender
of the last resort;
(i) To establish and promote the system of payment, clearing and settlement and to regulate these
activities; and
(j) To implement or cause to implement any other necessary functions which the Bank has to carry
out in order to achieve the objectives of the Bank under NRB Act;
OR
Role of Central Bank with special reference to the Nepal Rastra Bank:
Central bank is the supreme monetary institution, which is remained at the apex body of the monetary
and banking structure of a country. It is the leader of money market and it controls, regulates and
supervises the activities of the banks and financial institutions. A central bank performs many important
and essential functions which are explained as follows:
1. Monopoly of note issue:
The central bank has monopoly power of note issue in every country. The granting of monopoly right
of issue makes it easier to maintain uniformity in money and control the quantity of money. It is also
easier for the government to control and make supervision of note issuing function. The uniformity in
notes ensures people’s confidence in notes. In Nepal, Nepal Rastya Bank had started to issue notes
since 2016 Phalgun. The notes are issued against the fixed % reserve of gold, silver and foreign
currency.
2. Banker, adviser and agent of government:
The central bank acts as a banker, agent and adviser of the government. Central bank keeps the
banking accounts of government departments, boards and performs the same function as a
commercial bank performs for customers. It keeps the deposits from the government and undertakes
the collection of cheques and drafts deposited in the government account. It also provides short-term
loans such as overdraft to the government. It also provides foreign exchange facilities to the
government.
As a financial adviser it gives advice to the government in economic, monetary, financial and fiscal
policy such as devaluation, trade policy, foreign exchange policy, etc.
As an agent of government manage the public debt and issue the new loan and treasury bill on behalf
of the government.
3. Banker’s Bank:
The central bank works as the banker of the other banks. Central bank holds the right of supervision,
control on other banks. Acting as the custodian of the cash reserve of commercial banks, the central
bank maintains the cash reserve of the commercial banks. Every commercial bank of the country has

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to keep a certain percentage of the cash balance as deposits with the central bank. Such reserve can be
used by commercial banks to meet the emergencies.
4. Lender of last resort:
As a lender of the last resort, in time of crisis, the central bank provides financial helps to the
commercial banks by rediscounting their bills or by providing loans against the short-term securities.
5. Clearing house function:
The central bank is the clearing agent of the transactions between the different banks. Since, all the
banks have their account with central bank; it makes debit in one bank’s account and credit in other
bank’s account.
6. Control of credit:
The credit should be controlled to maintain the price stability. In order to control the credit, the
central bank may use various tools such as bank rate policy, open market operation, change in reserve
ratio and selective methods, etc.
7. Maintenance of exchange rate:
Central bank has right to regulate and control the foreign exchange rate. Central bank tries to
maintain the stability in value of domestic currency. To maintain the stable exchange rate, central
bank is always prepared to buy and sell foreign currency.
8. Development function:
There are various development functions of central bank, which are as follows:
 Development of banks: The NBR helps in the development of banks and non-banking financial
institutions. It encourages banks to open branches in remote areas by providing compensation and
interest free loan.
 Special program: The programs like priority sector credit program, cottage and small industries
projects, micro-credit for women have been launched with the initiative of NRB.
 Publicity: Central bank/NRB has been regularly publishing reports, journals and bulletins related
to the economic activities.
 Relationship with international agencies: It establishes friendly relationship with international
financial institutions such as IMF, WB, ADB, etc.
 Economic study and research: Central bank conducts several research works and economic survey
in specific economic issues. It also provides necessary information for plan formulation.

Banking Trend and Technology

Concept of Islamic Banking
A system of banking based on the statutes of Islamic law and economics. Paying or collecting interest, or
riba, is prohibited by Islamic law. Sharing profit and loss is a banking principle and shareholder capital
and deposits are kept separate to ensure fair revenue sharing.
A woman walks past a branch of the Noor Islamic Bank in Dubai. Although there have long been many Islamic banks in
the Middle East and Southeast Asia, they are now also
spreading rapidly in the West.

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When Islamic banking was first developed in the 1970s in the Persian Gulf states, its customers were
almost exclusively observant Muslims who wanted a banking system that complied with their religious
values. These include prohibitions against lending money with interest, which is defined as usury, and
investing in businesses deemed morally harmful, such as alcohol or pornography.
But today, Islamic banking is getting wider attention, including among non-Muslims. That is because
Islamic banks, which are open to people of all faiths, have largely survived the global economic crisis
intact. So far, none has had to receive substantial bailouts to keep them afloat, suggesting that they
somehow offer a safer haven to savers than conventional banks.
Mohammed Amin, a London-based Islamic finance consultant, says that perception is partly true, and
partly not.
In practice, he says, Islamic banks are often more conservative in their commercial activities than
ordinary banks. Their prohibitions against interest-bearing loans, for example, meant they did not buy up
the large quantities of bad consumer debt that now burdens Western banks and has threatened many with
collapse.
But individual Islamic banks -- like any savings institution -- can still expose their customers to risk. And
that is because, while they shun interest-bearing transactions, they still do many of the same things
conventional banks do, only by different means.

Theoretical Basis of the Concept of Islamic Banking:

Conventional banking is essentially based on debtor-creditor relationship between depositors and the
bank in the one hand and between the borrowers and the bank on the interest is considered as the price of
credit, reflecting the opportunity cost of money. Islam, on the other hand, considers loan to be given or
taken, free of charge, to meet contingency and that the creditor should not lake any advantage of the
borrower. The money is lent out on the basis of interest, more often it happens that it leads to some kind
of injustice. The first Islamic principle underlying such kinds of transactions is that “deal not unjustly and
ye shall not be dealt with unjustly”. Hence, commercial banking in an Islamic framework is not based on
debtor-creditor relationship.
The second principle regarding financial transactions in Islam is that there should not be any reward
without risk-taking. This principle is applicable both to labor and capital. As no payment is allowed to
labor unless it is applied to work, no reward for capital should be allowed unless it is exposed to business
risks.
Thus, financial intermediation in an Islamic framework has been visualized on the basis of the above
principles. Consequently financial relationships in Islam have been participatory in nature. Several
theorists suggest that commercial banking in an interest-free system should be organized on the principle
of profit and loss sharing. The institution of interest is thus replaced by a principle of participation in
profit and loss. That means, a fixed rate of interest is replaced by a variable rate of return based on real
economic activities. The distinct characteristics which provide Islamic banking with its main points of
departure from the traditional interest-based commercial banking system are: (a) the Islamic banking
system is essentially a profit and loss sharing system and not merely an interest-free (Riba) banking
system; and (b) investment (loans and advances in conventional sense) under this system of banking must
serve simultaneously both the interest of the investor and those of the local community. The financial
relationship as pointed above is referred to in Islamic jurisprudence as Mudarabah.
Distinguishing Features of Islamic Banking:
An Islamic bank has several distinctive features as compared to its conventional counterpart. Six essential
differences as below:
1. Abolition of Interest (Riba): Since Riba is prohibited in the Holy Quran and interest in all its
form being akin to Riba as, confirmed by Fukaha and Muslim economists with rare exceptions,
the first distinguishing feature of an Islamic bank must be that it is interest-free, while the
abolition of Riba would be the first and essential difference between the conventional interest-
based commercial banks and Islamic banks, if would not the constitute the only difference
between them. The nature, outlook and operations of an Islamic bank would have to undergo a
complete transaction.
2. Adherence to Public Interest: Activity of commercial banks being primarily based on the use of
public funds, public interest rather than individual or group interest will be served by Islamic
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commercial banks. The Islamic banks should use all deposits, which come from the public for
serving public interest and realizing the relevant socio-economic goals of Islam. They should play
a goal-oriented rather than merely a profit-maximizing role and should adjust themselves to the
different needs of the Islamic economy.
3. Multi-Purpose Bank: Another substantial distinguishing feature is that Islamic banks will be
universal or multi-purpose banks and not purely commercial banks. These banks are conceived to
be a crossbreed of commercial and investment banks, investment trusts and investment
management institutions and would offer a variety of services to their customers. A substantial
part of their financing would be for specific projects or ventures. Their equity-oriented
investments could not permit them to borrow short and lend long. This should tend to make them
less crisis-prone compared to their capitalist counterparts. Since the overnight, call loan or very
short-term inter-bank market may be available to them only to a limited extent, they may have to
make a greater effort to match the maturity of their liabilities with the maturity of their assets.
4. More Careful Evaluation of Investment Demand: Another very important feature of an Islamic
bank is its very careful attitude towards evaluation of applications for equity oriented financing. It
is customary that conventional banks evaluate applications, considers collateral and avoids risks
as far as possible. Their main concern does not go beyond ensuring the security of their principle
and interest receipts. Since the Islamic bank has in built mechanism of risk-sharing, it would need
to be careful more careful. It adds a healthy dimension in the whole lending business and
eliminates a whole range of undesirable lending practices.
5. Work as Catalyst of Development: Profit-Loss-Sharing being a distinctive characteristic of an
Islamic bank, if fosters closer relations between banks and entrepreneurs. It helps develop
financial expertise in non-financial firms also enables the banks to assume the role technical
consultants and financial advisors and act as catalysts in the process of industrialization and
development. The bank would take care of all the responsible and agreed financial needs of their
clients thus relieving them of the need to run around for funds to overcome their normal liquidity
shortages.
6.
Objectives of Islamic Banking:
The primary objective of establishing Islamic bank all over the world is to promote, foster and develop
the application of Islamic principles, law and tradition to the transaction of financial, banking and related
business affairs and to promote investment companies, enterprises and concerns which shall themselves
be engaged in business as are acceptable and consistent with Islamic principles, law and traditions. But
the objective of Islamic bank when viewed from the context of its role in an economy, its specific
objectives may be enlisted as following:
 To offer contemporary financial services in conformity with Islamic Shariah;
 To contribute towards economic development and prosperity within the principles of
Islamic justice;
 Optimum allocation of scarce financial resources; and
 To help ensure equitable distribution of income.
These objectives are discussed below.
Offer Financial Services: Interest-based banking, which is considered a   practice of Riba in financial
transactions, is unanimously identified as anti-Islamic. That means all transactions made under
conventional banking are unlawful according to Islamic Shariah. Thus, the emergence of Islamic
banking is clearly intended to provide for Shariah approved financial transactions.
Islamic Banking for Development: Islamic banking is claimed to be more development- oriented than
its conventional counterpart. The concept of profit sharing is a built-in development promoter since it
establishes a direct relationship between the bank's return on investment and the successful operation of
the business by the entrepreneurs.
Optimum Allocation of Resources: Another important objective of Islamic banking is the optimum
allocation of scarce resources. The foundation of the Islamic banking system is that it promotes the
investment of financial resources into those projects that are considered to be the most profitable and
beneficial to the economy.
 

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Islamic Banking for Equitable Distribution of Resources: Perhaps the must important objective of Islamic
banking is to ensure equitable distribution of income and resources among the participating parties: the
bank, the depositors and the entrepreneurs.

Definition of Islamic Banking

Definition of Islamic Banking I; Islāmic banking is a banking system that was developed based on the
sharia (law) of Islam. Establishment of business system is based on the Prohibition in the Islamic religion
to collect and borrow with interest or so-called "usury" as well as investment restrictions for businesses,
categorized illegitimate in Islamic law (such as businesses associated with food production / "drink
unclean", the business un-Islamic media, etc.), where this can not be guaranteed by the conventional
banking system

Definition of Islamic Banking II, Muhammad, in his book financial institutions of contemporary people
(2000: 62, 63) defines that Islamic Banking is: "Financial institutions are businesses primarily providing
financing and other services, the traffic and circulation of cash payments adjusted with the
implementation of Islamic law".

Definition of Islamic Banking III, according to the Encyclopedia of Islam, Islamic Banking is:
"Financial institutions that give credit and basic business services in the traffic of payment, as well as the
circulation of money that its implementation is adjusted with the Principles of Islamic legal principles"
Definition Islamic Banking IV, according to Antonio perwataatmadja and Muhammad Shafi, the
Islamic Bank is a bank whose implementation by the principles of Islamic law, especially on ways for
doing business in Islam. One element that should be shunned in the "business of Islam" is a practice
which has elements of "" usury "." Also explained that Islamic Banking is the bank that the ways
implementing the provisions referring to the Koran and Hadith, by the recommendation and the ban,
which shunned the practice is that it has elements of usury, while those followed by the implementation
of business conducted at the time of the Prophet or form of business that has been there before, but not
forbidden by the Prophet.

From the explanation about Definition of Islamic Banking, Islamic Banking has the following
characteristics:
 In Islamic banking, bank relationships with customers is a contractual relationship (contract) between
the investor fund owner (Shohibul maal) with a investors fund manager (mudharib) that work
together to be productive and the profits divided equally (Investment mutual relationship). Thus, it
can avoid the exploitative relationship between the bank and the client or vice versa between
customers and banks.
 The existence of prohibitions of certain activities by the Islamic Banking business which aims to
create productive economic activities (the prohibition to accumulate wealth (natural resources) are
controlled by a small community and non-productive, creating a fair economy (business concept for
yield and for risk) as well as preserving the environment and uphold the moral (prohibition for
projects that damage the environment and not in accordance with moral values, such as liquor,
gambling facilities and others.
 The operations of Islamic banking is more varied than conventional banks, namely for the profit-
sharing from the sale and buy system, leasing system and give other services, and it does not violate
the values and principles of Islamic law.
RIBA and Profit
There are persons who try to equate Riba with profit. In effect, they are fundamentally different from
each other as can be seen from the following:
Riba Profit

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1. When money is "charged", its imposed positive 1. When money is used in trading (for e.g.) its
and define result is Riba uncertain result is profit.
2. By definition, Riba is the premium paid by the 2. By definition, profit is the difference between the
borrower to the lender along with principal value of production and the cost of production.
amount as a condition for the loan.
3. Riba is prefixed, and hence there is no 3. Profit is post-determined, and hence its amount is
uncertainty on the part of either the givers or the not known until the activity is done.
takers of loans.
4. Riba can not be negative, it can at best be very 4. Profit can be positive, zero or even negative.
low or zero.
5. From Islamic Shariah point of view, it is Haram. 5. From Islamic Shariah point of view, it is Halal.

Conventional and Islamic banking

Conventional banking is essentially based on the debtor-creditor relationship between the depositors
and the bank on the one hand, and between the borrowers and the bank on the other. Interest is
considered to be the price of credit, reflecting the opportunity cost of money. Islam, on the other hand,
considers a loan to be given or taken, free of charge, to meet any contingency.  Thus in Islamic
Banking, the creditor should not take advantage of the borrower. When money is lent out on the basis
of interest, more often it happens that it leads to some kind of injustice. The first Islamic principle
underlying such kinds of transactions is that "deal not unjustly, and ye shall not be dealt with
unjustly". Hence, commercial banking in an Islamic framework is not based on the debtor-creditor
relationship.
The second principle regarding financial transactions in Islam is that there should not be any reward
without taking a risk. This principle is applicable to both labor and capital. As no payment is allowed
for labor, unless it is applied to work, there is no reward for capital unless it is exposed to business
risk.
 
Thus, financial intermediation in an Islamic framework has been developed on the basis of the above
two principles. Consequently financial relationships in Islam have been participatory in nature.
Several theorists suggest that commercial banking in an interest-free system should be organized on
the principle of profit and loss sharing. The institution of interest is thus replaced by a principle of
participation in profit and loss. That means a fixed rate of interest is replaced by a variable rate of
return based on real economic activities. The distinct characteristics which provide Islamic banking
with its main points of departure from the traditional interest-based commercial banking system are:
(a) the Islamic banking system is essentially a profit and loss sharing system and not merely an
interest (Riba) banking system; and (b) investment (loans and advances in the Conventional sense)
under this system of banking must serve simultaneously both the benefit to the investor and the benefit
of the local community as well.  The financial relationship as pointed out above is referred to in
Islamic jurisprudence as Mudaraba.
 
For the interest of the readers, the distinguishing features of the conventional banking and Islamic
banking are shown in terms of a box diagram as shown below:
Banks Islamic Banks
1. The functions and operating modes of conventional 1. The functions and operating modes of Islamic banks are
banks are based on manmade principles. based on the principles of Islamic Shariah.
2. The investor is assured of a predetermined rate of 2. In contrast, it promotes risk sharing between provider of
interest. capital (investor) and the user of funds (entrepreneur).
3. It aims at maximizing profit without any restriction. 3. It also aims at maximizing profit but subject to Shariah
restrictions.
4. It does not deal with Zakat. 4. In the modern Islamic banking system, it has become one of
the service-oriented functions of the Islamic banks to collect
and distribute Zakat.
5. Leading money and getting it back with interest is 5. Participation in partnership business is the fundamental
the fundamental function of the conventional banks. function of the Islamic banks.

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6. Its scope of activities is narrower when compared 6. Its scope of activities is wider when compared with a
with an Islamic bank. conventional bank. It is, in effect, a multi-purpose institution.
7. It can charge additional money (compound rate of 7. The Islamic banks have no provision to charge any extra
interest) in case of defaulters. money from the defaulters.
8. In it very often, bank's own interest becomes 8. It gives due importance to the public interest. Its ultimate
prominent. It makes no effort to ensure growth with aim is to ensure growth with equity.
equity.
9. For interest-based commercial banks, borrowing 9. For the Islamic banks, it is comparatively difficult to
from the money market is relatively easier. borrow money from the money market.
10. Since income from the advances is fixed, it gives 10. Since it shares profit and loss, the Islamic banks pay
little importance to developing expertise in project greater attention to developing project appraisal and
appraisal and evaluations. evaluations.
11. The conventional banks give greater emphasis on 11. The Islamic banks, on the other hand, give greater
credit-worthiness of the clients. emphasis on the viability of the projects.
12. The status of a conventional bank, in relation to its 12. The status of Islamic bank in relation to its clients is that
clients, is that of creditor and debtors. of partners, investors and trader.
13. A conventional bank has to guarantee all its 13. Strictly speaking, and Islamic bank cannot do that.
deposits.
Home Banking
The practice of conducting banking transactions from home rather than at branch locations. Home
banking generally refers to either banking over the telephone or on the internet. The first experiments
with internet banking started in the early 1980s, but it did not become popular until the mid 1990s when
home internet access was widespread. Today, a variety of internet banks exist which maintain few, if any,
physical branches.
Private banking
Private banking is banking, investment and other financial services provided by banks to high-net-worth
individuals with high levels of income or invest sizable assets. The term "private" refers to customer
service rendered on a more personal basis than in mass-market retail banking, usually via dedicated bank
advisers. It does not refer to a private bank, which is a non-incorporated banking institution.
Private banking forms a more exclusive (for the especially affluent) subset of wealth management. At
least until recently, it largely consisted of banking services (deposit taking and payments), discretionary
asset management, brokerage, limited tax advisory services and some basic concierge-type services,
offered by a single designated relationship manager.
Overview of Private Banking
Private banking is the way banking originated. The first banks in Venice were focused on managing
personal finance for wealthy families. Private Banks became known as ‘Private’ to stand out from the
retail banking & savings banks aimed at the new middle class. Traditionally, private banks were linked to
families for several generations. They often advised and performed all financial & banking services for
families. Historically, private banking has developed in Europe. Some banks in Europe are known for
managing assets of some royal families. The assets of the Princely Family of Liechtenstein are managed
by LGT Group (founded in 1920 and originally known as The Liechtenstein Global Trust). The assets of
the Dutch royal family are managed by Mees Pierson (founded in 1720). The assets of the British Royal
Family are managed by Coutts (founded in 1692).
Historically, private banking has been viewed as a very exclusive niche that only caters to high-net-worth
individuals (HNWIs) with liquidity over $2 million, though it is now possible to open private banking
accounts with as little as $250,000 for private investors. An institution's private banking division provides
services such as wealth management, savings, inheritance, and tax planning for their clients. For private
banking services clients pay either based on the number of transactions, the annual portfolio performance
or a "flat-fee", usually calculated as a yearly percentage of the total investment amount.
"Private" also alludes to bank secrecy and minimizing taxes through careful allocation of assets, or by
hiding assets from the taxing authorities. Swiss and certain offshore banks have been criticized for such
cooperation with individuals practicing tax evasion. Although tax fraud is a criminal offense in
Switzerland, tax evasion is only a civil offence, not requiring banks to notify taxing authorities.
In Switzerland, there are many banks providing private banking services. Since the Congress of Vienna in
1815, Switzerland has remained neutral until now, including the time of two World Wars. After World
War I, the former nobles of Austro-Hungarian Empire moved their assets to Switzerland for fear of

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confiscation by new governments. During World War II, many wealthy people, including Jewish families
and institutions, moved their assets into Switzerland to protect them from Nazi Germany. However, this
transfer of wealth into Switzerland had mixed and controversial results, as beneficiaries had difficulties
retrieving their assets after the war. After World War II, in east Europe, assets were again moved into
Switzerland for fear of confiscation by communistic governments. Today, Switzerland remains the
largest offshore center, with about 27 percent ($2.0 trillion) of global offshore wealth in 2009, according
to Boston Consulting Group. (Offshore wealth is defined as assets booked in a country where the investor
has no legal residence or tax domicile)
In England, private banks were established in the 17th century, in parallel with the development of
agriculture, managing the assets of the royal family, nobility and the landed gentry.
The United States has one of the largest private banking systems in the world, in part due to the 3.1
million HNWIs accounting for 28.6% of the global HNWIs population in 2010, according to the co-
research of Capgemini and Merrill Lynch. Some American banks that specialize in private banking date
back to the 19th century, such as U.S. Trust (founded in 1853) and Northern Trust (founded in 1889).

Branchless banking
Branchless banking is defined as the delivery of financial services outside conventional bank branches,
often using agents and relying on information and communications technologies to transmit transaction
details – typically card-reading point-of-sale (POS) terminals or mobile phones.
In this type of banking system a big bank as a single ownership operates through a network of branches
spread all over the country. This type of banking system was initially developed in England.

NIBL(Nepal Investment Bank Limited) has deployed a Branchless Banking System that is capable of
providing Retail Banking features such as Cash Deposit/Withdrawal, Bill Payments, Fund Transfers and
Inquiries to the NIBL Customers.

Branchless Banking is an economical channel for delivering financial services without relying on the
traditional bank branches. Branchless Banking provides basic banking services through NIBL Agents
having Bio-metric POS devices (with finger print scanner). Branchless Banking customers are also
provided with NIBL VISA Card, which along with their finger prints can be used to avail services
through the POS.

 The Branchless Banking Service can be availed by New Customers by enrolling to this system and
opening account with NIBL or availed by existing customers by simply enrolling to this system.
Branchless Banking Services will be provided only in VDCs.

About Branchless Banking(BLB)

Branchless Banking (BLB) represents a significantly cheaper alternative

to conventional branch-based banking that allows financial institutions
and other commercial actors to offer financial services outside traditional
bank premises by using delivery channels like retail agents, mobile phone
etc. BLB can be used to increase the access of financial services to the
un-banked communities.

By the definition of the Consultative Group to Assist the Poor (CGAP),

BLB comprises essentially all of the following elements:
1. Use of technology, such as payment cards to identify customers and record transactions
electronically
2. Use of (exclusive or nonexclusive) third-party outlets, such as post offices and small retailers, that
act as agents for financial services providers and that enable customers to perform functions that

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require their physical presence, such as cash handling and customer due diligence for account
opening
3. Offer of at least basic cash deposit and withdrawal in addition to transactional or payment services
4. Backing of a government-recognized, deposit-taking institution, such as a formally licensed bank
5. Structuring of the above so that customers can use these banking services on a regular basis
(available during normal business hours) and without needing to go to bank branches at all, if
that’s what they choose

How Customers are benefited from BLB

1. Service provided at their doorstep/ village
2. Availability of Basic Banking Services throughout the day
3. Hassle free transaction for the villagers as there are no vouchers
4. Familiarity in dealing with their own person
5. Reduces the cost of transaction
Micro finance

History of microfinance

While the concept has been used globally for centuries, it's Bangladesh's Muhammad Yunus who is
credited with being the pioneer of the modern version of microfinance. While working at Chittagong
University in the 1970s, Yunus began offering small loans to destitute basket weavers. Yunus carried on
this mission for nearly a decade before forming the Grameen Bank in 1983 as a way to reach a much
wider audience. Today, the Grameen Bank's 2,500 branches serve more than 8 million borrowers in
roughly 81,000 villages. According to Grameen Bank, its clients, 97 percent of whom are women, repay
loans more than 97 percent of the time, a recovery rate higher than any other banking system. In 2006,
Yunus and Grameen Bank were jointly awarded the Nobel Peace Prize for their micro financing work.
Joseph Blatchford is also credited with helping build up the modern-day microfinancing efforts.
Blatchford, a University of California law student, founded the non-profit organization Accion, which
began offering small loans to entrepreneurs in Brazil to see if a one-time influx of money could help lift
them out of poverty. The operation was a success, with the organization's 885 loans helping create or
stabilize 1,386 new jobs. Accion expanded the model to 14 other Latin American countries over the next
decade. Today, Accion serves more than 5 million clients in 21 countries.

Microfinance

Microfinance refers to a variety of financial services that target low-income clients, particularly women.
Since the clients of microfinance institutions (MFIs) have lower incomes and often have limited access to
other financial services, microfinance products tend to be for smaller monetary amounts than traditional
financial services. These services include loans, savings, insurance, and remittances. Microloans are
given for a variety of purposes, frequently for microenterprise development. The diversity of products
and services offered reflects the fact that the financial needs of individuals, households, and enterprises
can change significantly over time, especially for those who live in poverty. Because of these varied
needs, and because of the industry's focus on the poor, microfinance institutions often use non-traditional
methodologies, such as group lending or other forms of collateral not employed by the formal financial
sector.

Microfinance institutions give microloans to entrepreneurs who otherwise don't qualify for a standard
bank loan.

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Microfinance refers to an array of financial services,
including loans, savings and insurance, available to poor
entrepreneurs and small business owners who have no
collateral and wouldn't otherwise qualify for a standard
bank loan. Most often, microloans are given to those
living in still-developing countries who are working in a
variety of different trades, including carpentry, fishing
and transportation. Microloans typically are not more
than several hundred dollars. Examples of uses include
money for tools to start work in construction, or makeup
and other supplies needed to become a cosmetologist. Because they are the ones that commonly use their
profits to provide for their families with things like food, clothing, shelter and education, women
currently comprise roughly two-thirds of all microfinance clients. The goal of micro financing is to
provide individuals with money to invest in themselves or their business to help get them out of poverty.
When providing loans, micro financing institutions do not require collateral, but do insist that the loan is
repaid within six months to a year. Microfinance is available through microfinance institutions, which
range from small non-profit organizations to larger banks. Microfinance institutions include both for-
profit companies, like General Electric Consumer Finance and Citi Microfinance, as well as non-profit
organizations, such as Accion and BRAC. Among the services they offer are small loans, help setting up
and maintaining a savings account and money transfers, as well as help obtaining insurance for a variety
of needs, such as death, illness or loss or property. In order to keep their services running, microfinance
institutions typically charge significantly higher interest rates than those on a traditional bank loan. While
many for-profit microfinance institutions have come under fire cashing in on the difficulties of the poor,
research from the Consultative Group to Assist the Poor found that the majority of clients borrow from
microfinance institutions that charge less than 30 percent interest rates and realize less than 30 percent
return on their equity. The most recent data from the World Bank estimates there are more than 7,000
microfinance institutions worldwide, serving 16 million clients. In total, the microfinance institutions
have provided more than $2.25 billion in loans and other financial help.

The definition of microfinance

“Microcredit, or microfinance, is banking the unbankables, bringing credit, savings and other essential
financial services within the reach of.millions of people who are too poor to be served by regular banks,
in most cases because they are unable to offer sufficient collateral. In general, banks are for people with
money, not for people without.” (Gert van Maanen, Microcredit: Sound Business or Development
Instrument, Oikocredit , 2004)

“(Microcredit) is based on the premise that the poor have skills which remain unutilized or underutilized.
It is definitely not the lack of skills which make poor people poor….charity is not the answer to poverty.
It only helps poverty to continue. It creates dependency and takes away the individual’s initiative to break
through the wall of poverty. Unleashing of energy and creativity in each human being is the answer to
poverty.” (Muhammad Yunus, Expanding Microcredit Outreach to Reach the Millennium Development
Goals, International Seminar on Attacking Poverty with Microcredit, Dhaka, Bangladesh, January, 2003)

Microcredit belongs to the group of financial service innovations under the term of microfinance, other
services according to microfinance is microsavings, money transfer vehicles and micro insurance.
Microcredit is a innovation for the developing countries. Microcredit is a service for poor people that are
unemployed, entrepreneurs or farmes who are not bankable. The reason why they are not bankable is the
lack of collateral, steady employment, income and a verifiable credit history, because of this reasons they

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can´t even meet the minimal qualifications for a ordinary credit. By helping people with microcredits it
gives them more available choiches and opportunities with a reduced risk. It has successfully enabled
poor people to start their own business generating or sustain an income and often begin to build up wealth
and exit poverty. The amount of money that´s lended out seldom exceeds 100USD.

Microcredit fits best to those with entrepreneurial capability and possibility. This translates to those poor
who work in growing economies, and who can undertake activities that generate weekly stable incomes.
For those who don´t qualify because they are extreme poor like destitute and homeless almost every
microcredit institution have special safety programs that offer basic subsistence and later endeavors to
graduate this members in their microfinance program making ordinary microcredit’s available.

Microcredit plays an important role in fighting the multi-dimensional aspects of poverty. Microfinance
increases household income, which leads to attendant benefits such as increased food security, the
building of assets, and an increased likelihood of educating one’s children. Microfinance is also a means
for self-empowerment. It enables the poor to make changes when they increase income, become business
owners and reduce their vulnerability to external shocks like illness, weather and more.

Microcredit has widely been directed by the non-profit sector while commercial lenders require more
conventional forms of collateral before making loans to microfinance institutions. But now it´s
successfully growing bigger and getting more credibility in the traditional finance world. Due to that the
traditional banking industry have begun to realize that this borrowers fits more correctly in a category
called prebankable. T he industry has realized that those who lack access to traditional formal financial
institutions actually require and desire a variety of financial products. Nowadays the mainstream finance
industry is counting the microcredit projects as a source of growth. Before almost everyone where
neglecting the success of microcredit in the beginning of the 1970s when pilot projects such as ACCION
where released until the United Nations declared 2005 the International Year of Microcredit.

The most of the microcredit institutions and agencies allover the world focuses on women in developing
countries. Observations and experience shows that women are a small credit risk, repaying their loans and
tend more often to benefit the hole family. In another aspect it´s also seeing as a method giving the
women more status in a social economic way and changing the current conservative relationship between
gender and class when women are able to provide income to the household. Women are in most cases
responsible for children, and in poor conditions it results in physical and social underdevelopment of their
children. 1.2 billion people are living on less than a dollar a day. There are many reasons why women
have become the primary target of microfinance services. A recent World Bank report confirms that
societies that discriminate on the basis of gender pay the cost of greater poverty, slower economic
growth, weaker governance, and a lower living standard for all people. At a macro level, it is because 70
percent of the world’s poor are women. Women have a higher unemployment rate than men in virtually
every country and make up the majority of the informal sector of most economies. They constitute the
bulk of those who need microfinance services.

Giving women access to microcredit loans therefore generates a multiplier effect that increases the
impact of a microfinance institution’s activities, benefiting multiple generations.

Micro Financing

Microfinance is a source of financial services for entrepreneurs and small businesses lacking access to
banking and related services. The two main mechanisms for the delivery of financial services to such
clients are: (1) relationship-based banking for individual entrepreneurs and small businesses; and (2)
group-based models, where several entrepreneurs come together to apply for loans and other services as a
group. In some regions, for example Southern Africa, microfinance is used to describe the supply of
financial services to low-income employees, which is closer to the retail finance model prevalent in
mainstream banking.

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For some, microfinance is a movement whose object is "a world in which as many poor and near-poor
households as possible have permanent access to an appropriate range of high quality financial services,
including not just credit but also savings, insurance, and fund transfers." Many of those who promote
microfinance generally believe that such access will help poor people out of poverty, including
participants in the Microcredit Summit Campaign. For others, microfinance is a way to promote
economic development, employment and growth through the support of micro-entrepreneurs and small
businesses.

Microfinance is a broad category of services, which includes microcredit. Microcredit is provision of

credit services to poor clients. Microcredit is one of the aspects of microfinance and the two are often
confused. Critics may attack microcredit while referring to it indiscriminately as either 'microcredit' or
'microfinance'. Due to the broad range of microfinance services, it is difficult to assess impact, and very
few studies have tried to assess its full impact. Proponents often claim that microfinance lifts people out
of poverty, but the evidence is mixed. What it does do, however, is to enhance financial inclusion.

In developing economies and particularly in rural areas, many activities that would be classified in the
developed world as financial are not monetized: that is, money is not used to carry them out. This is often
the case when people need the services money can provide but do not have dispensable funds required for
those services, forcing them to revert to other means of acquiring them. In their book The Poor and Their
Money, Stuart Rutherford and Sukhwinder Arora cite several types of needs:

 Lifecycle Needs: such as weddings, funerals, childbirth, education, home building, widowhood
and old age.
 Personal Emergencies: such as sickness, injury, unemployment, theft, harassment or death.
 Disasters: such as fires, floods, cyclones and man-made events like war or bulldozing of
dwellings.
 Investment Opportunities: expanding a business, buying land or equipment, improving housing,
securing a job (which often requires paying a large bribe), etc.

People find creative and often collaborative ways to meet these needs, primarily through creating and
exchanging different forms of non-cash value. Common substitutes for cash vary from country to country
but typically include livestock, grains, jewelry and precious metals. As Marguerite Robinson describes in
The Micro finance Revolution, the 1980s demonstrated that "micro finance could provide large-scale
outreach profitably," and in the 1990s, "micro finance began to develop as an industry" In the 2000s, the
micro finance industry's objective is to satisfy the unmet demand on a much larger scale, and to play a
role in reducing poverty. While much progress has been made in developing a viable, commercial micro
finance sector in the last few decades, several issues remain that need to be addressed before the industry
will be able to satisfy massive worldwide demand. The obstacles or challenges to building a sound
commercial micro finance industry include:

 Inappropriate donor subsidies

 Poor regulation and supervision of deposit-taking micro finance institutions (MFIs)
 Few MFIs that meet the needs for savings, remittances or insurance
 Limited management capacity in MFIs
 Institutional inefficiencies
 Need for more dissemination and adoption of rural, agricultural micro finance methodologies

Microfinance is the proper tool to reduce income inequality, allowing citizens from lower socio-
economical classes to participate in the economy. Moreover, its involvement has shown to lead to a
downward trend in income inequality.

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Automated Teller Machine:

An Automated Teller Machine (ATM) is an electronic telecommunication device that enables the
customers of a financial institution to perform financial transactions without the need for a human
cashier, clerk or bank teller. It is also known as Automated Banking Machine (ABM). Using an ATM,
customers can access their bank deposit or credit accounts in order to make a variety of transactions such
as withdrawals, check balances, getting mini statements, etc. Most ATMs are connected to interbank
networks, enabling people to withdraw and deposit money from machines not belonging to the bank
where they have their accounts or in the countries where their accounts are held (enabling cash
withdrawals in local currency).

On most modern ATMs, the customer is identified by inserting a plastic ATM card with a magnetic stripe
or a plastic smart card with a chip that contains a unique card number and some security information. An
ATM card is any payment card issued by a financial institution that enables a customer to access an
Automated Teller Machine (ATM) in order to perform transactions such as deposits, cash withdrawals,
obtaining account information, etc. It is also known as Bank Card, Money Access Card, Key Card or
Cash Card. Most ATM cards today are Bank Cards such as debit or credit cards that have been ATM-
enabled. Unlike an offline bank card that is signature based, an ATM card require authentication through
a personal identification number (PIN).

Interbank networks allow the use of ATM cards at ATMs of financial institutions other than those of the
institution that issued the cards. In some banking networks, the two functions of ATM cards and debit
cards are combined into a single card called simply as a Debit Card or also commonly called as Bank
Card. These are able to perform banking tasks at ATMs and also make point-of-sale transactions, with
both features using a PIN. ATM cards can also be used on merchants' card terminals that deliver ATM
features without any cash drawer. These terminals can also be used as cashless scrip ATMs by cashing
the receipts they issue at the merchant's point of sale.

The advantages of ATM are:

 ATM provides 24 hours service: ATMs provide service round the clock. The customer can withdraw
cash up to a certain a limit during any time of the day or night.
 ATM gives convenience to bank's customers : ATMs provide convenience to the customers. Now-a-
days, ATMs are located at convenient places, such as at the air ports, railway stations, etc. and not
necessarily at the Bank's premises.
 ATM reduces the workload of bank's staff.: ATMs reduce the work pressure on bank's staff and
avoids queues in bank premises.
 ATM provide service without any error: ATMs provide service without error. The customer can
obtain exact amount. There is no human error as far as ATMs are concerned.
 ATM is very beneficial for travellers: ATMs are of great help to travellers. They need not carry large
amount of cash with them.

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 ATM may give customers new currency notes: The customer also gets brand new currency notes
from ATMs.In other words, customers do not get soiled notes from ATMs.
 ATM provides privacy in banking transactions: Most of all, ATMs provide privacy in banking
transactions of the customer.

Internet Banking:
It is the recent trend in the Nepalese banking sector. It is the result of development took place in
information technology. Internet banking means any user or customer with personal computer and
browser can get connected to his banks website and perform any service possible through electronic
delivery channel. There is no human operator present in the remote location to respond. All the services
listed in the menu of bank website will be available.

Mobile banking (M-banking) :

Mobile banking (M-banking) is a system that allows customers of a financial institution to conduct a
number of financial transactions through a mobile device such as a mobile phone or tablet through
specifically designed Mobile Banking Apps. It is the most convenient and easy way to stay connected
with the bank. It refers to provision and availing of banking and financial services with the help of mobile
telecommunication devices. The scope of offered services may include facilities to conduct bank and
stock market transactions, to administer accounts and to access customised information. Mobile banking
has until 2010 most often been performed via SMS, known as SMS Banking.

The typical mobile banking services may include: (1) Mini-statements and checking of account history,
(2) Funds transfers between the customer's linked accounts, (3) Paying third parties, including bill
payments and third party fund transfers, (4) Alerts on account activity or passing of set thresholds, (5)
Cheque book and card requests, (6) Access to loan statements, (7) Access to card statements, (8) Status of
requests for credit, including mortgage approval, and insurance coverage, (9) Mutual funds/equity
statements, (10) Real-time stock quotes, (11) Personalised alerts and notifications on security prices, (12)
Monitoring of term deposits (13) Portfolio management services, (14) ATM Location etc.

With the advent of technology and increasing use of smart phone and tablet based devices, the use of
mobile banking functionality would enable customers connect across various services. The rapid growth
of smart phones based on Google's Android Operating System have led to the increasing use of special
client programs, called ‘Apps’ downloaded to the mobile devices. With further advancements in web
technologies, more and more banks are launching mobile web based services. But, mobile banking is
attractive and popular mainly among the younger and ‘tech-savvy’ customers.
Core banking
Core banking is a banking service provided by a group of networked bank branches where customers
may access their bank account and perform basic transactions from any of the member branch offices.
Core banking is often associated with retail banking and many banks treat the retail customers as their
core banking customers. Businesses are usually managed via the Corporate banking division of the
institution. Core banking covers basic depositing and lending of money.
Normal Core Banking functions will include transaction accounts, loans, mortgages and payments. Banks
make these services available across multiple channels like ATMs, Internet banking, mobile banking and
branches.
The core banking services rely heavily on computer and network technology to allow a bank to centralise
its record keeping and allow access from any location. It has been the development of banking software
that has allowed core banking solutions to be developed.

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History
Core banking became possible with the advent of computer and telecommunication technology that
allowed information to be shared between bank branches quickly and efficiently.
Before the 1970s it used to take at least a day for a transaction to reflect in the account because each
branch had their local servers, and the data from the server in each branch was sent in a batch to the
servers in the data center only at the end of the day (EoD).
Over the following 30 years most banks moved to core banking applications to support their operations
where CORE Banking may stand for "centralized online real-time exchange". This basically meant that
all the bank's branches could access applications from centralized data centers. This meant that the
deposits made were reflected immediately on the bank's servers and the customer could withdraw the
deposited money from any of the bank's branches.

Software solutions
Core banking solutions is jargon used in banking circles. The advancement in technology, especially
Internet and information technology has led to new ways of doing business in banking. These
technologies have reduced manual work in banks and increasing efficiency. The platform where
communication technology and information technology are merged to suit core needs of banking is
known as core banking solutions. Here, computer software is developed to perform core operations of
banking like recording of transactions, passbook maintenance, interest calculations on loans and deposits,
customer records, balance of payments and withdrawal. This software is installed at different branches of
bank and then interconnected by means of computer networks based on telephones, satellite and the
internet. It allows the banks customers to operate accounts from any branch if it has installed core
banking solutions.

Gartner defines a core banking system as a back-end system that processes daily banking transactions,
and posts updates to accounts and other financial records. Core banking systems typically include
deposit, loan and credit-processing capabilities, with interfaces to general ledger systems and reporting
tools. Core banking applications are often one of the largest single expense for banks and legacy software
are a major issue in terms of allocating resources. Strategic spending on these systems is based on a
combination of service-oriented architecture and supporting technologies that create extensible
architectures.

Many banks implement custom applications for core banking. Others implement/customize commercial
ISV packages. While many banks run core banking in-house, there are some which use outsourced
service providers as well. There are several Systems integrators like Cognizant, Edge Verve Systems
Limited, Capgemini, Accenture, IBM and TCS which implement these core banking packages at banks.

Software solutions

Core banking solutions is jargon used in banking circles. The advancement in technology, especially
Internet and information technology has led to new ways of doing business in banking. These
technologies have reduced manual work in banks and increasing efficiency. The platform where
communication technology and information technology are merged to suit core needs of banking is
known as core banking solutions. Here, computer software is developed to perform core operations of
banking like recording of transactions, passbook maintenance, interest calculations on loans and deposits,
customer records, balance of payments and withdrawal. This software is installed at different branches of
bank and then interconnected by means of computer networks based on telephones, satellite and the
internet. It allows the banks customers to operate accounts from any branch if it has installed core
banking solutions.

Gartner defines a core banking system as a back-end system that processes daily banking transactions,
and posts updates to accounts and other financial records. Core banking systems typically include
deposit, loan and credit-processing capabilities, with interfaces to general ledger systems and reporting

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tools. Core banking applications are often one of the largest single expense for banks and legacy software
are a major issue in terms of allocating resources. Strategic spending on these systems is based on a
combination of service-oriented architecture and supporting technologies that create extensible
architectures.

Many banks implement custom applications for core banking. Others implement/customize commercial
ISV packages. While many banks run core banking in-house, there are some which use outsourced
service providers as well. There are several Systems integrators like Cognizant, EdgeVerve Systems
Limited, Capgemini, Accenture, IBM and TCS which implement these core banking packages at banks.

What is core banking?

Core banking has historically meant the critical systems that provide the basic account management
features and information about customers and account holdings.
Modern packaged core banking platforms are typically more holistic and often include these features as
well as:
 Customer relationship management features including a 360 degree customer view
 The ability to originate new products and customers
 Banking analytics including risk analysis, profitability analysis and provisions for capital reserve allocation
and collateral management
 Banking finance including general ledger and reporting
 Banking channels such as teller systems, side counter (sales) applications, mobile banking and online
banking solutions
 Best practice workflow processes
 Content management facilities
 Governance and compliance capabilities such as internal controls management and auditing
 Security control and audit capabilities
As you can likely tell from the two very different descriptions above – older core banking platforms and
modern core banking platforms are quite different.  Replacing these older systems with modern ones is
often a time when banks consider strategic transformation, process revision and identifying new target
operating models.
These are considered some of the most (if not the most) challenging and rigorous initiatives that
organizations can undertake with some programs lasting ten years or more and others assigning teams of
hundreds working towards a single “big bang” event.
Regardless of how you define or assess these programs it is clear that this is an emerging area where
collaboration and discussion can help develop best practices in this area.

Core Banking Solution

Core Banking Solution (CBS) is networking of branches, which enables Customers to operate their
accounts, and avail banking services from any branch of the Bank on CBS network, regardless of where
he maintains his account. The customer is no more the customer of a Branch. He becomes the Bank’s
Customer. Thus CBS is a step towards enhancing customer convenience through Anywhere and Anytime
Banking.
How shall CBS help Customers?
All CBS branches are inter-connected with each other. Therefore, Customers of CBS branches can avail
various banking facilities from any other CBS branch located any where in the world. These services*
are:
 To make enquiries about the balance; debit or credit entries in the account.
 To obtain cash payment out of his account by tendering a cheque.
 To deposit a cheque for credit into his account.
 To deposit cash into the account.
 To deposit cheques / cash into account of some other person who has account in a CBS branch.
 To get statement of account.
 To transfer funds from his account to some other account – his own or of third party, provided
both accounts are in CBS branches.

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 To obtain Demand Drafts or Banker’s Cheques from any branch on CBS – amount shall be online
debited to his account.
 Customers can continue to use ATMs and other Delivery Channels, which are also interfaced with
CBS platform. Similarly, facilities like Bill Payment, I-Bob, M-bob etc. shall also continue to be
available. Bank is in the process of launching Internet-banking facility shortly.
All these aim to provide convenient, efficient, and high quality banking experience to the customers,
comparable to world class standards.
What is 'Basel II'
Basel II is a set of banking regulations put forth by the Basel Committee on Bank Supervision, which
regulates finance and banking internationally. Basel II attempts to integrate Basel capital standards with
national regulations, by setting the minimum capital requirements of financial institutions with the goal of
ensuring institution liquidity.
Basel
Basel II is an international business standard that requires financial institutions to maintain enough cash
reserves to cover risks incurred by operations. The Basel accords are a series of recommendations on
banking laws and regulations issued by the Basel Committee on Banking Supervision (BSBS). The name
for the accords is derived from Basel, Switzerland, where the committee that maintains the accords
meets.
Basel II improved on Basel I, first enacted in the 1980s, by offering more complex models for calculating
regulatory capital. Essentially, the accord mandates that banks holding riskier assets should be required to
have more capital on hand than those maintaining safer portfolios. Basel II also requires companies to
publish both the details of risky investments and risk management practices. The full title of the accord is
Basel II: The International Convergence of Capital Measurement and Capital Standards - A Revised
Framework.
The three essential requirements of Basel II are:
1. Mandating that capital allocations by institutional managers are more risk sensitive.
2. Separating credit risks from operational risks and quantifying both.
3. Reducing the scope or possibility of regulatory arbitrage by attempting to align the real or
economic risk precisely with regulatory assessment.
Basel II has resulted in the evolution of a number of strategies to allow banks to make risky investments,
such as the subprime mortgage market. Higher risks assets are moved to unregulated parts of holding
companies. Alternatively, the risk can be transferred directly to investors by securitization, the process of
taking a non-liquid asset or groups of assets and transforming them into a security that can be traded on
open markets
Basel II is the second of the Basel Accords, (now extended and partially superseded by Basel III), which
are recommendations on banking laws and regulations issued by the Basel Committee on Banking
Supervision.
Basel II, initially published in June 2004, was intended to amend international standards that controlled
how much capital banks need to hold to guard against the financial and operational risks banks face.
These rules sought to ensure that the greater the risk to which a bank is exposed, the greater the amount
of capital the bank needs to hold to safeguard its solvency and economic stability. Basel II attempted to
accomplish this by establishing risk and capital management requirements to ensure that a bank has
adequate capital for the risk the bank exposes itself to through its lending, investment and trading
activities. One focus was to maintain sufficient consistency of regulations so to limit competitive
inequality amongst internationally active banks.
Basel II was implemented in the years prior to 2008, and was only to be implemented in early 2008 in
most major economies; that year's Financial crisis intervened before Basel II could become fully
effective. As Basel III was negotiated, the crisis was top of mind and accordingly more stringent
standards were contemplated and quickly adopted in some key countries including in Europe and the
USA.
Objective
The final version aims at:
1. Ensuring that capital allocation is more risk sensitive;

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2. Enhance disclosure requirements which would allow market participants to assess the capital adequacy of
an institution;
3. Ensuring that credit risk, operational risk and market risk are quantified based on data and formal
techniques;
4. Attempting to align economic and regulatory capital more closely to reduce the scope for regulatory
arbitrage.
While the final accord has at large addressed the regulatory arbitrage issue, there are still areas where
regulatory capital requirements will diverge from the economic capital.
The accord in operation: Three pillars
Basel II uses a "three pillars" concept – (1) minimum capital requirements (addressing risk), (2)
supervisory review and (3) market discipline.
The Basel I accord dealt with only parts of each of these pillars. For example: with respect to the first
Basel II pillar, only one risk, credit risk, was dealt with in a simple manner while market risk was an
afterthought; operational risk was not dealt with at all.
The first pillar: Minimum capital requirements
The first pillar deals with maintenance of regulatory capital calculated for three major components of risk
that a bank faces: credit risk, operational risk, and market risk. Other risks are not considered fully
quantifiable at this stage.
1. The credit risk component can be calculated in three different ways of varying degree of sophistication, namely
standardized approach, Foundation IRB, Advanced IRB and General IB2 Restriction. IRB stands for "Internal
Rating-Based Approach".
2. For operational risk, there are three different approaches – basic indicator approach or BIA, standardized
approach or TSA, and the internal measurement approach (an advanced form of which is the advanced
measurement approach or AMA).
3. For market risk the preferred approach is VaR (value at risk).
As the Basel II recommendations are phased in by the banking industry it will move from standardised
requirements to more refined and specific requirements that have been developed for each risk category
by each individual bank. The upside for banks that do develop their own bespoke risk measurement
systems is that they will be rewarded with potentially lower risk capital requirements. In the future there
will be closer links between the concepts of economic and regulatory capital.
The second pillar: Supervisory review
This is a regulatory response to the first pillar, giving regulators better 'tools' over those previously
available. It also provides a framework for dealing with systemic risk, pension risk, concentration risk,
strategic risk, reputational risk, liquidity risk and legal risk, which the accord combines under the title of
residual risk. Banks can review their risk management system.
The Internal Capital Adequacy Assessment Process (ICAAP) is a result of Pillar 2 of Basel II accords.
The third pillar: The Market Discipline
This pillar aims to complement the minimum capital requirements and supervisory review process by
developing a set of disclosure requirements which will allow the market participants to gauge the capital
adequacy of an institution.
Market discipline supplements regulation as sharing of information facilitates assessment of the bank by
others, including investors, analysts, customers, other banks, and rating agencies, which leads to good
corporate governance. The aim of Pillar 3 is to allow market discipline to operate by requiring institutions
to disclose details on the scope of application, capital, risk exposures, risk assessment processes, and the
capital adequacy of the institution. It must be consistent with how the senior management, including the
board, assess and manage the risks of the institution.
When market participants have a sufficient understanding of a bank's activities and the controls it has in
place to manage its exposures, they are better able to distinguish between banking organizations so that
they can reward those that manage their risks prudently and penalize those that do not.
These disclosures are required to be made at least twice a year, except qualitative disclosures providing a
summary of the general risk management objectives and policies which can be made annually.
Institutions are also required to create a formal policy on what will be disclosed and controls around them
along with the validation and frequency of these disclosures. In general, the disclosures under Pillar 3
apply to the top consolidated level of the banking group to which the Basel II framework applies.

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What is 'Basel III'
Basel III is a comprehensive set of reform measures designed to improve the regulation, supervision and risk
management within the banking sector. The Basel Committee on Banking Supervision published the first
version of Basel III in late 2009, giving banks approximately three years to satisfy all requirements. Largely in
response to the credit crisis, banks are required to maintain proper leverage ratios and meet certain capital
requirements.

Debit Cards:

A debit card is a plastic payment card that provides the cardholder electronic access to their bank account
at a financial institution. Most cards relay a message to the cardholder's bank to withdraw funds from a
payer's designated bank account. Debit cards usually allow for instant withdrawal of cash, acting as the
ATM card for withdrawing cash. The card, where accepted, can be used instead of cash when making
purchases. Unlike credit and charge cards, payments using a debit card are immediately transferred from
the cardholder's designated bank account, instead of them paying the money back at a later date.

There are currently three ways that debit card transactions are processed, namely, (i) Online debit or PIN
debit, (ii) Offline debit or signature debit, and (iii) The Electronic Purse System. One physical card can
include the functions of all three types, so that it can be used in a number of different circumstances. In
many countries, the use of debit cards has become so widespread that their volume has overtaken or
entirely replaced cheques and, in some instances, cash transactions. Although many debit cards are of the
Visa or Master Card brand, there are many other types of debit card, each accepted only within a
particular country or region. The National Payments Corporation of India (NPCI) has launched a new
card called RuPay.

Debit cards may also be used on the Internet. Internet purchases can be authenticated by the consumer
entering their PIN. The online debit cards require electronic authorization of every transaction and the
debits are reflected in the user’s account immediately. The transaction may be additionally secured with
the personal identification number (PIN) authentication system.

Credit Cards:

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 user from which he can borrow money for payment to
a merchant or as a cash advance to the user. Credit cards may be treated as ‘convenient credit’ that allow
the consumers a continuing balance of debt, subject to interest being charged. It can be used like currency
by the owner of the card. It typically involves a third-party entity that pays the seller and is reimbursed by
the buyer.

Credit cards may simply serve as a form of revolving credit. The main benefit to the cardholder is
convenience. Compared to debit cards and checks, a credit card allows small short- term loans to be
quickly made to a cardholder who need not calculate a balance remaining before every transaction,
provided the total charges do not exceed the maximum credit line for the card. 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. Each month, the cardholder is sent a statement indicating the purchases made with the
card, any outstanding fees, and the total amount owed.

Electronic verification systems allow merchants to verify in a few seconds that the card is valid and the
cardholder has sufficient credit to cover the purchase, allowing the verification to happen at time of
purchase. The verification is performed using a credit card payment terminal or point-of-sale (POS)
system with a communications link to the merchant's acquiring bank. Credit card issuers usually waive
interest charges if the balance is paid in full each month, but typically will charge full interest on the
entire outstanding balance from the date of each purchase if the total balance is not paid.

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Credit cards are accepted in larger establishments in almost all countries, and are available with a variety
of credit limits and repayment arrangements. Many credit cards offer rewards and benefits packages, such
as enhanced product warranties at no cost, free loss/damage coverage on new purchases and various
insurance protections. Credit cards can also offer a loyalty program, where each purchase is rewarded
with points, which may be redeemed for further goods and services or cash back.
Credit Card Vs Debit Card

Credit card Debit card

It is a “pay later product” It is “pay now product
The card holder can avail of credit for 30-45 days Customers account is debited
Immediately
No sophisticated communication system is required Sophisticated communication network/ system is required for
for credit card operation debit card operation ( eg.ATM)
Opening bank account and maintaining required Opening bank account and maintaining required amount are
amountare not essential essential
Possibility of risk of fraud is high Risk is minimised through using PIN
Smart Card
Smart card is a plastic card about the size of a credit card, with an embedded microchip that can be
loaded with data, used for telephone calling, electronic cash payments, and other applications, and then
periodically refreshed for additional use.

A smart card resembles a credit card in size and shape, but inside it is completely different. First of all, it
has an inside--a normal credit card is a simple piece of plastic. The inside of a smart card usually contains
an embedded microprocessor. The microprocessor is under a gold contact pad on one side of the card.
Smarts cards may have up to 8 kilobytes of RAM, 346 kilobytes of ROM, 256 kilobytes of
programmable ROM, and a 16-bit microprocessor.

The most common smart card applications are:

 Credit cards
 Electronic cash
 Computer security systems
 Wireless communication
 Loyalty systems (like frequent flyer points)
 Banking
 Satellite TV
 Government identification

National Electronic Funds Transfer (NEFT) / Electronic Funds Deposits(EFD)

National Electronic Funds Transfer (NEFT) is a nation-wide payment system facilitating one-to-one
funds transfer. Under this Scheme, individuals, firms and corporates can electronically transfer funds
from any bank branch to any individual, firm or corporate having an account with any other bank branch
in the country participating in the Scheme. NEFT is a credit- push system i.e., transactions can be
originated by the payer or remitter.
The NEFT system takes advantage of the core banking system in banks. Accordingly, the settlement of
funds between originating and receiving banks takes places centrally at Mumbai, whereas the branches
participating in NEFT can be located anywhere across the length and breadth of the country. For being
part of the NEFT funds transfer network, a bank branch has to be NEFT-enabled. Indian Financial
System Code (IFSC) is an alpha-numeric code that uniquely identifies a bank-branch participating in the
NEFT system. This is an 11 digit code with the first 4 alpha characters representing the bank, and the last
6 characters representing the branch. The 5th character is 0 (zero). IFSC is used by the NEFT system to
identify the originating/ destination banks/branches and also to route the messages appropriately to the
concerned banks/branches.

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Presently, NEFT operates in hourly batches – there are twelve settlements from 8 am to 7 pm on week
days (Monday through Friday) and six settlements from 8 am to 1 pm on Saturdays. The beneficiary can
expect to get credit for the NEFT transactions within two business hours. There is no limit – either
minimum or maximum – on the amount of funds that could be transferred using NEFT. However,
maximum amount per transaction is limited to Rs. 200000.
NEFT offers many advantages to the customers over the other modes of funds transfer as listed below:
 The remitter need not send the physical Cheque or Demand Draft to the beneficiary.
 The beneficiary need not visit his/her bank for depositing the paper instruments.
 The beneficiary need not be apprehensive of loss/theft of physical instruments or the likelihood
of fraudulent encashment thereof.
 Cost effective.
 Credit confirmation of the remittances sent by SMS or email.
 Remitter can initiate the remittances from his home/place of work using the internet banking also.
 Near real time transfer of the funds to the beneficiary account in a secure manner.
Besides personal funds transfer, the NEFT system can also be used for a variety of transaction including
payment of credit card dues to the card issuing banks, payment of loan EMI etc. It is necessary to quote
the IFSC of the beneficiary card issuing bank to initiate the bill payment transactions using NEFT.
Real Time Gross Settlement (RTGS)
Real Time Gross Settlement (RTGS) can be defined as the continuous (real-time) settlement of funds
transfers individually on an order by order basis (without netting). 'Real Time' means the processing of
instructions at the time they are received rather than at some later time and 'Gross Settlement' means the
settlement of funds transfer instructions occurs individually (on an instruction by instruction basis). The
RTGS system is primarily meant for large value transactions. The minimum amount to be remitted
through RTGS is Rs. 2 lakh. There is no upper ceiling for RTGS transactions.
Under normal circumstances the beneficiary branches are expected to receive the funds in real time as
soon as funds are transferred by the remitting bank. The beneficiary bank has to credit the beneficiary's
account within 30 minutes of receiving the funds transfer message. The RTGS service window for
customer's transactions is available to banks from 9.00 hours to 16.30 hours on week days and from 9.00
hours to 14:00 hours on Saturdays for settlement at the RBI end. However, the timings that the banks
follow may vary depending on the customer timings of the bank branches.
There is a fundamental difference between NEFT and RTGS. NEFT is an electronic fund transfer system
that operates on a Deferred Net Settlement (DNS) basis which settles transactions in batches. In DNS, the
settlement takes place with all transactions received till the particular cut-off time. These transactions are
netted (payable and receivables) in NEFT whereas in RTGS the transactions are settled individually. For
example, currently, NEFT operates in hourly batches. Any transaction initiated after a designated
settlement time would have to wait till the next designated settlement time Contrary to this, in the RTGS
transactions are processed continuously throughout the RTGS business hours.

Overview of Electronic Cheque Clearing and Processing

Cheque clearing is basically a process in which interbank cheques are processed for settlement. Cheque
clearing is usually done by an authorised clearing house or, in some countries, by the central bank.
Electronic cheque clearing allows for faster settlement, up to one day settlement in some countries. In
other countries, however, cheque settlement may take longer due to more intricate procedures such as
upstream to downstream processing of physical documents, in this case the paper cheque.
Regardless of the different procedures and settlement time, at the end cheque clearing and settlement
processes facilitate financial transactions between participating institutions, especially banks.There are
several mechanisms with which cheque clearing / cheque settlement may be conducted in a country.
Some countries may adopt a particular cheque clearing mechanism, while other countries may have
preferred a different business flow.

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Benefit of Electronic Cheque Clearing

(Nepal Clearing House) NCHL-ECC is an image-based, cost-effective, MICR cheque processing &
settlement solution where an original paper cheque is converted into an image for electronic processing of
the financial transactions between participating member Banks/FIs. The physical movement of the
cheques are truncated or stopped at the presenting bank and the cheques' images are electronically moved
between the presenting and paying banks resulting in a faster and easier processing of the cheque
transactions.
Some of the direct benefits to the Banks/ FIs from NCHL-ECC system are:
1. Same day clearing and settlement at Nepal Rastra Bank (NRB) with minimum settlement time of (T+0) and maximum of
(T+1) irrespective of the geographic location of the bank/branch.
2. No need to physically move the cheques from the branches to NRB clearing house. Cheques will be truncated at the
presenting bank which would speed up the process of settlement and ultimately alter the clearing cycle.
3. Introduces a fully electronic solution using the modern digital communications and networking technologies to almost
replace the paper based process.
4. Better reconciliation / verification process as banks/FIs can know their net position at any point of time.
5. Limited cheque movement means saving on transportation and manpower cost.
6. Possibility of reducing manpower required for transfer and handling of cheques, which is a direct reduction on transaction
costs.
7. Increase in operational efficiency.
8. Reduces operational risk of cheque losses and cheque related frauds by securing the transmission route.
9. Better customer service due to elongated customer window.
10. Enables both the Presenting and the Paying bank to track and audit the processes involved from the point of initiation to
the final stage of cheque truncation.
11. Ease of maintaining and accessing cheque image and other associated data that will ease day to day operation and for
historical data.
12. Possibility to differentiate and priorities cheques as VIP cheques.
13. On-line notification between the clearing house and banks.
14. Possibility of extended such services to the entire country with no geographical dependency and providing new services/
products based on ECC to its customers. It even allows the banks/FIs to provide 24x7 services.
End!

Unit II
Banking Product and Services
One of the various services offered by a bank to its customers: mortgages, loans, insurance etc.  
⇒ Bank offer a full range of banking products, from current and saving accounts to loans and mortgages.
The term identified banking product means:
a. a deposit account, savings account, certificate of deposit, or other deposit instrument issued by a
bank;

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b. a banker's acceptance;
c. a letter of credit issued or loan made by a bank;
d. a debit account at a bank arising from a credit card or similar arrangement;
e. a participation in a loan which the bank or an affiliate of the bank funds, participates in, or owns
that is sold to qualified investors or to other; or
f. any swap agreement, including credit and equity swaps.
Deposit product
Deposit product consists of acquisitions of stable and low cost depostit for the banking business. Banks are not
only dealers in money but also manufacturers of credit money. It is in the sense of manufacturing that the concept
of credit creation is used. Similarly deposit creation is an important function of commercial banks. Without deposit
they cannot lend at all. When the banks receive cash from customers, deposit are created . Therse deposits may be
current, saving or fixed. Depositors choose the types on the basis of their needs and requirements like; safety,
convenience or earning. People deposit their income in commercial banks because bank vault are safer that home
coffers. The bank attracts deposits from the people either by means of offering interests  or facilities. Business
people want seek for facilities rather than interest. Non business people generally select deposits having interests.
The type and characteristics of deposits are constantly changing as banks are offering new product to attract new
consumers. unlike the past, people are nowadays more aware and have confidence on banks on such the banking
habit growing gradually. Deposit management involves the collection of adequate bank deposits required for the
efficient and effective operation of banking business. Deposit management does not merely concern with the high
volume but also with low cost as well  and its stability so as to produce competitive loans product.
Types of deposits
General practice in the banking business shows that there are several deposit products in the market. These
deposits can vary from one bank to other. Principally these can be categorized as;
Current deposit:- It can be also known as Demand Deposit. These deposits are generally maintained by the
traders and businessman who have to make a number of payments frequently and regularly. These deposits are
withdrawable by the depositors at any time by means of cheque. Usually no interest is paid on them hence called
non-interest bearing. Depositors may have to pay certain charges to the bank for the service rendered. Any amount
of money may be deposited in this account.
Saving deposit :- These Deposit stand midway between Current and Fixed deposits. Banks may impose certain
restrictions on the depositors regarding the number of withdrawals and the amount to be deposited in a given
period. Cheque facility is provided to the depositors. Rate of interest paid on these deposits is low as compared to
that of fixed deposits. Saving account are offered by commercial banks and financial institutions.Obtaining funds
in saving account may not be as profitable as demand deposit account because these deposits are generally paid
interest. A bank may insist on receiving prior notice of a planned withdrawal from saving deposit. But this practice
has been disappearing gradually due to the cut throat competition. However these deposits are less volatile and less
concentrated in nature and are considered as the best type of depostits.
Fixed deposit :- A fixed deposit is a deposit at banking institution that cannot be withdrawn for a certain term or
period time.  When the term is over it can be withdrawn or it can be held for another term. The longer the term the
better the yield of interest on the deposit. In this type of deposit, a customer is required to keep fixed amount of
money with the bank for a specific purpose and period of tme. Depositor is not allowed to withdrawl the amount
before the maturity period. In case if depositor has to withdraw the amount the aggrement will be void and no/or
less interest is paid.
Call deposit :- Call deposit also known as hybrid deposit is a combination of current and fixed deposit invented for
meeting customers financial needs in a flexible manner. Increasing competition has facilitated to introduce this
deposit product. This deposit mainly serves the need of apprepriate asset liability mnagement of the banks and
financial institutions. Generally the practice of inter-bank borrowing and lending activities conducted through this
product.
Margin deposit :- This account is meant for holding margin money of the customers as deposit(non-interest
bearing) to avail various facilities from the bank . Customers are not allowed to withdraw any amount from such
accounts till the expiry of the availed facilities. Margins are required for Guarantee, remittance and some other
facilities.

Principles of Good Lending- Loans(Lending Principles)

There are few general principles of good lending which every banker follows when appraising an
advance proposal.

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Lending money is one of the primary functions of the bank. Lending of funds to individuals, traders,
businessmen and industrial enterprises, is one of the important activities of commercial banks. Interest
earns on these loans and advances are the major source of income of the banks. Interest given on deposits
is lower than the interest received on such loans and advances. Amount deposited by the customers forms
the main source of loans and advances. Banks lend money in various forms for various purposes.
Operation and expansion of business and commercial activities depend a great deal on the availability of
loans/advances from commercial banks. The term ‘loan’ refers to the amount borrowed by one person
from another. The amount is in the nature of loan and refers to the sum paid to the borrower. Thus from
the view point of borrower, it is ‘borrowing’ and from the view point of bank, it is ‘lending’. Loan may
be regarded as ‘credit’ granted where the money is disbursed and its recovery is made on a later date. It is
a debt for the borrower. While granting loans, credit is given for a definite purpose and for a
predetermined period. Interest is charged on the loan at agreed rate and intervals of payment. ‘Advance’
on the other hand, is a ‘credit facility’ granted by the bank. Banks grant advances largely for short-term
purposes, such as purchase of goods traded in and meeting other short-term trading liabilities. There is a
sense of debt in loan, whereas an advance is a facility being availed of by the borrower. However, like
loans, advances are also to be repaid. Thus a credit facility-repayable in installments over a period is
termed as loan while a credit facility repayable within one year may be known as advances.
Banks should follow some basic principles at the time of lending. This ensures efficient and long term
working of the banks. Some of the basic principles of lending are as follows:
1. Principles of Safety:
The most important rule for granting/lending loans is the safety of funds. This is so because the banks
earn income through these loans and advances. In case the bank does not get back the loans granted by it,
it might fail. A bank cannot and must not sacrifice the safety of its funds to get higher rate of interest.
Banks must ensure the creditworthiness of the borrower before lending
2. Principles of Liquidity:
The second important principle of granting loan is liquidity. Liquidity means possibility of converting
loans into cash without loss of time and money. Funds with the bank out of which he lends money are
payable on demand or short notice. As such a bank cannot afford to block its funds for a long time. Hence
the bank should lend only for short-term requirements like working capital. The bank cannot and should
not lend for long-term requirements, like fixed capital.

3. Principles of Return or Profitability:

Return or profitability is another important principle. The funds of the bank should be invested to earn
highest return, so that it may pay a reasonable rate of interest to its customers on their deposits,
reasonably good salaries to its employees and a good return to its shareholders. However, a bank should
not sacrifice either safety or liquidity to earn a high rate of interest.
4. Principles of Diversification:
‘One should not put all his eggs in one basket’ is an old proverb which very clearly explains this
principle. A bank should not invest all its funds in one industry. In case that industry fails, the banker will
not be able to recover his loans. Hence, the bank may also fail. According to the principle of
diversification, the bank should diversify its investments in different industries and should give loans to
different borrowers in one industry. It is less probable that all the borrowers and industries will fail at one
and the same time.
5. Principles of Object of Loan(Purpose):
A banker should thoroughly examine the object for which his client is taking loans. This will enable the
bank to assess the safety and liquidity of its investment. A banker should not grant loan for unproductive
purposes.The bank may grant loan to meet working capital requirements. However, after nationalization
of banks, the banks have started granting loans to meet long-term requirements.

6. Principles of Security(Collateral):
A banker should grant secured loans only. In case the borrower fails to return the loan, the banker may
recover his loan after realizing from the sale of security. In case of unsecured loans, the chances of bad
debts will be very high. Security conditions are different in different banks.

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7. Principles of Margin Money:
In case of secured loans, the bank should carefully examine and value the security. There should be
sufficient margin between the amount of loan and the value of the security. If adequate margin is not
maintained, the loan might become unsecured in case the borrower fails to pay the interest and return the
loan. The amount of loan should not exceed 60 to 70% of the value of the security. If the value of the
security is falling, the bank should demand further security without delay. In case he fails to do so, the
loan might become unsecured and the bank may have to suffer loss on account of bad debt.
8. Principles of Suitability, National Interest:
Banks were nationalized in Nepal to have social control over them. As such, they are required to invest a
certain percentage of loans and advances in priority sectors viz., agriculture, small scale and tiny sector,
and export-oriented industries etc. Again, the NRB also gives directives in this respect to the scheduled
banks from time to time. The banks are under obligations to comply with those directives.
9. Principles of Character of the Borrower:
The bank should carefully examine the character of the borrower. Character implies honesty, integrity,
credit-worthiness and capacity of the borrower to return the loan. In case he fails to verify the character of
the borrower, the loans and advances might become bad debts for the bank.
10.Principles of Central Bank Policy:
Banks Lending Policy depends upon the central bank’s policy,directives.
11. Principles of Monetary Policy:
Banks lending principles is regarding on the monetary policy issued by central bank.
12.Principles of Operational Mannual:
Banks lending principles is based on the respective bank’s operational manual and credit manual.
13.Principles of growth and expansion:
Every bank wants to growth and expansion its business to sustain in the environment for long term.
The above are thus the basic principles of sound lending observed by commercial banks. Basic principles
must be reviewed and modified as per the need and requirement of the current scenario.

Types of Lending
Commercial banks lend money in four different ways:
I. Loans
Loan is the amount borrowed from bank. The nature of borrowing is that the money is disbursed and
recovery is made in installments. While lending money by way of loan, credit is given for a definite
purpose and for a pre-determined period. Depending upon the purpose and period of loan, each bank has
its own procedure for granting loan. However the bank is at liberty to grant the loan requested or refuse it
depending upon its own cash position and lending policy. There are two types of loan available from
banks:
(a)Demand Loan:- A Demand Loan is a loan which is repayable on demand by the bank. In other words,
it is repayable at short-notice. The entire amount of demand loan is disbursed at one time and the
borrower has to pay interest on it. The borrower can repay the loan either in lump sum (one time) or as
agreed with the bank. Such loans are normally granted by banks against security. The security may
include materials or goods in stock, shares of companies or any other asset. Demand loans are raised
normally for working capital purposes, like purchase of raw materials, making payment of short-term
liabilities.
(b)Term Loans : Medium and long term loans are called term loans. Term loans are granted for more
than a year and repayment of such loans is spread over a longer period. The repayment is generally made
in suitable instalments of a fixed amount. Term loan is required for the purpose of starting a new business
activity, renovation, modernization, expansion/ extension of existing units, purchase of plant and
machinery, purchase of land for setting up of a factory, construction of factory building or purchase of
other immovable assets. These loans are generally secured against the mortgage of land, plant and
machinery, building and the like.
II. Cash Credit
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Cash credit is a flexible system of lending under which the borrower has the option to withdraw the funds
as and when required and to the extent of his needs. Under this arrangement, the banker specifies a limit
of loan for the customer (known as cash credit limit) up to which the customer is allowed to draw. The
cash credit limit is based on the borrower’s need and as agreed with the bank. Against the limit of cash
credit, the borrower is permitted to withdraw as and when he needs money subject to the limit sanctioned.
It is normally sanctioned for a period of one year and secured by the security of some tangible assets or
personal guarantee. If the account is running satisfactorily, the limit of cash credit may be renewed by the
bank at the end of year. The interest is calculated and charged to the customer’s account. Cash credit, is
one of the types of bank lending against security by way of pledge or /hypothetication of goods. ‘Pledge’
bailment of goods as security for payment of debt. Its primary purpose is to put the goods pledged in the
possession of the lender. It ensures recovery of loan in case of failure of the borrower to repay the
borrowed amount. In ‘Hypothetication’, goods remain in the possession of the borrower, who finds
himself under the agreement to give possession of goods to the banker whenever the banker requires him
to do so. So hypothetication is a device to create a charge over the asset under circumstances in which
transfer of possession is either inconvenient or impracticable.
III. Overdraft
Overdraft facility is more or less similar to ‘cash credit’ facility. Overdraft facility is the result of an
agreement with the bank by which a current account holder is allowed to draw over and above the credit
balance in his/ her account. It is a short-period facility. This facility is made available to current account
holders who operate their account through cheques. The customer is permitted to withdraw the amount of
overdraft allowed as and when he/she needs it and to repay it through deposits in the account as and when
it is convenient to him/her. Overdraft facility is generally granted by a bank on the basis of a written
request by the customer. Sometimes the bank also insists on either a promissory note from the borrower
or personal security of the borrower to ensure safety of amount withdrawn by the customer. The interest
rate on overdraft is higher than is charged on loan. The following are some of the benefits of cash credits
and overdraft :-
(i) Cash credit and overdraft allow flexibility of borrowing which depends upon the need of the
borrower.
(ii) There is no necessity of providing security and documentation again and again for borrowing
funds.
(iii) This mode of borrowing is simple, elastic and meets the short term financial needs of the
business.

IV. Discounting of Bills

Apart from sanctioning loans and advances, discounting of bills of exchange by bank is another way of
making funds available to the customers. Bills of exchange are negotiable instruments which enable
debtors to discharge their obligations to the creditors. Such Bills of exchange arise out of commercial
transactions both in inland trade and foreign trade. When the seller of goods has to realize his dues from
the buyer at a distant place immediately or after the lapse of the agreed period of time, the bill of
exchange facilitates this task with the help of the banking institution. Banks invest a good percentage of
their funds in discounting bills of exchange. These bills may be payable on demand or after a stated
period. In discounting a bill, the bank pays the amount to the customer in advance, i.e. before the due
date. For this purpose, the bank charges discount on the bill at a specified rate. The bill so discounted, is
retained by the bank till its due date and is presented to the drawer on the date of maturity. In case the bill
is dishonoured on due date the amount due on bill together with interest and other charges is debited by
the bank to the customers.

Consortium:
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A consortium financing solution usually entails several banks or financial institutions joining hands to
finance high value/ large projects by a single borrower through a common appraisal, common
documentation and joint supervision.

A group of Independent Companies participating in a Joint Venture for mutual benefit. Companies in a
Consortium co-operate with one another, often sharing technology as needed. A Consortium allows the
Companies to conduct operations that they would not be able to do individually. It is important to note,
however, that a Consortium is not a merger and the Companies remain independent. A group of
Organizations that participate in a Joint Venture. Airbus Industries, a European Airplane manufacturer, is
a Consortium of four Public and Private Corporations in Britain, France, Spain and Germany. A group of
Organizations, sharing the same goals, which combine their resources and risks. Consortium Banking
was popular in the late 1970s, when a number of major Banks would combine to form a Merchant-
Banking or Finance-Company offshoot. Many of Australia’s Merchant Banks were formed as consortia
with European, Asian and US Banks teaming with Australian Banks. Consortium is a coalition of
Organizations, such as Banks and Corporations, set up to fund ventures requiring large capital resources.
A Consortium is an association of two or more Individuals, Companies, Organizations or Governments
(or any combination of these entities) with the objective of participating in a common activity or pooling
their resources for achieving a common goal. Consortium is a Latin word, meaning ‘partnership,
association or society’ and derives from consors ‘’ Partner”, itself from con- ‘together’ and sors ‘fate’,
meaning owner of means or comrade.

Or,

Consortium Banking:

Consortium is an association or group of independent members with the objective of participating in a

common activity or joint venture by pooling their resources for achieving a common goal and mutual
benefit. Consortium is a Latin word, meaning ‘partnership’ or ‘association’ where the members co-
operate with one another and conduct the operations that they would not be able to do individually.
Consortium banking implies the collaboration of a group of banks to make a loan. It is created to fund a
specific project or to execute a specific deal. It is also known as ‘loan syndication’ where two or more
banks come together to finance big projects requiring huge amount of money.

The consortium leverages individual banks' assets to achieve its objectives. All member banks have equal
ownership shares – no one member has a controlling interest. It shares the security interest in common.
After the bank's objective is met the consortium typically dissolves. Consortium lending is usually done
by smaller banks to reap an opportunity to be a part of a big project financing by distributing the risks
among the collaborator banks. By resorting to consortium lending, the banks not only saves their
prospective customers but also builds good relations with other banks.

There is little bit difference between consortium banking and multiple banking. Under consortium
banking, several banks or financial institutions finance a single borrower with common appraisal,
common documentation, joint supervision and follow-up exercise. But in multiple banking, different
banks provide finance and different banking facilities to a single borrower without having a common
arrangement and understanding between the lenders.

Syndication
A syndicated loan is a loan extended to a single customer by multiple financial institutions, which are
formed into a group, or "syndicate", for that purpose. The same terms and conditions apply to all of the
lenders in the syndication, and there is only one loan agreement. nation and joint supervision.

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Syndication of credit
A syndicated credit is an agreement between two of more lending institutions to provide a borrower a
credit facility using common loan documentation. A prospective borrower intending to raise resources
through this method awards a mandate to a bank as ‘Lead Manager’ to arrange credit on his behalf. The
mandate spells out the commercial terms of the credit and the prerogatives of the mandated bank in
resolving contentious issues in the course of the transaction. The mandated bank prepares an Information
Memorandum about the borrower in consultation with the latter and distributes the same amongst the
prospective lenders soliciting their participation in the credit to be extended to the borrower. The
Information Memorandum provides the basis for each lending bank making its own independent
economic and financial evaluation of the borrower, if necessary, by seeking additional supporting
information from other source as well Thereafter, the mandated bank convenes a meeting to discuss the
syndication strategy relating to coordination, communication and control within the syndication process
and finalises deal timing. charges towards management expenses and cost of credit, share of each
participating bank in the credit, etc. The loan agreement is signed by all the participating banks. The
borrower is required to give prior notice to the ‘Lead Manager’ or his agent for drawing the loan amount
to enable the latter to tie up disbursements with the other lending banks. Syndication is thus very similar
to the system of Consortium lending in terms of disposal of risk and is a convenient mode of raising long
term funds by borrowers.
Documentary Credit:
A letter of credit is a document from a bank
guaranteeing that a seller will receive payment in
full as long as certain delivery conditions have
been met. In the event that the buyer is unable to
make payment on the purchase, the bank will
cover the outstanding amount.

A documentary letter of credit is an obligation of

the bank that opens the letter of credit (the
issuing bank) to pay the agreed amount to the
seller on behalf of the buyer, upon receipt of the
documents specified in the letter of credit.

Documentary Credit Process:

The process of a documentary credit

1. The contract is made between the

importer and the exporter.
2. The importer asks its bank to issue a
documentary credit to the exporter.
3. The importer's bank sends the
documentary credit to the exporter's
bank (advising bank).
4. The exporter's bank advises the
exporter of the issue of the
documentary credit.
5. After dispatch of the goods, the
exporter delivers the required
documents to its bank. The documents
are examined against the terms and conditions stipulated in the documentary credit. If the
requirements have been complied with, the exporter will be able to obtain payment.

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6. The exporter's bank sends the documents to the importer's bank and receives payment either at
sight or term.
7. The importer's bank delivers the documents to the importer upon reimbursement, after which the
goods may be handed over.

Financing Exporters and Importers

Export financing is often a key factor in a successful sale. Contract negotiation and closure are
important, but ultimately your company must get paid. Exporters naturally want to get paid as quickly as
possible, whereas importers usually prefer to delay payment until they have received or resold the
goods.

Definition of 'Import' A good or service brought into one country from another. Along with exports,
imports form the backbone of international trade. The higher the value of imports entering a country,
compared to the value of exports, the more negative that country's balance of trade becomes.

Export-Import Bank of India is the premier export finance institution in India, established in 1982 under
the Export-Import Bank of India Act 1981. Since its inception, Exim Bank of India has been both a
catalyst and a key player in the promotion of cross border trade and investment.

Import and Export Financing

• Usually there are more formal rules in export/import trade than purely domestic trade.
– Hard to get information on each party
– Communication is harder
– Customs are different
– Don’t want to end up in a court in a foreign country
• Basic Needs Risk of Non completion - both the buyer and seller do not want to be in the position
of having neither money nor goods
– Seller wants to have legal title to goods until getting paid or at least assurance of payment
– Buyer doesn’t want to pay until receiving the goods or receiving title to the goods.
• Transaction Exposure
Financing Import/Export Financing
Main Instruments in Export-Import
• Letter of Credit
• Draft or Bill of Exchange
• Bill of Lading
• There are some open account transactions especially between related companies and companies
that trade frequently with each other
Letter of Credit
• Issued by a bank at the request of an importer
• The bank promises to pay a beneficiary (usually the exporter or the exporter’s bank) after
receiving certain documents specified in the Letter of Credit .
Types of LC
1) Irrevocable vs. Revocable - irrevocable l/c can not be canceled or modified unless all parties
agree
2) Confirmed vs. Unconfirmed - if confirmed the exporter’s bank is obligated to honor drafts if
for some reason issuing bank can not or will not pay
3) Revolving vs. nonrevolving - nonrevolving l/c are valid for only one transaction
Draft or Bill of Exchange
• An order written by exporter telling an importer or its bank to pay a certain amount of money now
or a particular time in the future
• Drawer issues bill - exporter
• Drawee the party to whom the draft is addressed (if buyer - trade draft and if bank - bank draft)
• Sight drafts are payable right away while time drafts are payable in the future
• If drawee agrees to pay time draft - write accepted on draft
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• If drawee is a bank and draft is a time draft then once it is accepted it becomes a banker’s
acceptance.
Banker’s Acceptance
• If an exporter needs money right away can discount acceptance
• Banker’s acceptances are instruments (like CD’s) that investors hold to earn extra short-term
income .
Bill of Lading
• Issued by common carrier to exporter
• Three main purposes:
• 1) receipt (carrier has received merchandise)
• 2) contract (lists responsibilities of carrier)
• 3) document of title (used to obtain payment or promise of payment before goods are
released to importer)
• Can also function as collateral so exporter can get money by its local bank prior to receiving it
from importer.
Government Programs to Help Finance Exports
• Most governments want to encourage exports (jobs) so in many countries there are institutions
that offer export credit insurance at favorable rates and also government supported banks for
export financing.

Open Bank Account In 7 Simple Steps

Today Banks have emerged as important financial institutions. Banks provide a safe environment
and helps us manage our financial transactions. To avail professional banking service it is
mandatory for every individual to open a bank account. Opening a bank account is not a difficult
task. It takes only seven easy steps to open a bank account. This article will help you understand
these seven simple steps or procedure to open a bank account.

1. Decide the Type of Bank Account

you want to Open
There are several types of bank accounts such as
Saving Account, Recurring Account, Fixed
Deposit Account and Current Account. So a
decision regarding the type of account to be
opened must be taken.
2. Approach any Bank of choice & meet its
Bank Officer
Once the type of account is decided, the person
should approach a convenient bank. He has to
meet the bank officer regarding the opening of
the account. The bank officer will provide a
proposal form (Account Opening Form) to open
bank account.
3. Fill up Bank Account Opening Form - Proposal Form
The proposal form must be duly filled in all respects. Necessary details regarding name, address,
occupation and other details must be filled in wherever required. Two or three specimen signatures are
required on the specimen signature card. If the account is opened in joint names, then the form must be
signed jointly. Now a days the banks ask the applicant to submit copies of his latest photograph for the
purpose of his identification.
4. Give References for Opening your Bank Account

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The bank normally required references or introduction of the prospective account holder by any of the
existing account holders for that type of account. The introducer introduces by signing his specimen
signature in the column meant for the purpose The reference or introduction is required to safeguard the
interest of the bank.
5. Submit Bank Account Opening Form and Documents
The duly filled in proposal form must be submitted to the bank along with necessary documents. For e.g.
in case of a joint stock company, the application form must accompany with the Board's resolution to
open the account. Also certified copies of articles and memorandum of association must be produced.

6. Officer will verify your Bank Account Opening Form

The bank officer verifies the proposal form. He checks whether the form is complete in all respects or
not. The accompanying documents are verified. If the officer is satisfied, then he clears the proposal
form.
7. Deposit initial amount in newly opened Bank Account
After getting the proposal form cleared, the necessary amount is deposited in the bank. After depositing
the initial money, the bank provides a pass book, a cheque book and pay in slip book in the case of
savings account. In the case of fixed deposits, a fixed deposit receipt is issued. In the case of current
account, a cheque book and a pay in slip book is issued. For recurring account, the pass book and a pay in
slip book is issued.
Documents Required to Open Fixed Deposit Accounts
Eligibility
Resident Nepali
Identity Proof
 Passport
 PAN card
 Voter ID card
 Driving licence
 Government ID card
 Photo ration card
 Senior citizen ID card
Address Proof
 Passport
 Telephone bill
 Electricity bill
 Bank Statement with Cheque
 Certificate/ ID card issued by Post office
* Any other Identity proof or Address proof document can be submitted, subject to the Bank's
satisfaction.
Note
 Please produce the original document(s) for verification & a photocopy of each document.
 Please fill the form in CAPITAL LETTERS using Black ink.
 Please countersign in case of any overwriting.
 Please avail of the nomination facility.
* Mandatory to provide Permanent address and telephone number.
Procedure of Obtaining Loans and Advances
We have studied in this unit that banks provide financial assistance to its customers in the form of loans,
advances, cash credit, overdraft and through the discounting of bills. The procedure of applying for and

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sanction of loans and advances differs from bank to bank. However, the steps which are generally to be
taken in all cases are as follow:–
(I) Filling Up of Loan Application Form
Each bank has separate loan application forms for different categories of borrowers. When you want to
borrow money from a bank, you will have to fill up a loan application form available with the bank free
of cost. The loan application form contains different columns to be filled in by the applicant. It includes
all information required about the borrower, purpose of loan, nature of facility (cash-credit, overdraft etc)
required, period of repayment, nature of security offered, and the financial status of the borrower. A
running business limit may be required to furnish additional information in respect of :
- Assets and liabilities
- Profit and loss for the last 2 to 3 years.
- The names and addresses of three persons
(which may include borrowers, suppliers, customers and bankers) for reference purposes.
(II) Submission of Form Along With Relevant Documents
The loan application form duly filled in should be submitted to the bank along with the relevant
documents.
(III) Sanctioning of Loan
The bank scrutinizes the documents submitted and determines the credit worthiness of the applicant. If it
is found to be feasible, the loan is sanctioned. If the loan is for Rs 2000000 or less, normally the Branch
Manager himself can take the decision and sanction the loan. In case the amount of loan is more than Rs
2000000, the application is considered at regional, zonal or head office level, depending on the amount of
loan.

(IV) Executing the Agreement

When the loan is sanctioned by the bank and the borrower is informed about it,he will have to execute an
agreement with the bank regarding terms and condition for the amount of loan raised.
(V) Arrangement of Security for Loan
The borrower will now arrange for security against the loan. These securities may be immovable
properties, shares, debentures, fixed deposit receipts, and other documents, like Kisan Vikas Patra,
National Savings Certificate, as per agreement. When the borrower completes all the formalities, he is
allowed to get the amount of loan/advance/ over draft as sanctioned by the bank. In case of ‘discounting
of bills’, the bank credits the amount of bill to the customer’s account before the realization of the bill
and thus, makes available the fund. In case, the bill is dishonoured on due date, the amount due on the bill
together with interest and other charges are payable by the party whose bill is discounted.
Activity B:
1 Familiarize yourself with the important documents, like application form for loan, including procedure
involved in getting Short term and long-term loan.

Commercial Loan Documentation:

The lending process includes the following phases: application, investigation, evaluation, decision
documentation, administration, and collection. All of these phases require some form of documentation in
order to protect the bank's interest. This part of the lending process is essential in order to avoid loan
losses due to poor documentation especially during a bankruptcy case. Many community banks assign
this important responsibility to loan officers and loan administrators. If not performed accurately, poor
documentation can cause loans to be essentially unsecured or unguaranteed where the bank is expected to
have some form of credit enhancement (collateral) as a secondary source of repayment.

The commercial loan documentation will focus on providing attendees with a sound working knowledge
of the purpose and significance of each document in the lending process. It will offer a broad overview of
the loan documents' provisions to borrowers while enabling attendees to identify and document the
collateral.

Areas Covered :

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1. Identifying the borrower
2. Identifying and documenting the collateral
3. Evidencing the debt
4. Partnership/entity
5. Corporation ownership control
6. Attaching the collateral
7. Perfecting the security interest
8. Perfect the collateral
9. Documents required to close various commercial loans
10. Borrower's perspective in commercial loan transaction
11. Bankruptcy trends
12. Debtor vs original debtor
13. Closing the loan: techniques and documentation
14. Ensure first priority in securing lending under the Uniform Commercial Code
15. Cases and questions
Who Will Benefit:
 Commercial Loan Officers
 Consumer Loan Officers
 Credit Analysts
 Loan Review Personnel
 Compliance Officers
 Internal Auditors
 Branch Managers
 Credit Administration Personnel
 Loan Operations Staff
Documentation for applications for loans is an important area which needs careful attention as well as
professional expertise. Correct documentation is essential form the point of view of both the bank as well
as the applicant for a loan. It is important that all the documents should be correctly drafted , adequately
stamped and properly executed and the necessary formalities in this regard should be duly complied with.
A charge on any property should be duly registered within the prescribed time. If at any time the bank has
to institute any suit against any defaulter, the court may not pass a decree if the documents are not in
order.
Documentation forms a permanent record of the rights and liabilities inter se the parties. Thus, it is not
only desirable but also essential that all the parties should be conversant with prevalent and applicable
laws in this regard. The process of documentation may be described as follows:
It is necessary to prepare a complete set of documents depending on the terms of sanction of credit
facilities, nature of credit facilities, kind of securities ranking of charge on the security stipulated, kind of
borrower and guarantor;
 Drafting of the documents. Generally banks have their standard format of documents in this regard;
 Adequate care needs to be exercised in relation to filling up of the requisite forms which are made
available by the banks in the printed format;
 Another vital aspect of the process of loan documentation is stamping of the documents according to
the provisions of the Stamp Act;
 It is also important to obtain the requisite permission of , if applicable, under the various statutes like
Income-Tax Act, Land Acquisition Act etc.;
 Signing and execution of the documents by the parties in a manner and as required by the laws
applicable in this regard;
The formalities viz., attestation and registration of documents, filing of charges with the Registrar of
Companies.
As all the loan application are not the same and requirements may vary from case to case and all the
points mentioned above generally apply to a process of loan documentation.

DOCUMENTS (obtained/ to be obtained):

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Following documents must be obtained before disbursement of loan:
To be
Security Documents: Obtained
obtained
1 Credit Facility Offer Letter accepted by borrower
2 Registration of mortgaged deed for Rs ................K on .
3 Loan deeds (securing first charge over entire assets) of Rs. ...........K dated ....
4 Promissory Notes of Rs. .......K.
5 Hypothecation deed for stock amounting to Rs. .......... dated ............
6 Pledge deed for stock amounting to Rs. ………….. dated ………………
7 Assignments of receivables amounting to Rs. ……….. dated ……………
8 Registration of ……. (type) vehicle on …………
9 Hypothecation deed of specific plant and machinery amounting to Rs. ……
dated ………
10 Personal payment guarantee of Mr. ……….. for Rs. ……... dated …………
11 Joint & several personal payment guarantee of Mr. ……. , Mr. ….. and Mr.
……….. for Rs …….… dated ……….
12 Corporate guarantee of M/s …….. for Rs. ……….. dated ……..
13 Cross corporate guarantee of M/S ………., M/S ………. and M/S …………..
for Rs. ………….. dated ………….
14 Insurance policy of stock and collaterals/vehicles with banker’s clause till
…………. complying all terms of approval.
15 ………………..
16 ………………..
17 …………………

Other Documents:
1 Branch Credit Committee Decision
2 Loan application dated ……
3 Renewal application dated ……
4 Project report
5 Operating License
6 Audited financial statements for FY …….., FY ………… and FY ………..
7 Projected financial statements for FY ……., FY ………. and FY ……
8 Branch verified stocks statements dated…..
9 Land ownership certificate (Lalpurja)
10 Land transfer deed (Rajinama tamasuk)
11 Blue print of land
12 Four boundaries of land/ building (Chauhadi)
13 Approved drawings for the construction
14 Construction completion certificate
15 List of Legal co-heirs (anshiyars) of collateral mortgaged signed by owner
16 List of Legal co-heirs (anshiyars) of collateral to be mortgaged signed by
owner
17 Consent letter (Manjurinama) to mortgage the collateral
18 Valuation report of existing collateral by engineer dated…
19 Valuation report of existing collateral by bank staff dated…
20 Valuation report of proposed collateral by engineer dated…
21 Valuation report of proposed collateral by the bank staff dated…..
22 Company/ firm registration
23 Article and Memorandum of Association
24 Partnership deed
25 Board resolution / authorization letter for credit transaction with the bank
26 Authorization letter to do credit transaction

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27 PAN registration
28 Land revenue payment receipt (Tiro Rasid) for FY …………
29 Property tax payment receipt for FY ……………
30 Income tax payment receipt or tax clearance for FY ………
31 VAT clearance for FY ………
32 Excise duty clearance for FY ………
33 Electricity bill clearance for the month of ………… 20…. for all collaterals
34 Water bill clearance for the month of ……………… 20…. for all collaterals
35 Telephone bill clearance for the month of …………… 20…. of borrower
36 Satisfactory Credit Information Center Report
37 Satisfactory credit information from local financial institutions
38 Self declared CI report for loan up to 1 million
39 Description of Know Your Customer (KYC)
40 Declaration of prospective client about his past association with NBL as a
borrower or director/owner/CEO of borrowing unit or guarantor
41 Site Inspection Report dated …………
42 Signed Family Tree of borrower
43 Nata pramanit of borrower's family tree by Govt. authority dated …………...
44 Signed Family Tree of Guarantors
45 Net worth statement signed by guarantor
46 Photocopies of citizenship of owners with names of fathers & grandfather and
with permanent and temporary addresses
47 Photocopies of citizenship of guarantors with names of fathers & grandfather
and with permanent and temporary addresses
48 Photocopies of citizenship of directors with names of fathers & grandfather
and with permanent and temporary addresses
49 Environment assessment report
50 Legal opinion regarding….
51 Copy of management agreement
52 Market Survey report

Loan documentation(Documentation of Lending)

1.Application of the client
2.Photos(generally pp size)
3.Citizenship of the client with all family members
4.Firm Registrarion Certificate(Renewed/Update)
5.Tax clearance certificate(current fiscal year)
6.Memorendum
7.Prospectus
8.Board minute about the loan
9.Authority
10.Balancesheet,Income statement and cash flow statement atleast three years
11.YTD purchage,sales and profit
12.Photocopy of land ownership certificate
13.Consent letter of partnership and landowner
14.Area,plot and trace map of the land
15.Four boundaries of Land from VDC or municipilatiy
16.Valuation report of engineer
17.Branch Valuation Report
18.Project Appraisal Report
19.Site visit Report of the project
20.Restrain letter of land and building
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21.Credit Facility Offer Letter(CFOL)
22.Banks Loan Approval minute
23.Loan Deed
24.Mortgaged Deed
25.Insurance policy of Building,Furniture and Fixture,Plant and Machinery
26.Promissory note
27.Personal guarantee
28.Paripasu Tamasuk
29.Rick Grading Matrix
30.Credit information
31.Self declaration
Methods for Creating Charge over Securities
Risk is inherent in lending and the reduction of risk to an acceptable level is the function of
security. While lending money, bankers secure the loans and advances in one way or other but the
security is not available to the banker unless it is properly charged in his favor. Even a good security,
unless properly charged, will be of no avail. Let’s know about various methods for creating charge over
securities.
What is charge
Charge means right of payment out of certain property. In a charge there is no transfer of interest or
property. It is a right over some tangible asset of the borrower.
It is a legal transaction as result of which the lender acquires certain rights over the property and the
borrower is refrained from dealing in them. In a charge there must be a notice to the subsequent
transferees, otherwise the charge is not effective as to the subsequent transferees.
Lord Justice Atkinson aptly explained charge as: “I think there can be no doubt that where in a
transaction for value both parties evince an intention that property existing or further shall be made
available as security for payment of a debt and that the creditors shall have a present right to have it made
available, there is a charge even though the present legal right which is contemplated can only be
enforced at some future date, and though the creditor gets no legal rights of property, either absolute or
special or any legal right to possession but only gets the right to have the security make available by an
order of the court.”
Methods for creating charge over securities
Different Methods for Creating Charge over Securities
A charge may be classified as:
1) a fixed charge, 2) a floating charge.
1. Fixed charge: A charge is said to be fixed if it is made specifically to cover definite and
ascertained assets of a permanent natured or assets capable of being ascertained and defined, e.g.,
charge on land and building or heavy machinery. It prevents the loan form dealing with the
property charge without consent of the chargeholder.
2. Floating charge: It is a charge on property which is constantly changing, e.g., stock. A company
can deal with such property in normal course of its business until it becomes fixed on the
happening of an event. Thus, it is a charge on the assets of a company in general.
Pari Passu Charge
The term is usually used in case of consortium lending. In case of such lending, a number of banks or
financial institutions join together to lend to a banks or financial institutions join together to lend to a
single borrower in an agreed ratio against some common securities.
The securities are charge to all the bankers/financial institutions without any reference like first charge or
second charge etc. The term that institutions will have a “pari passu charge” over the assets of the
borrower means that the lenders are entitled to have equal rights over the assets as per the agreed share.
In other words, in the absence of sufficient assets to pay each lender, they will lose ratably without any
preferences to any one or more.
Second Charge
A creditor holding a second charge by way of mortgage is entitled to the proceeds after the first charge is
met.

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He must inform the prior mortgagee of his charge because the first mortgagee cannot part with the
proceeds or title of the property if he has notice of the second charge.
Charging over securities
Charging a security means making it available as a cover for an advance. A banker, in the course of his
business, has different kinds of securities submitted to him as cover for advances by his customers. Some
securities are, in certain cases, movable while others are immovable.
In certain cases possession of goods is handed over by the borrowers to the bank while, in other cases, it
may not be possible or practicable to do so. It is not enough that the security is good but the method by
which it is offered as security to the banker must be legal and perfect.
It is, therefore, important that the charge must be complete and all necessary formalities are complied
with so that incase of default by a borrower. The security will be available to the banker.
It should, however, be noted that whatever form the charge may take, the banker does not become the
absolute or exclusive owner of the property; he has only certain defined rights in it, until the debt due to
him is repaid.
The manner by which some articles or commodities or properties are made available to a baker as
security is known as charging of securities.
There are number of methods by which banker can obtain a charge over the debtor’s property. The
method used depends upon.
1. the type of property to be charged
2. the nature of the advance
3. the degree of control over the debtor’s property required by the banker. The common method of
charging securities are:
 Lien
 Hypothecation
 Pledge
 Mortgage
 Assignment

Modes of Charging the Security by Bank

Lien, Pledge, Mortgage, Hypothecation,  and Assignment; are the modes of charging the Security.
Lien
Lien is the right of a creditor to retain the properties belonging to the debtor until debt due to him is
repaid. Lien gives a person only a right to retain the possession of the goods and not the power to sell
unless such a right is expressly conferred by statute or by custom or by usage,
A banker’s lien is a general lien which is tantamount to an implied pledge. It confers upon the banker the
right to sell the securities after serving reasonable notice to the borrower.
Pledge
Bailment of goods as security for payment of a debt or performance of a promise.” The person who offers
the security is called the ‘pawnor’ or ‘pledger’ and the bailee is called the ‘pawnee’ or the ‘pledgee’.
Delivery of goods from one person to another for some purpose upon the contract that the goods will be
returned back when the purpose is accomplished or otherwise disposed of according to the instructions of
the bailor.
From the above definitions we observe that,
1. A pledge occurs when goods are delivered for getting advance.
2. The goods pledged will be returned to the owner on repayment of the debt.
3. The goods serve as a security for the debt.
Essentials of Pledge
Delivery of goods: Delivery’ of goods is essential to complete a pledge. The delivery may be physical or
symbolic. Physical delivery refers to physical transfer of goods from a pledger to the pledgee. Symbolic
delivery requires no actual delivery of goods. But the possession of goods must be transferred to a
pledgee. This may be done in any one of the following ways:
 Delivery of the key of the warehouse in which the goods are stored.

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 Delivery of the document of title to goods like bill of lading, railway receipt, warehouse warrants
etc.
 Delivery of transferable warehouse warrant if the goods are kept in a public warehouse.
 Transfer of ownership: The ownership of goods remains with the pledger. The possession of the
goods vests with pledgee till the loan is repaid.
Right in case of failure to repay:  If the pledger fails to repay within the stipulated time, pledgee may,
 Sell the goods pledged after giving reasonable notice,
 File a civil suit against the pledger for the amount due,
 File a suit for the sale of the goods pledged and the realization of money due to him.
When the pledgee decides to exercise the right of sale, he must issue a clear, specific, and reasonable
notice.
Rights of a banker as a Pledgee
1. The pledgee has the right to retain the goods pledged until he is paid the debt along with the
interest thereon and all other necessary expenses incurred for the possession and preservation of
the goods.
2. The pledgee has the right to retain the goods pledged only for the particular debt and not for any
other debt, unless the contract provides otherwise.
3. The pledgee is entitled to receive from the pledger extraordinary expenses incurred by him for the
preservation of the goods pledged.
4. If the pledger makes a default in payment, the following courses are open to the pledgee:
 He may file a suit for the recovery of the amount.
 He may sue for the sale of the goods.
 He may himself sell the goods after giving reasonable notice.
 If the proceeds of such sale are less than the amount due in respect of the debt or performance, the
pledger is still liable to pay the balance. If the proceeds of the sale are greater than the amount so
due, the pledgee shall pay over the surplus to the pledger.
 If a third person wrongfully deprives the pledgee of the use or the possession of the goods
pledged, he has the remedies against the third person as the owner would have had. The pledgee
may file a suit for damages.
 If the pledgee suffers any damage as a result of non-disclosure of any fault by the pledger, the
hitter is responsible for it.
 If the pledgee suffers loss, when the title of the pledger to the goods pledged is defective the
pledger shall be responsible.
Duties of the Pledgee
1. The pledgee is bound to take that much care of the goods pledged which an ordinary’ prudent man
would take of his own goods under similar circumstances.
2. The pledgee must make use of the goods pledged according to the agreement between the two
parties. If lie/she makes any unauthorized use, the pledger is entitled to terminate the contract and
claim damages, if any.
3. The pledgee must deliver the goods to the pledger on repayment of the debt. It is the duty of the
pledgee to deliver the goods according to the direction of the pledger.
4. The pledgee must deliver to the pledger any increase or profit which may have occurred from the
goods pledged. For example, dividend on shares.
5. The pledgee is responsible to the pledger for any loss, destruction or deterioration of the goods if
the goods are not returned at the proper time.
Difference between Lien and pledge
In case of lien, the lender has the right to retain but not to sell the asset. For banks, a lien is an implied
pledge, i.e. the bank has the right to sell the asset if the borrower defaults. But in case of pledge, the
lender has the right to retain as well as sell the pledged asset if the borrower defaults.
Mortgage
A mortgage is the transfer of all interest in specific immovable property for the purpose of securing the
payment of money advanced or to be advanced by way of loan, an existing or future debt, or the
performance of an engagement which may give rise to a pecuniary liability.
In terms of the definition, the following are the characteristics of a mortgage:

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1. A mortgage can be affected only on immovable property, immovable property includes land,
benefits that arise out of things attached to the earth like trees, buildings, and machinery. But a
machine which is not permanently fixed to the earth and is shift able from one place to another is not
considered to be immovable property.
2. A mortgage is the transfer of an interest in the specific immovable property and differs from sale
wherein the ownership of the property is transferred. Transfer of an interest in the property means
that the owner transfers some of the rights of ownership to the mortgagee and retains the remaining
rights with himself. For example, a mortgagor retains the right to redeem the property mortgaged.
3. The object of transfer of interest in the property must be to secure a loan or performance of a
contract which results in monetary obligation. Transfer of property for purposes other than the above
will not amount to mortgage. For example, a property transferred to liquidate prior debt will not
constitute a mortgage.
4. The property to be mortgaged must be a specific one, i.e., it can be identified by its size, location,
boundaries etc.
5. The actual possession of the mortgaged property need not always be transferred to the mortgagee.
6. The interest in the mortgaged property is re-conveyed to the mortgager on repayment of the loan
with interest due on.
7. In case the mortgager fails to repay the loan, the mortgagee gets the right to recover the debt out of
the sale proceeds of the mortgaged property.

Hypothecation
The mortgage of movable property for securing loan is called hypothecation. In other words, in case of
hypothecation, a charge over movable properties like goods, raw materials, goods-in-process is created.
Hart defines hypothecation as “a charge against property for an amount where neither ownership nor
possession is passed to the creditor”.
According to Hart when goods are made available as security for a debt without transferring the
possession of property to the lender, the transaction is a hypothecation. The goods remain with the
borrower and under a hypothecation agreement he or she undertakes to transfer the possession whenever
required to do so.
Hypothecation facility is also called ‘open loan facility’. Hypothecation is a convenient method of
borrowing for some concerns. For instance, a manufacturing concern cannot pledge its raw materials
which are required for production every day. By hypothecating them, the company can continue the
production and also avail the credit facility.
Being only an equitable charge on movable property without possession, hypothecation facility is risky as
clean advances. So it is granted only to parties if undoubted means with the highest integrity.
As goods under hypothecation remain in the possession of the borrower, extra care has to be exercised to
see that the bank’s security is complete, adequate, safe, and available at times when required.
Assignment
Assignment means transfer of any existing or future right, property, or debt by one person to another
person. The person who assigns the property is called ‘assignor’ and the person to whom it is transferred
is called ‘assignee’. Usually assignments are made of actionable claims such as book debts, insurance
claims etc. In banking business, a borrower may assign to the banker (i) the book debts, (ii) money due
from government department, (iii) insurance policies.
Assignments may be of two types:
1. A legal assignment is an absolute transfer of actionable claim. It must be in writing signed by the
assignor, l he assignor informs his debtor in writing intimating the assignee’s names and address. The
assignee also gives a notice to the debtor and seeks a confirmation to the balance due.
2. An equitable assignment is one which does not fulfill all the above requirements. In case of legal
assignment, the assignee can sue in his own name. A legal assignee can also give a good discharge for
l lie debt without the concurrence of the assignor. 
Differentiate between hypothecation and mortgage

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Hypothecation means keeping movable assets e.g. machinery, goods, raw materials etc. as security for
taking loan. Mortgage means keeping immovable assets such as land, building etc. as security for taking
loan.
Difference between Hypothecation and pledge
In case of hypothecation, the asset is not transferred to lender. Rather, possession of the asset remains
with the borrower. In case of pledge, possession of the asset/goods remains with the lender.
Summary of Pledge, Hypothecation  and Mortgage.  
(1) Pledge is used when the lender (pledgee) takes actual possession of assets (i.e. certificates, goods). 
Such securities or goods  are movable securities.  In this case the pledgee retains the possession of the
goods until the pledgor (i.e. borrower) repays the entire debt amount.   In case there is default by the
borrower, the pledgee has a right to sell the goods in his possession and adjust its proceeds towards the
amount due (i.e. principal and interest amount).  Some examples of pledge are Gold /Jewellery Loans,
Advance against goods,/stock,  Advances against National Saving Certificates etc.
(2) Hypothecation is used for creating charge against the security of movable assets, but here the
possession of the security remains with the borrower itself.   Thus, in case of default by the borrower, the
lender (i.e. to whom the goods / security has been hypothecated) will have to first take possession of the
security and then sell the same.   The best example of this type of arrangement are Car Loans.   In this
case Car / Vehicle remains with the borrower but the same is hypothecated to the bank / financer.   In
case the borrower, defaults, banks take possession of the vehicle after giving notice and then sell the same
and credit the proceeds to the loan account.  Other examples of these hypothecation are loans against
stock and debtors.  [Sometimes, borrowers cheat the banker by partly selling goods hypothecated to bank
and not keeping the desired amount of stock of goods.   In such cases, if bank feels that borrower is trying
to cheat, then it can convert hypothecation to pledge i.e. it takes over possession of the goods and keeps
the same under lock and key of the bank].
(3) Mortgage :  is used for creating charge against immovable property which includes land, buildings or
anything that is attached to the earth or permanently fastened to anything attached to the earth (However,
it does not include growing crops or grass as they can be easily detached from the earth).  The best
example when mortage is created is when someone takes a Housing Loan / Home Loan.  In this case
house is mortgaged in favour of the bank / financer but remains in possession of the borrower, which he
uses for himself or even may give on rent. 
Difference Between Pledge, Hypothecation and Mortgage at a Glance:

 
  Pledge Hypothecation Mortgage
Type of Security Movable Movable Immovable
Possession of the Usually Remains
Remains with lender (pledgee) Remains with Borrower
security with Borrower
Examples of Loan Gold Loan, Advance against NSCs, Adv against Car / Vehilce Loans, Adv
Housing Loans
where used goods (also given under hypothecation) against stock and debtors

Primary Security and Collateral Securities

Secured advances are those which can be taken against certain security of tangible assets like land
building etc.
“ Secured loan or advances means a loan or advance made on the security of assets the market value of
which is not at any time less than the amount of loans or advances”.
This definition highlights two essential features of secured advances
 Advances must be made against tangible security.
 Market value of security must not be less than the amount of loan granted.
Type of security offered varies from place to place like agricultural produce is considered as security in
agricultural centers. In metros government bonds and stock exchange securities are offered.
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Primary Security : Asset which has been bought with the help of bank finance.
Collateral Securities: In narrow sense collateral securities can be said as securities deposited by third
party to secure advance for the borrower and in wider sense – any type of security on which the creditor
has a personal right of action on debtor in respect of advance.

What is a Bank Draft or Demand Draft ?

Bank Draft is also called as Demand Draft, in short, DD. DD is a special type of cheque. It is drawn by a
bank on any of the branches of the same bank. It is used for remitting money from one place to another
place. It is the cheapest mode of sending money. It is an order to pay money on demand.

.
The person who wants to send the money has to approach bank,
he has to fill an application form and has to pay the required
amount with commission (bank's service charge). After getting
the draft, applicant has to send it by post to the party at the other
place.
DD is like a cheque, therefore it can also be crossed. When the
other party receives it, has to present it to the bank for payment.
It is the easiest and safest way of sending money from one place
to another place.

Demand Draft

A demand draft or "DD" is an instrument most banks in India use for effecting transfer of money. It is a
Negotiable Instrument. To buy a "DD" from a Bank, you are required to fill an application form which
asks the following information :
 Type of instrument needed
 Name of the recipient
 Name of the sender
 Amount to be transferred
 Place where the transferred money is to be paid
 Mode in which money is to be paid i.e. in cash or through a Bank Account
 Mode in which you will pay money to the Bank i.e. in cash or by debit to your account
 The application form along with the cheque on your account or cash is deposited with the counter
clerk who gives you a Demand Draft (which looks like a cheque) for the amount.
Tips:
Check the particulars like name of the beneficiary, amount, place where payable etc. filled in the DD,
match these with what you had filled in the application form.
 Spellings of the beneficiary's name should be exactly the same.
 Get the DD "crossed" for security.
 Your PAN number will be necessary if the amount of DD exceeds Rs.10,000/=
 Charges for issuing drafts differ from Bank to Bank. So if your requirements are large, do shop
around for best bargain.

Travellers Cheques - Meaning and Objectives

A travellers cheque is a cheque that is issued by a financial institution that can be used as a form of
payment. Travellers cheques are most often used by those travelling because they are widely accepted as
payment in many parts of the world, yet can be replaced if lost or stolen by the issuing financial
institution. Travellers cheques are issued in a variety of monetary denominations such as the US Dollar,
Euro, Japanese Yen, Canadian Dollar, Australian Dollar, and British Pound.
Traveller’s cheques are bought by a traveller that are valid for use at home or abroad, but are generally
cashed in a foreign country. Only a countersignature is required from the holder for verification. Released

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by financial institutions as a means of check, a traveller’s cheque can be used as a convenient mode of
payment. Widely accepted the world over as a form of payment, traveller’s cheques are mostly preferred
by travellers
A travellers’ cheque are the equivalent to cash but are more secure in that the person using them will be
refunded if they are stolen. They have a value in the currency they were issued. Travellers’ cheques are
issued by financial institutions such as Banks, Building and Saving Societies, Post Offices etc. and by
some travel agents.
People use travellers’ cheques rather than carry around large quantities of cash because of the reduce
security risk.

History of Traveller’s Cheque

Travellers cheques were first issued in the late 1700s by the London Credit Exchange Company, and
Thomas Cook, founder of the British travel agency, issued notes similar to travellers checks in 1874, but
the modern travellers cheque was invented in 1891 by an employee of American Express. The then-
president of American Express, J.C. Fargo, was frustrated when he could not cash checks during a trip to
Europe and sought to find a solution. Marcellus F. Barry came up with the idea of the counter signature
feature on the check to ensure merchants and users that the cheque was indeed genuine. The idea quickly
gained in popularity and was an immediate financial success for American Express.
Over time other companies offered their own versions of the travellers cheque and as advanced in
transportation made travel easier and less expensive for the masses, travellers cheques were the preferred
form of money for travellers. However the increased use of credit cards, debit cards and the prevalence of
automated teller machines (ATMs) worldwide have led to a decrease in the popularity of travellers
cheques today.
At the time of purchase, the customer should be provided with a listing of the serial numbers of the
cheques that were purchased. If any cheques are reported lost or stolen, most banks will require the
customer to provide the serial numbers of the missing cheques. This allows the bank to verify the validity
of the claim and the checks.
Even though travellers cheques can be replaced if lost or stolen, it is recommended that the user treat
them as carefully as they would cash. The user should keep track of the cheques that are used as they are
redeemed. The customer should also keep the travellers cheques purchase agreement and listing of the
serial numbers separately from the cheques themselves.
Using a travellers cheque is a fairly simple process. The customer simply provides the travellers cheque
to the merchant as payment. The customer will then need to sign the travellers cheque in the presence of
the merchant. Once the merchant verifies that both signatures on the check match, any applicable change
is given back to the customer and the transaction is completed.
What is a Mail and Telegraphic Transfer ?

Mail and Telegraphic Transfer is another method of sending money from one place to another place by
using the letter (mail). The mail transfer (MT) is possible only when the sender (remitter) and the receiver
(remittee) both are having bank accounts in the same bank, but at different branches. Generally, no
charges are charged by bank for mail transfer. In this the remitter has to inform his bank to transfer a
certain amount from his account to the another person's account in other branch of the same bank. The
details of the remittee (receiver) such as his name, account number, the branch where he has account, etc.
must be provided to the bank.

MICR (magnetic ink character recognition)

MICR (magnetic ink character recognition) is a technology used to verify the legitimacy or originality of
paper documents, especially checks. Special ink, which is sensitive to magnetic fields, is used in the

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printing of certain characters on the original documents. Information can be encoded in the magnetic
characters.

The information that appears at the bottom of a check that includes the bank's routing number, the
customer's account number, and the check number. The magnetic ink character recognition line is printed
using technology that allows computers to read the printed information. Using MICR, computers can
quickly read routing numbers, account numbers and other information from printed documents including
checks. MICR numbers, letters and symbols are printed with magnetic ink or toner, usually in one of two
major MICR fonts. The magnetic ink allows the computer to read the characters even if they have been
covered with signatures, cancellation marks or other marks

Magnetic Ink Character Recognition Code (MICR Code) is a character-recognition technology used
mainly by the banking industry to ease the processing and clearance of cheques and other documents. The
MICR encoding, called the MICR line, is at the bottom of cheques and other vouchers and typically
includes the document-type indicator, bank code, bank account number, cheque number, cheque amount,
and a control indicator. The technology allows MICR readers to scan and read the information directly
into a data-collection device. Unlike barcodes and similar technologies, MICR characters can be read
easily by humans. The MICR E-13B font has been adopted as the international standard in ISO
1004:1995,but the CMC-7 font is widely used in Europe, Brazil and Mexico

Any Branch Banking Services(ABBS):

This facility is provided to customer by banks for deposit and withdrawal of money within the same
network of the bank ,with or without service charges.

Society for Worldwide Interbank Financial Telecommunication (SWIFT)

The Society for Worldwide Interbank Financial Telecommunication

(SWIFT) provides a network that enables financial institutions worldwide to
send and receive information about financial transactions in a secure,
standardized and reliable environment. SWIFT also sells software and services
to financial institutions, much of it for use on the SWIFTNet Network, and
ISO 9362. Business Identifier Codes (BICs, previously Bank Identifier Codes)
are popularly known as "SWIFT codes".
The majority of international interbank messages use the SWIFT network. As of
September 2010, SWIFT linked more than 9,000 financial institutions in 209 countries and territories,
who were exchanging an average of over 15 million messages per day (compared to an average of 2.4
million daily messages in 1995) SWIFT transports financial messages in a highly secure way but does not
hold accounts for its members and does not perform any form of clearing or settlement.
SWIFT does not facilitate funds transfer: rather, it sends payment orders, which must be settled by
correspondent accounts that the institutions have with each other. Each financial institution, to exchange
banking transactions, must have a banking relationship by either being a bank or affiliating itself with one
(or more) so as to enjoy those particular business features.
SWIFT is a cooperative society under Belgian law owned by its member financial institutions with
offices around the world. SWIFT headquarters, designed by Ricardo Bofill Taller de Arquitectura are in
La Hulpe, Belgium, near Brussels. The chairman of SWIFT is Yawar Shah, originally from Pakistan, and
its CEO is Gottfried Leibbrandt, originally from the Netherlands. SWIFT hosts an annual conference
every year, called SIBOS, specifically aimed at the financial services industry.

Swift Code is a standard format of Bank Identifier Codes (BIC) and it is unique identification code for a
particular bank. These codes are used when transferring money between banks, particularly for
international wire transfers. Banks also used the codes for exchanging other messages between them.

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The Swift code consists of 8 or 11 characters. When 8-digits code is given, it refers to the primary office.
The code formatted as below;

AAAA BB CC DDD
 First 4 characters - bank code (only letters)
 Next 2 characters - ISO 3166-1 alpha-2 country code (only letters)
 Next 2 characters - location code (letters and digits) (passive participant will have "1" in the second
character)
 Last 3 characters - branch code, optional ('XXX' for primary office) (letters and digits)

Currently, there are over 40,000 “live” Swift codes. The "live" codes are for the partners who are actively
connected to the Swift network. On top of that, there are more than 50,000 additional codes, which are used for
manual transactions. These additional codes are for the passive participants.
The registrations of Swift Codes are handled by Society for Worldwide Interbank Financial Telecommunication
(“SWIFT”) and their headquarters is located in La Hulpe, Belgium. SWIFT is the registered trademarks of
S.W.I.F.T. SCRL with a registered address at Avenue Adèle 1, B-1310 La Hulpe, Belgium.
SWIFT Code is NEBLNPKA Address Nepal Bank Limited Building Kathmandu
The SWIFT Code of NABIL BANK LIMITED in KATHMANDU, Nepal is NARBNPKA
SWIFT Code for EVEREST BANK LTD. in KATHMANDU, Nepal is EVBLNPKA
Manager's Check/Demand Draft
Manager's Check
A Manager’s Check(MC) is a cheque issued by the bank, payable to a payee as indicated by the person who buys
the MC. It is often used in situations when the beneficiary does not accept cash or personal cheques.
Telegraphic Transfer
Telegraphic Transfer or Telex Transfer, often abbreviated to TT, is a historic term used to refer to an electronic
means of transferring funds abroad. A transfer charge is often charged by the sending bank and in some cases by
the receiving bank.
Historically "T/T," meant a cable message from one bank to another in order to effect the transfer of money. Prior
to the existence of electronic payment networks this was often directly between banks via a Telex message.
Inward Telegraphic Transfer
Receipt of funds by SWIFT/Telex from an overseas party.

RobinsonsBank SWIFT BIC code : ROBPPHMQXXX

To receive funds via SWIFT please provide the following details in addition to your beneficiary's name and
account number
Swift Code:                              ROBPPHMQXXX
                                                  
Beneficiary Bank:                   ROBINSONS BANK CORPORATION
                                                  QUEZON CITY, PHILIPPINES

Beneficiary Information:        Beneficiary's Name

                                                   RobinsonsBank Account Number

To receive funds in USD, please provide the details to any of the following correspondent bank
Correspondent Bank:           Citibank New York
                                                  Swift Code: CITIUS33

Correspondent Bank:           Deutsche Bank, New York

                                                  Swift Code: BKTRUS33

To receive funds in EUR, please provide the details to the following correspondent bank
Correspondent Bank:            Deutsche Bank, Frankfurt
Swift Code: DEUTDEFFXXX

Outgoing Telegraphic Transfer

Payment sent by SWIFT/Telex to an overseas party. Payment should be received within a few days depending on
the currency, destination, period and the agent bank used.

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Mail Transfer

SMTP stands for Simple Mail Transfer Protocol. SMTP is used when email is delivered from an email client,
such as Outlook Express, to an email server or when email is delivered from one email server to another. SMTP
uses port 25.

End of Unit - II

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Unit III
Insurance Principles and Practices
Introduction to Insurance:

Once Frank H Knight said “Risk is uncertainty and uncertainty is one of the fundamental facts of life” and in the
current situations of the world there is uncertainty of our life, we do not have any idea what will happen in our
future. Therefore Insurance is the modern method by which men make the uncertain certain and the unequal, equal.
It is the means by which risk is always guaranteed covered by insurance. Insurance has become one of the great
ways to secure our future. The idea of insurance is very simple. It can simply be defined as an instrument used for
managing the possible risks of the future. Throughout our life we may face many kinds of risks such as failing
health, financial losses, accidents and even fatalities. Insurance addresses all these uncertainties on financial terms.
So one should understand the importance of insurance in their life.
As insurance covers risks against financial losses, it should not be taken as an investment instrument. There a need
of insurance in every stage of our life and risks always increases with the changing environment of our life.
Insurance is essentially a mechanism that eliminates risks primarily by transferring the risk from the insured to the
insurer. In simple words we can say that insurance is a form of risk management primarily used to hedge against
the risk of a contingent, uncertain loss. Insurance is defined as the equitable transfer of the risk of a loss, from one
entity to another, in exchange for payment or we can say that also collective bearing of risks is insurance.
Meaning and Definition
Insurance: in law and economics, is a form of risk management primarily used to hedge against the risk of a
contingent, uncertain loss. Insurance is defined as the equitable transfer of the risk of a loss, from one entity to
another, in exchange for payment. An insurer is a company selling the insurance; an insured or policyholder is the
person or entity buying the insurance policy. The insurance rate is a factor used to determine the amount to be
charged for a certain amount of insurance coverage, called the premium. Risk management, the practice of
appraising and controlling risk, has evolved as a discrete field of study and practice. The transaction involves the
insured assuming a guaranteed and known relatively small loss in the form of payment to the insurer in exchange
for the insurer’s promise to compensate (indemnify) the insured in the case of a large, possibly devastating loss.
The insured receives a contract called the insurance policy which details the conditions and circumstances under
which the insured will be compensated.

Brief History of Insurance

The growth of insurance industry is associated with the general growth of industry, trade and commerce. The
origin of insurance services may be traced back to 14thCentury in Italy when ships carrying goods were covered
under different perils. Thus marine insurance become oldest insurance practice. The systematic and orderly
beginning of the insurance industry took place in UK at Lloyds coffee house in Tower Street in London. In
developing countries, insurance sector has assumed special significance as it has the potential to speed up the rate
of growth of the economy. Insurance Industry assists the development process of an economy in several ways.
Primarily, it acts as mobiliser of savings, financial intermediary promoter of investment activity, stabilizer of
financial market, risk manager and an agent to allocate capital resources efficiently. Although the insurance
industry has grown rapidly in the industrialized countries. Its growth in developing countries has neither been
satisfactory nor in tandem with the growth of other sectors of the economy. The most industrialized countries in the
world still account for 88% of global premium volume. The share of developing countries is extremely low. The
slow growth insurance services in developing countries calls for an in-depth analysis of the nature and pattern of
the evolution of these services policies pursued to develop the insurance industry and constraints thereof also need
close examination.

General Insurance: Insuring anything other than human life is called general insurance. Examples are insuring
property like house and belongings against fire and theft or vehicles against accidental damage or theft. Injury due
to accident or hospitalisation for illness and surgery can also be insured. Your liabilities to others arising out of the
law can also be insured and is compulsory in some cases like motor third party insurance.

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In simple words, Insurance is defined as a co-operative device to spread the loss caused by a particular risk over a
number of persons who are exposed to it and who agree to ensure themselves against that risk.
The insurance is also defined as a social device to accumulate funds to meet the uncertain losses arising through a
certain risk to a person insured against the risk. The various definition of insurance can be classified into the
following three categories:
 General or Social
 Functional/Business/ Economic
 Contractual/legal

General or Social Definition: the general definitions are given by the social scientists. Some of such definitions
are given below:
1. “The collective bearing of risks is insurance”. -Sir William Bevridges
2. “Insurance is a substitution for a small known loss for a large unknown loss by which may or may not occur”. -
Boon and Kurtz.
3. “Insurance is a cooperative form of distributing a certain risk over a group of persons who are exposed to it”. -
Ghosh and Agarwal
Thus, the insurance mean in the social sense is:
 A co-operative device to spread the risk.
 The system to spread the risk over a number of persons who are insured against the risk.
 The principles to share the loss of each member of the society on the basis of probability of loss to their risk.
 The method to provide security against losses to the insured.
Functional/Business/ Economic (Fundamental) Definitions: These definitions are based on business oriented
since it is a device providing financial compensation against risk or misfortune.
1. “Insurance as a social device providing financial compensation for the effect of misfortune, the payments being
made from the accumulated contributions of all parties in the scheme”. — D.S.Hansell
2. “Insurance is a social device whereby the uncertain risks of individuals may be combined in a group and thus
made more certain, small periodic contributions by the individuals providing a fund, out of which, those who suffer
losses may be reimbursed”. –Riegel and Miller
For Example: In a particular colony there are 700 houses each having a worth of Rs 40,000. Every year there is a
probability of 4 houses getting burnt. The resultant loss per houses is 40,000 and total loss being Rs 1, 60,000. If
all the 700 homes owners pool Rs 200 each to the pool the unfortunate people whose houses were burnt can be
easily paid. It is the example of Economic Definition of Insurance.
Contractual Definition: It is a contractual relationship to secure against risks. Some of such definitions are:
1. “Insurance is a contract whereby one person, called the insurer, undertakes in return for the agreed consideration
called premium, to pay to another person called the insured, a sum of money or its equivalent on specified event”.
– Justice Channel
2. Insurance is a contract in which a sum of money is paid to the assured as consideration of insurer’s incurring the
risk of paying a large sum upon a given contingency”. -Justice Tindall
Thus, the insurance mean in the legal or contractual sense is:
 Certain sum, called premium, is charged in consideration.
 Against the said consideration, a large sum is guaranteed to be paid by the insurer who received the premium.
 The payment will be made in a certain definite sum.
 The payment is made only upon contingency.
Characteristics of Insurance
 It is a contract for compensating losses.
 Premium is charged for Insurance Contract.
 The payment of Insured as per terms of agreement in the event of loss.
 It is a contract of good faith.
 It is a contract for mutual benefit.
 It is a future contract for compensating losses.
 It is an instrument of distributing the loss of few among many.
 The occurrence of the loss must be accidental.
 Insurance must be consistent with public policy.
Nature of Insurance
 Sharing of Risks

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 Co-operative Device
 Valuation of Risk
 Payment made on contingency
 Amount of Payment
 Large Number of Insured Persons
 Insurance is not gambling
 Insurance is not charity

Nature or Characteristics of Insurance

1. Insurance is a cooperative device to share the burden of risk which may fall on happening of some unforeseen
events. Its most important nature is sharing of risks.
2. The most important feature of every insurance plan is the higher degree of cooperation for mutual benefits and
distributing a certain risk over a group of persons who are exposed to it.
3. For the purpose of ascertaining the insurance premium, the volume of risk is evaluated, which forms the basis
of insurance contract.
4. The amount of payment in indemnity insurance depends on the nature of losses occurred, subject to a
maximum of the sum insured.
5. On the happening of specified event or in contingency the insurance company is bound to make payment to the
insured.
1. For example: In life insurance, a fixed amount is paid on the happening of some uncertain event or on the
maturity of the policy but in the case of fire, marine or accidental insurance, it is not necessary. In such cases,
the insurer is not liable for payment of indemnity.
6. Insurance is a protection device to avoid or reduce economic risks or losses.
7. Insurance is a plan which spreads the risks and losses of few people among a large number of people.
8. Insurance is a device to transfer some economic losses.
9. Insurance is a device of ascertaining of losses. By taking a life insurance policy, one can ascertain his future
losses in term of money.
10. Insurance is not charity because charity pays without consideration but in the case of insurance, premium is
paid by the insured to the insurer in consideration of future payment.
11. To spread the loss immediately, smoothly and cheaply, large number of persons should be insured against
similar risk, thus keeping the premium rate at the minimum.
12. Insurance is a legal contract between the insurer and insured. Insurer promises to compensate the insured
financially within the scope of insurance policy and the insured promises to pay a fixed rate of premium to the
insurer.
13. Insurance is a plan of social welfare and protection of interests of the people.
14. Insurance based upon fundamental principles like good-faith, insurable interest, contribution, indemnity, cause
proximal, subrogation etc.
15. The government of every country enacts the law governing insurance business so as to regulate and control its
activities for the interest of the people.
Some others natures are:
1. Insurance is not a gambling.
2. Insurance only for pure risks.
3. Based on mutual good- faith.
4. Institutional Set Up.
5. Insurance has a wider scope.
Purpose and Need of Insurance
a. To provide Security and Safety:
The Life Insurance provides security against premature death and payment in old age
to lead the comfortable life. Similarly in general Insurance, the property can be
insured against any contingency i.e. fire, earthquake etc.
b. To provide Peace of Mind:

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The uncertainty due to fire, accident, death, illness, disability in the human life, it is beyond the control of the
human beings. By way of Insurance, he may be compensated financially but not emotionally. The financial
compensation provides not only peace of mind but also motivates to work more and more.
c. To Eliminate Dependency:
On the death of the breadwinner, the consequences need not be explained. Similar to the destruction of
property and goods the family would suffer a lot. It could lead to reduction in the standard of living or begging
from relatives, friends or neighbours. The economic independence of the family is reduced. The Insurance is
the only way to assist and provider them adequate at the time of sufferings.
d. To Encourage Savings :
Life Insurance provides protection and investment while general Insurance provides only protection to the
human life and property respectively. Life Insurance provides systematic saving because once the policy is
taken then the premium is to be regularly paid otherwise the amount will be forfeited.
e. To fulfill the needs of a person:
a) Family needs b) Old age needs c) Re-adjustment needs
d) Special needs: Education, Marriage, health e) The clean up needs: After death
, ritual ceremonies, payment of wealth tax and income taxes are certain requirements,
which decreases the amount of funds of the family members.
f. To Reduce the Business Losses:
In business the huge amount is invested in the properties i.e. Building and Plant and Machinery. These
properties may be destroyed due to any negligence, if it is not insured no body would like to invest a huge
amount in the business and industry. The Insurance reduced the uncertainty of business losses due to fire or
accidents etc.
g. To Identify the Key man:
Key man is a particular man whose capital, expertise, energy and dutifulness make him the most valuable
asset in the business and whose absence well reduce the income of the employer tremendously and upto that
time when such employee is not substituted. The death or disability of such valuable lives will prove a more
serious loss than that fire or any hazard. The potential loss to be suffered and the compensation to the
dependents of such employee require an adequate provision, which is met by purchasing an adequate life
policies.
h. To Enhance the Limit:
The business can obtain loan but pledging the policy as collateral for the loan. The
insured persons are getting more loan due to certainty of payment at their death.
i. Welfare of Employees:
The welfare of the employees is the responsibility of the employer. The employer is supposed to look
after the welfare of the employees. The provisions are being made for death, disability and old age.
Though these can be insured through individual life Insurance but an individual may not be insurable due
to illness and age. But the group policy will cover his Insurance and the premium is very low in group
Insurance. The expenditure paid on account of premium will be allowable expenditure.
Functions of Insurance
The functions of insurance can be classified into three parts:
I Primary Functions:
1. Insurance Provides Protections: The main function of the insurance is to provide protection against the
probable chances of loss, future risk, accidents and uncertainty. The insurance cannot check the happening risk but
can provide for losses at the happening of the risk.
2. Volume or Evaluation of Risk: Insurance determines the probable volume of risks by evaluating various
factors that gives rise to risk. The risk is also evaluated on the basis of premium rate.
3. Provide Certainty Against Risk: Insurance provides certainty of payment at the uncertainty of loss. The
uncertainty of loss can be reduced by better planning and administration. But, the insurance relieves the person
from such difficult task. Insurance removes all these uncertainty and the assured is given certainty of payment of
loss. This may the reason that Riegel and Miller observe and then write that “the function of insurance is primarily
to decrease the uncertainty of events”.

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4. Spreading of Risk: Insurance is a plan which spreads the risks and losses of few people among a large number
of people. John Magee writes,” Insurance is a plan by which a large number of people associate them and transfer
to the shoulders of all, risks attached to individuals”.
5. Risk Sharing or Collective bearing of Risk: Insurance is a device to share the financial loss of few among
many others. The risk sharing in ancient time was done only at time of damage or death; but today, on the basis of
probability of risk, the share is obtained from each and every insured in the shape of premium without which
protection is not guaranteed by the insurer.
II Secondary Functions:
1. It Improves Efficiency: The insurance eliminates worries and miseries of losses at death and destruction of
property. The carefree person can devote his body and soul together for better achievement. It improves not only
his efficiency, but the efficiencies of the masses are also advanced.
2. It Provides Capital: The insurance provide capital to the society. The accumulated funds are invested in
productive channel. Dinsdale observes, insurance relieves the businessmen and others from security investments,
by paying small amount of premium against larger risk and uncertainty. There is no need for them to invest
separately for security purpose and this money can be invested in other activities.
3. It Helps Economic Progress: The insurance by protecting the society from huge losses of damage, destruction
and death, provides and initiative to work hard for the betterment of the masses. The next factor of economic
progress, the capital, is also immensely provided by the masses. The property, the valuable assets, the man, the
machine and the society cannot lose much at the disaster.
4. Prevention of Loss: Insurance cautions individuals and businessmen to adopt suitable device to prevent
unfortunate consequences of risk by observing safety instructions; installation of automatic sparkler or alarm
systems, etc. Prevention of losses cause lesser payment to the assured by the insurer and this will encourage for
more savings by way of premium. Reduced rate of premiums stimulate for more business and better protection to
the insured.
III Other Functions:
There are some indirect or others functions of insurance which indirectly provide economy benefit to the insured
people.
1. Insurance serves as compulsory way of savings or investment and it restricts the unnecessary expenses by the
insured.
2. The country can earn foreign exchange by way of issue of marine insurance policies.
3. Insurance makes the foreign trade risk free through different types of policies.
4. Insurance provide social security to people not only at the time of death but also provide assistance to the
insured at the time of sickness, old age, maternity etc.
Basic terms used in insurance
Different terms are used in the insurance. Important among them are given below:
Insured: The party or the individual who seeks protection against a specified task and entitled to receive payment
from the insurer in the event of happening of stated event is known as insured. An insured is normally in insurance
policy holder.
Insurer:The party who promises to pay indemnity the insured on the happening of contingency is known as
insurer. The insurer is an insurance company.
Beneficiaries: The person or the party to whom the policy proceeds will be paid in the event of the death or
happening of any contingency is called beneficiary.
Contract:An agreement binding at law between two or more parties is called contract.
Premium:The amount whichis paid to the insurer by the insured in consideration to insurance contract is known as
premium. It may be paid on monthly, quarterly, half yearly, yearly or as agreed upon it is the price for an insurance
policy.
Insured sum: The sum for which the risk isinsured is called the insured sum, or the policy money or the face
value of the policy. This is the maximum liability of the insurer towards the insured. PerilA peril is an event that
causes a personal or property loss by fire, windstorm, explosion, collision premature death, sickness, floods,
dishonesty etc.

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Hazard:Hazard is a condition that may create, increase or decrease the chances of loss from a given peril.
ExposureAn exposure is a measure of physical extent of the risk. An individual who owns a business house may be
subjected to economic loss and individual loss because of his business and personal exposure.
Cover note:An unstamped document issued by or on behalf of insurers as evidence of insurance pending issue of
policy.
Damages:Monetary compensation award at law for a civil wrong or breach of contract. Indemnity:Compensation
for actual loss suffered is call indemnity.
Reinsurance: Reinsurance is a method where by the original insurer transfer all or part of risk he has assumed to
another company or companies with the object of reducing his own commitment to an reducing his own
commitment to an amount that he can bear for his own account commensurate with his financial resources in the
event of loss. It was originally confined to offers and acceptances on individual risk known as facultative
reinsurance transactions.
Double Insurance: Double insurance implies that subject matter is insured in two or more insurance companies
(insurers) and the total sum insured exceeds the actual value of subject matter. In other words, the same subject
matter is insured in more than one insurer.
No claim bonus: The bonus is getting under the policy, if the claim is not reported during the policy period and
after that the time renewal (in time) then as per the policy term no claim bonus is avail for the vehicle insurance
policy and the rate of bonus is different in different

Principles of Insurance – 7
Basic General Insurance Principles.
Understanding Principles of Insurance:
The main objective of every insurance contract is to give financial security and protection to the insured
from any future uncertainties. Insured must never ever try to misuse this safe financial cover.
Seeking profit opportunities by reporting false occurrences violates the terms and conditions of an
insurance contract. This breaks trust, results in breaching of a contract and invites legal penalties.
An insurer must always investigate any doubtable insurance claims. It is also a duty of the insurer to
accept and approve all genuine insurance claims made, as early as possible without any further delays and
annoying hindrances.
Principles of Insurance With Examples
The seven principles of insurance are :-
1. Principle of Uberrimae fidei (Utmost Good Faith),
2. Principle of Insurable Interest,
3. Principle of Indemnity,
4. Principle of Contribution,
5. Principle of Subrogation,
6. Principle of Loss Minimization, and
7. Principle of Causa Proxima (Nearest Cause).

1. Principle of Uberrimae fidei (Utmost Good Faith)

Principle of Uberrimae fidei (a Latin phrase), or in

simple english words, the Principle of
Utmost Good Faith, is a very basic
and first primary principle of
insurance. According to this principle,
the insurance contract must be signed
by both parties (i.e insurer and
insured) in an absolute good faith or
belief or trust.
The person getting insured must
willingly disclose and surrender to the
insurer his complete true information
regarding the subject matter of
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insurance. The insurer's liability gets void (i.e legally revoked or cancelled) if any facts, about the subject
matter of insurance are either omitted, hidden, falsified or presented in a wrong manner by the insured.
The principle of Uberrimae fidei applies to all types of insurance contracts.
2. Principle of Insurable Interest
The principle of insurable interest
states that the person getting insured
must have insurable interest in the
object of insurance. A person has an
insurable interest when the physical
existence of the insured object gives
him some gain but its non-existence
will give him a loss. In simple words,
the insured person must suffer some
financial loss by the damage of the
insured object.
For example :- The owner of a
taxicab has insurable interest in the
taxicab because he is getting income
from it. But, if he sells it, he will not
have an insurable interest left in that
taxicab.
From above example, we can conclude that, ownership plays a very crucial role in evaluating insurable
interest. Every person has an insurable interest in his own life. A merchant has insurable interest in his
business of trading. Similarly, a creditor has insurable interest in his debtor.

3. Principle of Indemnity

Indemnity means security, protection

and compensation given against
damage, loss or injury.
According to the principle of
indemnity, an insurance contract is
signed only for getting protection
against unpredicted financial losses
arising due to future uncertainties.
Insurance contract is not made for
making profit else its sole purpose is
to give compensation in case of any damage or loss.
In an insurance contract, the amount of compensations paid is in proportion to the incurred losses. The
amount of compensations is limited to the amount assured or the actual losses, whichever is less. The
compensation must not be less or more than the actual damage. Compensation is not paid if the specified
loss does not happen due to a particular reason during a specific time period. Thus, insurance is only for
giving protection against losses and not for making profit.
However, in case of life insurance, the principle of indemnity does not apply because the value of human
life cannot be measured in terms of money.
4. Principle of Contribution
Principle of Contribution is a corollary of the principle of indemnity. It applies to all contracts of
indemnity, if the insured has taken out
more than one policy on the same subject
matter. According to this principle, the
insured can claim the compensation only
to the extent of actual loss either from all

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insurers or from any one insurer. If one insurer pays full compensation then that insurer can claim
proportionate claim from the other insurers.
For example :- Mr. John insures his property worth $ 100,000 with two insurers "AIG Ltd." for $ 90,000
and "MetLife Ltd." for $ 60,000. John's actual property destroyed is worth $ 60,000, then Mr. John can
claim the full loss of $ 60,000 either from AIG Ltd. or MetLife Ltd., or he can claim $ 36,000 from AIG
Ltd. and $ 24,000 from Metlife Ltd.
So, if the insured claims full amount of compensation from one insurer then he cannot claim the same
compensation from other insurer and make a profit. Secondly, if one insurance company pays the full
compensation then it can recover the proportionate contribution from the other insurance company.
5. Principle of Subrogation

Subrogation means substituting one

creditor for another.
Principle of Subrogation is an
extension and another corollary of the
principle of indemnity. It also applies
to all contracts of indemnity.
According to the principle of
subrogation, when the insured is
compensated for the losses due to damage to his insured property, then the ownership right of such
property shifts to the insurer.
This principle is applicable only when the damaged property has any value after the event causing the
damage. The insurer can benefit out of subrogation rights only to the extent of the amount he has paid to
the insured as compensation.
For example :- Mr. John insures his house for $ 1 million. The house is totally destroyed by the
negligence of his neighbour Mr.Tom. The insurance company shall settle the claim of Mr. John for $ 1
million. At the same time, it can file a law suit against Mr.Tom for $ 1.2 million, the market value of the
house. If insurance company wins the case and collects $ 1.2 million from Mr. Tom, then the insurance
company will retain $ 1 million (which it has already paid to Mr. John) plus other expenses such as court
fees. The balance amount, if any will be given to Mr. John, the insured.
6. Principle of Loss Minimization

According to the Principle of Loss Minimization,

insured must always try his level best to minimize
the loss of his insured property, in case of uncertain
events like a fire outbreak or blast, etc. The insured
must take all possible measures and necessary steps
to control and reduce the losses in such a scenario. The insured must not neglect and behave irresponsibly
during such events just because the property is insured. Hence it is a responsibility of the insured to
protect his insured property and avoid further losses.
For example :- Assume, Mr. John's house is set on fire due to an electric short-circuit. In this tragic
scenario, Mr. John must try his level best to stop fire by all possible means, like first calling nearest fire
department office, asking neighbours for emergency fire extinguishers, etc. He must not remain inactive
and watch his house burning hoping, "Why should I worry? I've insured my house."
7. Principle of Causa Proxima
(Nearest Cause)
Principle of Causa Proxima (a Latin
phrase), or in simple english words, the
Principle of Proximate (i.e Nearest)
Cause, means when a loss is caused by
more than one causes, the proximate or
the nearest or the closest cause should be
taken into consideration to decide the
liability of the insurer.

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The principle states that to find out whether the insurer is liable for the loss or not, the proximate (closest)
and not the remote (farest) must be looked into.
For example :- A cargo ship's base was punctured due to rats and so sea water entered and cargo was
damaged. Here there are two causes for the damage of the cargo ship - (i) The cargo ship getting
punctured beacuse of rats, and (ii) The sea water entering ship through puncture. The risk of sea water is
insured but the first cause is not. The nearest cause of damage is sea water which is insured and therefore
the insurer must pay the compensation.
However, in case of life insurance, the principle of Causa Proxima does not apply. Whatever may be the
reason of death (whether a natural death or an unnatural death) the insurer is liable to pay the amount of
insurance.

In Summary,

Principles of Insurance
1. Utmost Good Faith. It implies that the insurer and the insured must act in good faith and disclose all
material facts concerning the subject matter of insurance.
2. Insurable Interest:- A person is said to have insurable interest in the subject matter, if he suffers
financially, by its loss or destructions. It is very important to know the time at which the insurable interest
must exist to execute a valid contract of insurance. It depends on the branch of insurance also.
3. Indemnity:- It means that the insured will be paid only the actual amount of loss or the amount of the
policy whichever is less.
4. Subrogation:- It is an extension of indemnity-According to this principle when the insurer pays
compensation to the insured for loss, the insurer will get all the rights of the insured in respect of the
damaged property and against third party who is responsible for loss
5. Contribution:- It is just another outcome of the doctrine of indemnity. Sometimes a person gets a
subject matter insured with more than one insurer called the Double insurance, whereby in the event of
damage, he can’t claim anything more than the total loss from all the insurers together. Contribution is
the right of insurer who has paid a loss under a policy to cover appropriate amount from other insures
who are liable for the loss.
6. Migration of Loss:- This principle reminds the insured of his duty to take all necessary steps to
minimize or mitigate the loss, in case of occurrence of the risk insured. The insured must be very careful
and active to make every effort to minimize the loss.
7. Proximate cause:- There are many several causes for a loss. But an insurer is liable to indemnify the
insured only whom the loss is caused by the peril insured against. When there is only one causes for a
loss, it is quite easy to settle the claim. When there are several causes only the proximate or nearest cause
should be considered.
8. Warranties:- Insurance contract contain conditions which many be expressed on implied. Expressed
warranties are incorporated in the policy. Implied warranties are not mentioned in the policy. The
warranties are to be fulfilled by the insured during the insurance contract period. If the warranty is broken
the insurer is not bound to compensate the loss.

Revival of Lapsed Policies

When the premium is not paid within the days of grace, the policy lapses. It may be revived during the life time of
the life assured. It can be revived within a period of five years from the due date of the first unpaid premium and
before the date of maturity.

What is 'Foreclosure - FCL'

A situation in which a homeowner is unable to make full principal and interest payments on his/her
mortgage , which allows the lender to seize the property, evict the homeowner and sell the home, as
stipulated in the mortgage contract. One month after the homeowner misses a mortgage payment, he/she
is in default and will be notified by the lender. Three to six months after the homeowner misses a
mortgage payment , assuming the mortgage is still delinquent and the homeowner has not made up the

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missed payments within a specified grace period, the lender will begin to foreclose. The farther behind
the borrower falls, the more difficult it becomes to catch up, since lenders add fees for payments that are
10 to 15 days late.
Unique Features of Insurance Contracts
Insurance contracts are similar to most other legal contracts; however, certain features of insurance
contracts differentiate them from most other legal contracts. An insurance contract is:
• Aleatory – The performance of one or both parties is contingent on the occurrence of an event that may
never materialize. A homeowners’ insurance contract promises to pay if there is damage by fire, for
instance; the insurance carrier doesn’t have to do anything unless the damage occurs.
• A contract of Adhesion – Involves an unequal bargaining position. The insurance contract is offered to
the insured on an “as is,” “take it or leave it” basis. The insured cannot negotiate the policy terms, they
are written solely by the insurer. This insurance contract feature is why coverage is interpreted in its
broadest sense and exclusions are to be narrowly applied. Any ambiguity is found in favor of the insured.

• Unilateral – The promise of one party (the insurer) is given in exchange for the act of another party (the
insured). The insured pays the premium and the insurance carrier promises to pay if a covered loss occurs
(see Aleatory). If nothing happens, nothing is required of the insurance carrier – only one party (the
insured) did anything (paid the premium).

• One of Utmost Good Faith (Uberrima Fides) – Both parties to the insurance contract almost totally
rely on the honesty of the other party. The insurer relies on the honesty of the insured in providing
underwriting information; the insured relies on the honesty of the insurer that they will pay when a
covered loss occurs.

• Conditional – Before the insurance contract is activated, certain conditions must be met. There are two
types of conditions: 1) conditions precedent; and 2) conditions subsequent. A condition precedent is a
condition that must be fulfilled to activate the contract. In an insurance contract, the conditions precedent
are the payment of the premium and a covered loss. Conditions subsequent are acts or duties that must be
adhered to in order to receive the benefits of the policy. An example of conditions subsequent is the
“Duties After a Loss” section of the policy. To receive the benefits of the policy, the insured must comply
with the contractual requirements.

History of Insurance Company in Nepal.

Insurance is a newly emerging business in Nepal. Therefore, the
history of insurance business is definitively very short in Nepal. As
the first insurance company, Nepal Mal Chalani Tatha Bima Company
Ltd.was established in 2004 B.S. This insurance company can be
taken as the first step or milestone of Nepalese insurance history,
with authorized capital of five lakhs. It was later converted into
Nepal Insurance and Transport Company Pvt. Ltd., in 2016 B.S.
This was again renamed as Nepal Insurance Company Ltd in 2048
Bs. Basically, the company was concentrated in non life insurance
business. Before the establishment of that company there were some branches of Indian Insurance companies
operating to provide insurance service. 
As a private insurance company with limited capital, the Nepal Mal Chalani Tatha Bima Company Limited . Was not
successful to provide all types of insurance facilities all over the country. Foreign large insurance companies were
doing well business in Nepal through agents. Unite India Insurance, Hindustan General Insurance, Starling
Insurance, Ruby General Insurance, Oriental Fire insurance had branches in Nepal to provide insurance
facilities until 2024 B.S.
Considering the role of insurance business in the expansion of economic activities and alarming outflow of money
from the country, the government of Nepal felt the need of large and well organized insurance company within the
country. Then immediately, the HMG established Rastriya Bima Sansthan under the Insurance Act 2025. This
insurance company is totally financed by the government to provide all types of insurance perils, which is essential

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for economic development. This insurance company has alone provided various types of insurance facilities for
about 2 decades in Nepal.
After reestablishment of democracy, Nepal also implemented the policy of privatization and economic
liberalization and globalization. As the country was following economic liberalization, the previous acts were
amended and new Insurance Act 2049 was introduced. The number of insurance companies in Nepal has been
gradually increasing year by year. At present there are 25 insurance companies in Nepal. They are as follows.
Date of
S.N Name of Company Address Business Type Ownership Branch
Registration
1 Nepal Insurance Co. Ltd Kamaladi, Ktm Non Life Public 2004-06-08 9
Life & Non
2 The Oriental Insurance Co. Ltd Kantipath, Ktm Foreign(Branch) 2024-05-30 10
life
Ramasahapath, Life & Non
3 Rastriya Bima Sansthan Government 2025-09-01 10
Ktm life
4 National Insurance Co. Ltd Tripureshwor, ktm Life Foreign(Branch) 2030-09-17 6
5 National Life insurance Co. Ltd Lazimpat, Ktm Life Joint Investment 2044-09-23 28
6 Himalayan Insurance Co. Ltd Darbarmarge, ktm Non-life Public 2050-04-06 6
7 United insurance Co. Ltd Darbarmarge, ktm Non-life Public 2050-06-07 4
8 Premier Insurance Co. Ltd Tripureshwor, ktm Non-life Public 2051-01-08 6
9 Everest Insurance Co. Ltd Hattisar, Ktm Non-life Public 2051-02-17 7
10 Neco Insurance Ltd. Hattisar, Ktm Non-life Public 2053-02-17 8
11 Sagarmatha Insurance Co. Ltd Kathmandu Plaza Non-life Public 2053-03-12 10
12 Aliance Insurance Co. Ltd Kamaladi, Ktm Non-life Public 2053-04-04 9
13 N.B Insurance Co. Ltd Lal Darbar, Ktm Non-life Public 2057-10-10 12
14 Nepal Life insurance Co. Ltd (NLIC) Kamaladi, Ktm Life Public 2058-01-04 12
American Life insurance Company
15 Pulchowk, Lalitpur Life Foreign Branch 2058-04-18 11
Ltd.
16 Life insurance Co. Ltd Kamaladi, Ktm Life Joint Investment 2058-04-23 13
17 Prudential Insurance Co. Ltd Putalisadak, Ktm Non-life Public 2059-01-20 2
18 Sikhar Insurance Co. Ltd New Baneshwor Non-life Public 2061-07-02 4
19 Lumbani Insurance Co. Ltd Kantipath, Ktm Non-life Public 2062-03-31 5
20 N.L.G. Insurance Co. Ltd Lazimpat, Ktm Non-life Joint Investment 2062-06-23 28
21 Siddhartha insurance Co. Ltd Tripureshwor, Ktm Non-life Public 2062-12-23 3
22 Asian Life insurance Co. Ltd Kathmandu Life Public 2064-12-21 14
23 Surya Life insurance Co. Ltd Kathmandu Life Public 2064-12-06 2
24 Guras life insurance Co. Ltd Kathmandu Life Public 2064-12-18 7
25 Prime life insurance Co. Ltd Kathmandu Life Public 2065-02-22 12

Evolution of Insurance in Nepal

The history of insurance practices evolves with “Guthi System” which is the joint family culture that has been
prevalent from ancient times in Nepal. This system has provided security and assistance to individuals and families
in times of need. It is a kind of trust where lands and money are allocated from different sources for religious and
charitable purposes. Hence, this trust was referred as Guthi and this money or lands were utilized for a needy
purpose, which was called as a Guthi system. In other words, this was practical system of gathering properties or
assets from a state or people and using in future for some social cause. ‘Guthi’ is derived from Sanskrit word
‘Gosthi’ that refers to an association or an assembly. But modernization and growth of various small-scale
industries brought the necessity of insurance companies in Nepal to insure any loss and damage.
In 1937, to meet the growing economic and social development Nepal Bank Limited was established as the first
bank of the country. However, there were not any Nepalese insurance company and Indian insurance companies
were doing business here and taking the premium collected to foreign land. To stop the strong presence of foreign
insurance companies in local market, Nepal Insurance and Transport Company was establish under the ownership
of Nepal Bank Limited in 1947. It was the first local insurance company ever established in Nepal.
The democracy in Nepal brought a rapid economic and social revolution and in result, many industries began to
establish. Investment began to increase in education, trade and transport. Many Indian insurance companies started
to have dominance in the Nepalese market as Nepalese insurance company had limited sources and was still in
infant stage. To meet the demand of increasing need of modern insurance company, Nepal government established
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‘Rastriya Beema Sansthan Private limited’. Later, it was converted to Rastriya Beema Sansthan in 1968. (Insurance
Board Nepal)
Beema Samitee was also established in 1968. “The word ‘Beema’ means ‘Insurance’ and ‘Samiti’ means ‘Board’
in Nepalese language. Hence, the word ‘Beema Samiti’ is synonymous to Insurance Board, which is constituted to
systematize, regularize, develop and regulate the insurance business within the country under Insurance Act,
1992”(Insurance Board Nepal). Deposit Insurance and Credit Guarantee Corporation were established in 1974 and
General Insurance Company in 1968. These were the first private insurance companies in Nepal. After the
restoration of democracy, the government initiated economic liberalization in the country and as a result, many
private insurance companies were introduced. There are 25 insurance companies registered in Nepal in which 16
are only general insurance companies and other are either life or both insurance companies.

Beema Samiti (Insurance Board )

Insurance Act, 1968 made a provision of Beema Samiti (Insurance Board), as a sole authority to regulate the
insurance activities within Nepal.
During 1990s, Nepalese government adopted economic liberalization policy. The policy results in the rapid
expansion of the Nepalese Insurance business in terms of number of companies working in the field and also, total
premium income. In the mean time existing Insurance Act, 1968 and Insurance Rules 1969 was repealed by
Insurance Act, 1992 and Insurance Regulation 1993 respectively. The main aim of the Insurance Act, 1992 is to
establish Insurance Board to systematize, regularize, develop and regulate the Insurance Business in Nepal. At
present, policy holders’ protection has become main focal point. However, the independence of regulatory body is
still handicapped by existing law. This is among reasons why the Insurance Act of Nepal should be amended in an
appropriate manner. The Board consists of;
Chairman (CEO) :A person nominated or designated by Government
Member Representative:Ministry of Law, Justice and Parliamentary Affair
Member Representative: Ministry of Finance
Member: A person nominated by Government from among the persons having the special knowledge in the
Insurance Business
Member: A person nominated by Government from among the Insured
a) Functions of the Board
As per the Insurance Act, 1992 the Functions, Duties and Powers of the Board is as follows:
 To provide necessary suggestions to the Government of Nepal to frame the Policy regarding to systematize,
regularize, develop and regulate the Insurance Business.
 To frame a policy for the investment of the amount received from the insurance and to prescribe the priority
sectors.
 To register and renew the Insurer, Insurance Agent, Surveyor and Broker and to cancel or cause to cancel
such registration.
 To arbitrate in the dispute arises between the Insurer and the Insured.
 To make decision on the complaints filed by the Insured against the Insurer regarding to the settlement of
liability of the Insurance.
 To issue necessary directives to the Insurer from time to time regarding to the Insurance Business.
 To formulate necessary basis for the protection of interests of the Insured, and
 To do or cause to do other necessary functions regarding to the Insurance business.
b) Main Activities of the Board
Activities of the Insurance Board are directed towards policyholder protection at large for the healthy growth of
insurance industry. Main activities of the Board can be summarized as follows;
i) Regulatory Activities: a. Suggest the government on formulation of insurance policy, b. Draft insurance Acts &
Regulations as per best practice, c. Develop and amend the Insurance related directives, d. Develop and amend
investment Guidelines for insurers, e. Approve the terms and conditions of new products, f. Issue and renew the
license of Insurers, Surveyors, Insurance Agents and Brokers.
ii) Supervisory Activities: a. Off-site inspection, b. On-site inspection (full scope and focused), c. Formulation of
supervisory frame works, d. Legal action against Insurers, Surveyors, Insurance Agents and Brokers.
iii) Development Activities: a. Public awareness activities, b. Human resource development activities (training,
workshop, seminar talk programs etc) c. International relations in insurance through IAIS, ICDC, SAIRF, etc.

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iv) Semi-judiciary activities: a. To arbitrate in the dispute which arises between the Insurer and the Insured, b. To
make decision on the complaints filed by the Insured against the Insurer regarding to the settlement of liability of
the Insurance.
Role and Importance of Insurance
The role and importance of insurance, here, it has been discussed in three phases:
1. Uses to Individual :
 Insurance provides security and safety
 Insurance affords peace of mind
 Insurance protects mortgaged property
 Insurance eliminates dependency
 Life insurance encourage saving
 Life insurance provides profitable investment
 Life insurance fulfils the needs of a person like family needs, old age needs, re-adjustment needs,
need for education, marriage, insurance needs for settlement of children and clean up funds.
2. Uses to Business or Industry:
 Uncertainty of business losses is reduced
 Key man indemnification
 Enhancement of credit
 Business continuation
 Welfare of employees
3. Uses to Society:
 Wealth of the society is protected
 Economic growth of the country
 Reduction in inflation
Meaning and definition of Insurance:
Insurance-Meaning and definition Insurance is a contract between two parties. One party is the insured and the
other party is the insurer. Insured is the person whose life or property is insured with the insurer. That is, the person
whose risks are insured is called insured. Insurer is the insurance company to whom risk is transferred by the
insured. That is, the person who insures the risk of insured is called insurer. Thus insurance is a contract between
insurer and insured. It is a contract in which the insurance company undertakes to indemnify the insured on the
happening of certain event for a payment of consideration. It is a contract between the insurer and insured under
which the insurer undertakes to compensate the insured for the loss arising from the risk insured against.

Life insurance-concept

Life insurance is a contract under which the insurer

(Insurance Company) inconsideration of a premium paid
undertakes to pay a fixed sum of money on the death of the
insured or on the expiry of a specified period of time
whichever is earlier. In case of life insurance, the payment
for life insurance policy is certain. The event insured against
is sure to happen only the time of its happening is not
known. So life insurance is known as ‘Life Assurance’. The
subject matter of insurance is life of human being. Life
insurance provides risk coverage to the life of a person.
Life Insurance – Life Insurance is a contract
providing for payment of a sum of money to the person
assured or the person entitled to receive the same on the

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happening of certain events, usually death life insurance is defined as a mutual agreement by which one
party agrees to pay a given sum of money upon the happening of a particular event contingent upon the
duration of human life, in consideration of the payment of a smaller sum immediately, or in periodical
payments by the other party. Life Insurance Corporation of India was organised with the objectives of
assurance of a) Family protection b) Provision for old age c) Tax concession d) Housing loans e) Loans
advanced for educational purposes and f) Donation to charitable institutions.
Features of Life Insurance
1. Life insurance is an outcome of offer and acceptance. The offer is made by the insured and acceptance
is done by the insurer.
2. The insurance company agrees to pay a certain sum of money either on the death of the insured or on
the maturity of the policy whichever is earlier.
3. The insured has an obligation to pay an amount periodically up to the date of death or expiry of the
period of the policy whichever is earlier.
4. Life insurance is not a contract of indemnity. We cannot calculate the value of life in terms of money.
5. Insurable interest must be present at the time of taking policy and which may or may not be present at
the time of death of the insured.
6. 1t is considered as the best alternative way of savings.
Importance of Life Insurance:
Life Insurance is of great importance to individuals, groups, business community and general public. Some of the
main benefits of life insurance are given below.
1. Protection against untimely death :Life insurance provides protection to the dependents of the life insured and
the family of the assured in case of his untimely death. The dependents or family members get a fixed sum of
money in case of death of the assured.
2. Saving for old age :After retirement the earning capacity of a person reduces. Life insurance enables a person
to enjoy peace of mind and a sense of security in his/her old age.
3. Promotion of savings: Life insurance encourages people to save money compulsorily. When a life policy is
taken, the assured is to pay premiums regularly to keep the policy in force and he cannot get back the premiums,
only surrender value can be returned to him. In case of surrender of policy, the policyholder gets the surrendered
value only after the expiry of duration of the policy.
4. 1nitiates investments: Life Insurance Corporation encourages and mobilizes the public savings and channelises
the same in various investments for the economic development of the country. Life insurance is an important tool
for the mobilization and investment of small savings.
5. Credit worthiness: Life insurance policy can be used as a security to raise loans. It improves the credit
worthiness of business.
6. Social Security: Life insurance is important for the society as a whole also. Life insurance enables a person to
provide for education and marriage of children and for construction of house. It helps a person to make financial
base for future.
7. Tax Benefit :Under the Income Tax Act, premium paid is allowed as a deduction from the total income .
Kinds of Policies The life insurance policies cum be divided on the basis of :
1. Duration of policy
2. Methods of premium payment
3. Participation in profit
4. Number of lives covered
5. Method of payment of sum assured
Types plan of life insurance
There are two major types of life insurance—term and whole life. Whole life is sometimes called permanent life
insurance, and it encompasses several subcategories, including traditional whole life, universal life, variable life
and variable universal life. In 2003, about 6.4 million individual life insurance policies bought were term and about
7.1 million were whole life.
Life insurance products for groups are different from life insurance sold to individuals. The information below
focuses on life insurance sold to individuals.

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Term
Term Insurance is the simplest form of life insurance. It pays only if death occurs during the term of the policy,
which is usually from one to 30 years. Most term policies have no other benefit provisions.
There are two basic types of term life insurance policies—level term and decreasing term.
 Level term means that the death benefit stays the same throughout the duration of the policy.
 Decreasing term means that the death benefit drops, usually in one-year increments, over the course of the
policy’s term.
 Term insurance comes in two basic varieties—level term and decreasing term. These days, almost
everyone buys level term insurance. The terms “level” and “decreasing” refer to the death benefit amount
during the term of the policy. A level term policy pays the same benefit amount if death occurs at any point
during the term.
 Common types of level term are:
 yearly- (or annually-) renewable term
 5-year renewable term
 10-year term
 15-year term
 20-year term
 25-year term
 30-year term
 term to a specified age (usually 65)
 Yearly renewable term, once popular, is no longer a top seller. The most popular type is now 20-year term.
Most companies will not sell term insurance to an applicant for a term that ends past his or her 80th
birthday.
 If a policy is “renewable,” that means it continues in force for an additional term or terms, up to a specified
age, even if the health of the insured (or other factors) would cause him or her to be rejected if he or she
applied for a new life insurance policy.
 Generally, the premium for the policy is based on the insured person’s age and health at the policy’s start,
and the premium remains the same (level) for the length of the term. So, premiums for 5-year renewable
term can be level for 5 years, then to a new rate reflecting the new age of the insured, and so on every five
years. Some longer term policies will guarantee that the premium will not increase during the term; others
don’t make that guarantee, enabling the insurance company to raise the rate during the policy’s term.
 Some term policies are convertible. This means that the policy’s owner has the right to change it into a
permanent type of life insurance without additional evidence of insurability.
“Return of Premium ”
In most types of term insurance, including homeowners and auto insurance, if you haven’t had a claim
under the policy by the time it expires, you get no refund of the premium. Your premium bought the
protection that you had but didn’t need, and you’ve received fair value. Some term life insurance
consumers have been unhappy at this outcome, so some insurers have created term life with a “return of
premium” feature. The premiums for the insurance with this feature are often significantly higher than for
policies without it, and they generally require that you keep the policy in force to its term or else you
forfeit the return of premium benefit. Some policies will return the base premium but not the extra
premium (for the return benefit), and others will return both.
Whole Life/Permanent
Whole life or permanent insurance pays a death benefit whenever you die—even if you live to 100! There are three
major types of whole life or permanent life insurance—traditional whole life, universal life, and variable universal
life, and there are variations within each type.
In the case of traditional whole life, both the death benefit and the premium are designed to stay the same (level)
throughout the life of the policy. The cost per $1,000 of benefit increases as the insured person ages, and it
obviously gets very high when the insured lives to 80 and beyond. The insurance company could charge a premium
that increases each year, but that would make it very hard for most people to afford life insurance at advanced ages.
So the company keeps the premium level by charging a premium that, in the early years, is higher than what’s
needed to pay claims, investing that money, and then using it to supplement the level premium to help pay the cost
of life insurance for older people.

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By law, when these “overpayments” reach a certain amount, they must be available to the policyholder as a cash
value if he or she decides not to continue with the original plan. The cash value is an alternative, not an additional,
benefit under the policy.
In the 1970s and 1980s, life insurance companies introduced two variations on the traditional whole life product—
universal life insurance and variable universal life insurance.
For more on the different types of whole life/permanent insurance.

Claims on Policies
A person claiming money on the maturity of the policy must satisfy the insurance company that he is entitled to
receive the money either :
a) As the owner of the policy b) Became the actual claim is rested in him as legal representative or as a nominee or
as assignee. On the maturity of the life policy, the insurer requires a reasonable proof of age and death of the life
assured. Death may be proved by direct or indirect evidence.

Basic Principles of Life Insurance Contract.

1.Insurable interest The insured must have insurable interest in the life assured. In absence of insurable interest,
Contract of insurance is void. Insurable interest must be present at the time of entering into contract with insurance
company for life insurance. It is not necessary that the assured should have insurable interest at the time of
maturity also.
2.Utmost good faith The contract of life insurance is a contract of utmost good faith. The insured should be open
and truthful and should not conceal any material fact in giving information to the insurance company, while
entering into a contract with insurance company. Misrepresentation or concealment of any fact will entitle the
insurer to repudiate the contract if he wishes to do so.
3.Not a contract of indemnity The life insurance contract is not a contract of indemnity. A Contract of life
insurance is not a contract of indemnity. The loss of life cannot be compensated and only a fixed sum of money is
paid in the event of death of the insured. So, the life insurance contract is not a contract of indemnity. The loss
resulting from the death of life assured cannot be calculated in terms of money.

Features of life insurance

Following are the important features of valid contract of life insurance
1.Elements of a valid contract 6.Cause is certain
2.Insurable interest 7.Premium (consideration)
3.Utmost good faith 8.Term of policy
4.Warranties 9.Return of premium (surrender)
5.Assignment and Nomination
Unit IV
Life insurance Products
Life insurance Policies
Life insurance Policies Life insurance policies can be grouped into the following categories:
1. Term Policy In case of Term assurance plans, insurance company promises the insured for a nominal
premium to pay the face value mentioned in the policy in case he is no longer alive during the term of the
policy.
Term assurance policy has the following features:
• It provides a risk cover only for a prescribed period. Usually these policies are short-term plans and the
term ranges from one year onwards. If the policyholder survives till the end of this period, the risk cover
lapses and no insurance benefit payment is made to him
. • The amount of premium to be paid for these policies is lower than all other life insurance policies. As
savings and reserves are not accumulated under this policy, it has no surrender value and loan or paid-up
values are not allowed on these policies.
• This plan is most suitable for those who are initially unable to pay high premium

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• when income is low as required for Whole Life or Endowment policies, but requires life cover for a high
amount.

2. Whole Life Policy

This policy runs for the whole life of the assured. The sum assured becomes payable to the legal heir
onlyafter the death of the assured.
The whole life policy can be of three types.
(1) Ordinary whole life policy–In this case premium is payable periodically throughout the life of the
assured.
(2) Limited payment whole life policy–In this case premium is payable for a specified period (Say 20
Years or 25 Years) Only.
(3) Single Premium whole life policy–In this type of policy the entire premium is payable in one single
payment.
3. Endowment Life Policy
In this policy the insurer agrees to pay the assured or his nominees a specified sum of money on his death
or on the maturity of the policy whichever is earlier. The premium for endowment policy is comparatively
higher than that of the whole life policy. The premium is payable till the maturity of the policy or until the
death of the assured whichever is earlier. It provides protection to the family against the untimely death of
the assured.
4. Health insurance schemes
An individual is subject to uncertainty regarding his health. He may suffer from ailments, diseases,
disability caused by stroke or accident, etc. For serious cases the person may have to be hospitalized and
intensive medical care has to be provided which can be very expensive. It is here that medical insurance is
helpful in reducing the financial burden. These days the vulnerability to lifestyle diseases such as heart,
cancer, neurotic, and pollution based, etc are on the increase. So it makes sense for an individual to go for
medical insurance cover.
5. Joint Life Policy
This policy is taken on the lives of two or more persons simultaneously. Under this policy the sum assured
becomes payable on the death of any one of those who have taken the joint life policy. The sum assured
will be paid to the survivor(s). For example, a joint life policy may be taken on the lives of husband and
wife, sum assured will be payable to the survivor on the death of the spouse.
6. With Profit And Without Profit Policy
Under with profit policy the assured is paid, in addition to the sum assured, a share in the profits of the
insurer in the form of bonus. Without profit policy is a policy under which the assured does not get any
share in the profits earned by the insurer and gets only the sum assured on the maturity of the policy. With
profit and without profit policies are alsoknown as participating and non–participating policies
respectively.

7. Double Accident Benefit Policy

This policy provides that if the insured person dies of any accident, his beneficiaries will get double the
amount of the sum assured.
8. Annuity Policy
Under this policy, the sum assured is payable not in one lump sum payment but in monthly, quarterly and
half-yearly or yearly instalments after the assured attains a certain age. This policy is useful to those who
want to have a regular income after the expiry ofa certain period e.g. after retirement. Annuity is paid so
long as the assured survives. In annuity policy medical check-up is not required. Annuity is paid so long as
the assured survives.
9. Policies For Women
Women, now a days are free to take life assurance policies. However, some specially designed policies suit
their needs in a unique manner; important policies for women are
A. Jeevan Sathi is also known a Life Partner plan where the husband and wife are covered under this
endowment policy .
B. Jeevan Sukanya

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10. Group Insurance
Group life insurance is a plan of insurance under which the lives of many persons are covered under one
life insurance policy. However, the insurance on each life is independent of that on the other lives. Usually,
in group insurance, the employer secures a group policy for the benefit of his employees. Insurer provides
coverage for many people under single contract.
11. Policies For Children
Policies for children are meant for the various needs of the children such as education, marriage, security
of life etc. Some of the major children policies are: (1) Children’s deferred assurances (2) Marriage
endowment and educational annuity plans (3) Children endowment policy .
12. Money Back Policy
In this case policy money is paid to the insured in a number of separate cash payments. Insurer gives
periodic payments of survival benefit at fixed intervals during the term of policy as long as the
policyholder is alive.

Annuity :- Life annuity is an insurance product that features a predetermined periodic payment of amount until the
death of the annuitant or insurer. These policies are used to help retirees budget their money after retirement. The
insurer pays into the annuity on a periodic basis when he or she is still working. However, annuitants may also buy
the annuity policies is one large purchase. When the annuitant retires, the annuity makes periodic payments to the
annuitant, providing a reliable source of income. When the death of the annuitant occurs the periodic payments
from the annuity usually stops.
Proposal Forms
The proposal form is a standardized form. The proposal form is a type of an application form, which a proposer has
to fill all the relevant details about the life to be assured. The agent has the proposal form with him provided by the
insurer. There are different types of policies and so the different types of proposal forms are there. It has the entire
details regarding the duration of the policy, type of plan, mode of payment, etc. A proposal form is to be to be
completed by the proposer in his own handwriting and signed in the presence of the agent. The proposal form
contains a declaration at the end, to ensure the authenticity of the information given.
Usually the proposal form contains the following information to be filled by the prospective insured:
1. Name of life assured 2. Address 3. Date of Birth 4. Occupation 5. Age 6. Name of the employer (if any) 7.
Sum assured ofthe proposed policy 8. Number and age of the family members 9. Family medical history 10.
Proposer’s Medical history Besides these there are other related forms regarding health, occupation, the agent’s
confidential report and many others. In addition there is a consent letter which shows the consent of the life
assured to the imposition of some clause or extra premium, duly signed by the life assured.

First Premium Receipt

The agent provides the proposal form and other related documents and the underwriter examines the form and
other documents and then determines the terms on which to accept the risk or reject the same. The consent of
the person assured is obtained in the form of payment of premium. After receiving the payment, the insurance
company issues the First Premium Receipt, which acknowledges the proposal of the life-assured. It contains all
particulars of the policy. It has the details of the next premium to be paid. The policy bond is sent within 45-50
days from the date of first premium receipt to the life assured. The First Premium Receipt is an important and
powerful document on the basis of which the life- assured can ask the insurer to issue the policy bond, which is
treated as Evidence of the Contract of Life assurance.
Policy Bond
After issuing the First Premium Receipt, the next step is that of the insurer of sending the policy bond to the
life-assured and this document is also known as Policy Contract, which is the ultimate evidence of the life-
assured. The Policy Contract contains all the terms and conditions of the contract between insurance company
and the life assured, duly stamped as per the Indian Stamp Act. The policy is sent to the life assured by the
insurer. The policy contract contains the details of the insurance such as duration of the policy, the type of
policy, sum assured, premium amount and the date of maturity, extra premium, nominee, assignee etc

Assignment and Nomination

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The Policyholder should be advised for nomination, if no nomination was effected. When nomination or
assignment is effected by a policyholder, it should be scrutinized thoroughly to see whether it was in order or
not. If there is any material omission or mistake, it may be returned to the policyholder or the assignee with a
covering letter giving instructions as to the corrections to be made in the assignment or nomination. When a
document is sent for correction, reminders should be sent every fortnight until the requirements are complied
with. The policyholder should follow the instructions printed on the back of assignment or nomination .

Nomination
Nomination is the process of identifying a person to receive the policy money in the
event of the death of the Policyholder. Nomination can be done at the beginning of
the Policy by giving details of nominee in the proposal form. However, if the
nomination is not given at the beginning, the Policyholder can give it at a later date.
For that purpose a prescribed form is to be filled up and nomination can be endorsed
on Policy Bond.
Change in Nomination.
Change ofnomination can be done by the policy holder any time during the term of the policy and any number
of times he wants to. Procedure of nomination is same every time.
Withdrawal of nomination
Nomination can be withdrawn by the policy holder without giving prior notice to the nominee. Nomination
can be done only by a policyholder who has attained majority and on a policy on his life. Under Nomination,
the Nominee gets only the right to receive the policy money in the event of the death of the Policyholder.
Death of the Nominee
If the nominee dies and the policyholder is still surviving then the nomination would be ineffective. If
Nominee dies after the death of the Policyholder but before receiving policy money, then also Nomination
becomes ineffective and only the legal heirs of the policyholder can claim money.
Nomination at a later date
After the policy is prepared and issued and if no Nomination has been given the assured can give the
nomination only by an endorsement on the policy itself. A nomination is not required to be stamped.
Nomination in favour of a stranger cannot be given as there is no insurable interest involved in that case. For
nomination in favour of wife and children, specific names of wife and children should be given.
Successive nominee Where it is mentioned in nomination that the policy money should be paid to “Nominee
A failing him to Nominee B whom failing to Nominee C, etc.”, such nomination is called successive
nomination. Such nomination would be in favour of one individual in the order mentioned. All such
Nomination would mean that if Nominee A were dead at the time in question the Nominee B would take the
whole amount and that if both Nominees A and B were then dead then Nominee C would take the whole
amount and so on.
A Minor Nominee
In view of the Insurance (Amendment Act) 1950, the Life Assured has the right, where a nominee is a minor,
to appoint any person as the Appointee to receive the moneys secured by the policy in the event of the
assureds’ death during minority of the nominee. The person so appointed will not be a guardian of the minor
Nominee’s power will be limited to the right to receive the policy money in the event of the assureds’ death
during the minority of the Nominee. The appointment must be a major. The appointment of Appointee must be
communicated to the insurance company. So his name can be registered with the company. The appointment
can be cancelled or changed by the life assured any time before the maturity of the policy.

Assignment
Assignment is a means whereby the right and title under a policy gets transferred from assignor to assignee.
Assignor is the policyholder who transfers the title and assignee is the person who gets the title of the policy
from the assignor.
Assignment can be made either by endorsement on the policy or on a separate paper duly stamped. Assignor
must be a major. Assignment must be in writing and assignor’s signature along with a witness is required.
Notice of assignment should be submitted to the insurer by the assignor.

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Assignment can be of two types:
1. Absolute Assignment: In which all the rights, title and interest of the assignor in the policy passes on to the
assignee without the possibility of cancellation of the same.
2. Conditional Assignment: In which the assignor and the assignee may agree that in case specified event or
events happen, the assignment would be cancelled or ineffective in part or as a whole.
Impact of assignment
In assignment, assignor gives all the rights over the policy to the assignee that becomes the owner of the
policy. The assignee has the right to reassign that policy. In the event of death of the assignee, if the
assignment is conditional assignment and the assignee dies, the assignment becomes ineffective and all the
rights and title of the policy goes back to the life assured if he is alive. If the life assured is not surviving, the
benefit goes back to the life assureds’ nominee. In case of absolute assignment, if the assignee dies, all the
rights entitled of the policy are given to legal heirs of the assignee.
Cancellation of assignment
An assignment once executed cannot be cancelled, however, if an assignee during the term of the policy
reassigns the interest and title of the policy to the previous assignor such reassignment will result in
cancellation of assignment and the benefits of the policy go back to the original assignor.
Procedures of Assignment
A standard form of Assignment is issued to the policyholder who wants to effect an assignment of his policy.
Necessary instructions are there for executing the assignment which is then registered by the insurance
company.
Points to be considered by the insurance company for affecting assignment:
(1) Check whether the assignment is executed on the Policy or on a separate paper and if it is executed on a
separate paper that the paper is adequately stamped. If it is unstamped or inadequately stamped inform the
assignor and get it corrected.
(2) Check whether notice of assignment is received from the assignor; if the notice is not received or it is
defective, inform the assignor.
(3) Check the signatures of assignor affixed to the assignment and notice with the specimen of his signature in
the proposal papers to see that they tally.
(4) If the assignment is executed on a separate paper, ensure that the paper should be stamped, in accordance
with the stamp regulations.
(5) Check that the date and place of execution on Assignment are mentioned.
Claims and Settlement
The easy and timely settlement of a valid claim is an important function of an insurance c ompany. The
yardstick to judge insurance company’s efficiency is as to how quick the claim settlement is. The speed,
kindness and fairness with which an insurer handles claims show the maturity of the company and may lead to
great satisfaction of the client. It is the liability of the insurance company to honour valid and legal claims. At
the same time the company must identify the fraudulent and invalid claims.
A claim may arise:
i) On death of Policyholder before the maturity date.
ii) On maturity, i.e.after expiry of the endowment period specified in the policy contract when the policy
money becomes payable.
Certain features are common to all life insurance claims. These are:
1. Policy must be in force at the time of claims.
2. Insured must be covered by the policy.
3. Nothing was outstanding to the insurer

Death Claims
Following points to be considered in connection with insurance claim,
I. Intimation of death
The death of the life assured has to be intimated in writing to the insurer. It can be done by the Assignee or
nominee under the policy or from a person representing such Assignee or Nominee or when there is no

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nomination or assignment by a relative of the life assured, the employer, the agent or the development officer.
The intimation of the death of the life assured by the claimant should contain the following particulars:
(1) His or her relationship with the deceased,
(2) The name of the policyholder,
(3) The number/s of the policy/policies,
(4) The date of death
(5) The cause of death
and (6) Sum assured etc.
If any of these particulars are missing the claimant can be asked to furnish the same to the insurer. The
intimation must satisfy two conditions
(1) It must establish properly the identity of the deceased person as the life assured under the policy,
(2) It must be from a concerned person.
II. Proof of death and other documents
In case of claim by death, after the receiving the intimation of death the insurance company ensures that the
insurance policy has been in force for the sum assured on the date of death and the intimation has been
received from assignee, nominee or other claimant. The following documents are required: (i) Certificate of
death. (ii) Proof of age of the life assured (if not already given). (iii) Deeds of assignment / reassignments. (iv)
Policy document. (v) Form of discharge.
If the claim has accrued within three years from the beginning of the policy, the following additional
requirements may be called for:
(i) Statement from the hospital if the deceased had been admitted to hospital.
(ii) Certificate of medical attendant of the deceased giving details of his/her last illness.
(iii) Certificate of cremation or burial to be given by a person of known character and responsibility present at
the cremation or burial of the body of the deceased.
(iv) Certificate by employer if the deceased was an employee. Proof of death and other documents to be
submitted will depend upon the cause of death and circumstances of each case.
(1) In case of an air crash the certificate from the airline authorities would be necessary certifying that the
assured was a passenger on the plane. In case of ship accident a certified extract from the logbook of the ship is
required. In case of sudden cardiac arrest, murder the doctors’ certificate may not be available.
(2) The insurance may waive strict evidence of title if the sum assured of the policy is small and there is no
dispute among the survivors of the policy moneys.
(3) If the life assured had a death due to accident, suicide or unknown cause the police inquest report,
panchanama, post mortem report, etc would be required
III. Net Payable Amount of Claim
After receiving the required documents the company calculates the amount payable der the policy. For this
purpose, a form is filled in which the particulars of the policy, assignment, nomination, bonus etc. should be
entered by reference to the Policy Ledger Sheet. If a loan exists under the policy, then the section dealing with
loan is contacted to give the details of outstanding loan and interest amount, which is deducted from the gross
policy amount to calculate net payable claim amount. The net amount of claim payable is calculated and is
called payment voucher. In the case of ‘in f orce’ policy unpaid premiums if any due before the assureds’ death
with late fee where necessary and the premium falling due in the policy year current at the time of death should
be deducted from the claim amount.

Maturity Claims
If the life insured survives to the full term, then basic sum assured is payable. This payment by the insurer to
the insured on the date of maturity is called maturity payment. The amount payable at the time of the maturity
includes a sum assured and bonus/incentives. The insurer sends in advance the intimation to the insured with a
blank discharge form for filling various details in it. It is to be returned to the office along with
• Original Policy document
• Age proof if age is not already submitted
• Assignment /reassignment, if any.
Legally no claim is acceptable in respect for a lapsed policy or death of the Life assured happening within 3
years from the date of beginning of the policy. However, some concessions are given and payment of claims is

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made: • If the Life assured had paid at least 3 years' premiums and thereafter if premiums have not been paid,
the nominees/life assured get proportionate paid up value.
• In the event of the death of' the Life assured within 3 years and the policy is under the lapsed position,
nothing is payable.
Procedure of the maturity claims
Settlement procedure for maturity claim is simple after receipt of completed and stamped discharge form from
the person entitled to the policy money along with policy documents, claim amount will be paid by account
payee cheque.
• If the life assured is reported to have died after the date of maturity but before the receipt is discharged, the
claim is to be treated as the maturity claim and paid to the legal heirs. In this case death certificate and
evidence of title is required.
• Where the assured is known to be mentally deranged, a certificate from the court of law under the Indian
Lunacy Act appointing a person to act as guardian to manage the properties of the lunatic should be called.
Additional benefits apart from regular claims Double Accident Benefit: For claiming the benefits under the
Double Accident Benefit the claimant has to produce the proof to the satisfaction of the Corporation that the
accident is defined as per the policy conditions. Normally for claiming this benefit documents like FIR, Post-
mortem Report are required.
Underwriting
This is the processes by which an insurer evaluates the risk being proposed to decide whether or not to accept it
and if so on what terms. A person that plays this role is known as an underwriter.
The underwriter decides the charges, the terms and conditions to be imposed.
Underwriting: As per guidelines, the company has to process the proposal within 15 days‟ time. The agent is
expected to keep track of these timelines, follow up internally and communicate with the prospect / insured as and
when required by way of customer service. This entire process of scrutinizing the proposal and deciding about
acceptance is known as underwriting.

The Role of the Underwriter

Deciding a price – An important part of underwriting is deciding what price to charge for the insurance.
The factor the underwriter usually considers in fixing the price of a risk include claims costs expenses and
allowance for profit margin. The profit margin will be influenced by the level of competition in the insurance
market.
In order to come to decisions, the underwriter will also assess two aspects of hazards i.e. physical and moral.
Physical hazards are tangible aspects of the subject matter of insurance, which are likely to influence the
occurrence or severity of loss.
The underwriter obtains information as to the physical hazards through material facts disclosed in the proposal
form or by the surveyor’s report or through the underwriter’s knowledge of the trade, processes etc. built up
through his experiences over the years.
Physical hazards can be considered in two ways:
What are these aspects of the risks that are likely to influence the insured event to take place? What are those
aspects of the risk that are likely to make it a serious loss rather than a minor one if the event does take place?
Moral hazards are concerned with the attitudes and conduct of people. The conduct of the insured, employers
and society at large have influence in assessing moral hazards.

Underwriting Fire Insurance

The Fire Insurance
Examples of physical features which could start fires are:
Electrical installations in poor condition or the presence of old wire; Heat sources, naked lights, heaters, blow
torched smoking near flammable materials; Poor storage of materials which are likely to self – ignite or which
could react with materials next to them.
Other hazards that may burn once started, more severely than it would otherwise have been are:
Timber walls or thatched roofs Storage of flammable materials or oils; Open – plan work area.
However, the following physical features would make the risk a better one.

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Brick fire – stop walls, fire proof doors to wall openings, Segregation and compartmentation of dangerous goods
and processes, Automatic sprinkler protection.
Underwriting Factors
A large number of underwriting factors affect claims experience for buildings but the most important ones in use
are in construction. In Nigeria building construction is classified into A, B, and C.
Class A – Walls, floors, and stairways entirely must be made of non – combustible materials.
Class B – External walls and roofs should be constructed of mainly non – combustible materials but wood floors
are allowed.
Class C – Walls and external roof surfaces should be substantially constructed of non – combustible materials.
Combustible materials, excepting the building frame work allowed but not exceeding ten percent (10%) of other
factors are:
Name – The name of any individual or a company could reveal some moral hazard, which could be good or bad.
Location of the building – Buildings in highly congested areas such as Mushin, Oshodi areas of Lagos will attract
higher rates than those in Ikoyi or Ikeja GRA, also in Lagos.
Occupation – Whether or not hazardous processes are carried on.
Underwriting Theft Insurance
As in fire, construction of buildings places an important role in assessing risk of theft. A building having light
weight construction walls or roof such as timber, asbestos, or corrugated iron, or normal window catches and rim
latches on doors would present several poor features offering little resistance to a potential intruder. Also, if the
contents of a building are attractive to thieves, e.g. jewelry, electronics and clothes, the case would be regarded as
being heavy in physical hazards.
On the other hand, a strong building construction, security locks and bolts and intruder alarm systems can greatly
improve what would otherwise be a poor physical risk.
Underwriting Motor Insurance
The use of a vehicle in areas of high traffic density such as Lagos, Port – Harcourt and similar large cities increases
the like hood of an accident.
Other factors to be considered are;
Use of vehicle – vehicles used for commercial purposes are more exposed to accidents than those for private use.
Also cars which are costly to repair are regarded as presenting extra hazard. Drivers under the age of 25 and sports
cars are often regarded as poor physical risks.
Underwriting Liability Insurance
Underwriting factors depend on the type of liability insurance. For public and products liability insurance the major
factors are, proposer’s trade or business – business like food or drug manufacturing bring the proposer into close
contact with the public and as such impose greater risks.
Underwriting Life and Personal Accident Insurance
In life and personal accident insurance, underwriters classify proposals by age and occupation. These are the major
underwriting factors for these insurances.
The various factors that underwriters examine are:
Age – In life insurance, policy holders are classified by age since the likelyhood of death or ill–health generally
increases with age.
Occupation – A person’s occupation affects his or her chance of suffering accidental injury or ill–health: an
electrician or a mechanic is far more likely to be injured at work than a clerk or a manager.
Therefore, underwriting classifies occupations into the following classes:
Class I – No Accident/Health Risk
This includes professional, administrative or clerical workers, such as lawyers, accountants, doctors, teachers or
shop assistants.
Class II – Slight Accident/Health Risk
This includes skilled occupations involving a moderate amount of manual work and semi–skilled occupations
with little manual content e.g. garage mechanics, plumbers, painters and taxi drivers.
Class III – Appreciable Accident/Health Risk
This includes physically strenuous or manual work that is not unacceptably hazardous e.g. security
guards, crane operators, mining engineers etc.

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Class IV – Extra – Hazardous Risks
In these occupations, either the risk of injury is particularly great i.e coal – miners, test pilot, jockeys, demolition
workers, or the consequences of even a slight injury could be disastrous i.e professional entertainers or sportsmen,
concert pianists, or a high degree of moral hazard may be present, in particular a temptation to exaggerate the
seriousness of any injury.
Physical Conditions
In life insurance, an underwriter will investigate the proposer’s height, and weight and compare these with tables of
average weights of people of the same set.
3.8 Premium Rating in None Life Insurance
The basic aim of underwriting is to fit an appropriate price for the risk presented. In fitting the price, an
underwriting will try to balance general conflicting forces.
In carrying out his duties therefore, the underwriter ensures that there is equity among policyholders. The
premiums must reflect the burden which each policyholder expects to impose on the insurance fund. The premium
must be sufficiently large to cover losses and administrative expenses. If the premiums charged are consistently
too low, this may force the insurer into insolvency.
Also, every enterprise aims to earn adequate profits, therefore underwriters must set their premiums to produce
the required profit level.
All these combined are known as office premium.
A Breakdown of Office Premium
All office premiums have four main components:
A risk premium – This is the portion that the insurer must recover from each policyholder in order to cover
the present value of expected claims costs in the period of insurance.
The expenses loading – This the amount which is added to cover the policyholder’s fair contribution to all the
insurer’s other costs e.g. commissions, staff salaries, costs of electricity and stationary and capital equipment.
The profit loading – The profit loading is the amount which is added to the premium to cover expected divided
payments to the shareholders.
The contingency loading – This the amount which is added to the risk premium to cover the possible variability of
claims costs. The contingency loading serves to cushion the insurer to some extent from unexpectedly large
claims.
Calculation of the Premium
Rate per centum of the sum insured.
In fire, theft, all risks, consequential loss, life and marine insurances and in fact most types of policy premiums are
costed by applying a rate per N100 to the sum insured.
Each company has a rating guide which must necessarily agree with the Insurers Association’s rates, i.e. Fire
Insurance Rating Guide and Marine Rating Guide published by Nigerian Insurers Association. Rates are
reviewed from time to time to reflect current trends and practices.
Rates are determined by claim costs/administrative costs, and loading for profit and contingencies.
Various factors are considered in determining the claim costs depending on the class of insurance under
consideration.
In case of fire insurance, the construction of the building is important, other factors include the value of the
risk, the use of the building, location of the building and occupation of the insured and so on.
For theft insurance, the same principle for fire risk rating applies; risk factors include construction, occupation,
nature of stock, protection devices, values and previous loss record.
Premiums calculation in most classes of insurance are based on a rate per cent to the sum insured or limit of
liability. In a few classes of insurance, flat premium rates are used.
Distribution Channels :
Life Insurance companies have to provide servicing capabilities for the process
of sale, kind of products and demand of the customers as it differs significantly among
different distribution channels.

1.Agency
2.Bancassurance

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3.Direct Marketing
4.Broker
5.Work Site Marketing
6.Internet Marketing
7.Corporate Agency

Distribution Channels in Life Insurance

Most Life Insurance companies have grown by focusing on expanding their distribution and sales set-
ups. The key distribution channels that most Life Insurance companies have used are the following:
 Agency (agents) Channel – Agents have been the biggest driving force for the Life Insurance Industry. In
most markets, agents are certified individuals who represent a specific issuer, in some they are allowed to
pitch products from multiple companies.Since an agent usually prospects people within his/her own
network, it allows an issuer to drastically increase its distribution reach. Add to this that the agent is paid a
commission only upon a successful sale, and you would understand why this is usually a big channel.
Since an agent talks to his set of clients and prospects regularly, its easier for him to build a relationship
and convert the sale over a series of such interactions.
 Brokers or Broking Channel– Brokers are companies who can sell insurance products from multiple
issuers. In case of India, these entities are issued a formal broking license by IRDA to source and
underwrite the individual policies. Brokers are hence able to offer their end consumers a wider choice and
a better overall relationship. Most brokers have business interests that go beyond Life Insurance and
include products like Mutual Funds, Equity investments etc. Hence they become a one-stop shop for their
big customer base.
 Corporate Agents Channel – Corporate agents are similar to individual agents except that these are
companies and their representatives selling insurance products instead of individual agents. As per IRDA
mandate, Corporate Agent license is issued to those organizations whose core business is NOT insurance
sales. Again in the Indian scenario the corporate agent can only sell products from one issuer.
 Bancassurance Channel – Banks have a huge customer base and given the context, they usually are in a
good position to recommend appropriate financial products to their clients. Life Insurance companies have
also leveraged banks through what is called the Bancassurance channel. Here a bank chooses to associate
itself with a Life Insurance player and trains its bankers, wealth managers etc to pitch the relevant
products, thereby earning a good fee income.
 Direct Channels – With growing awareness of Life Insurance, very many customers prefer to transact
either online or through phone/email channels. Though such customers have been far and few, there is a
clear rise in contribution of Direct Channels for simple products like Term Plans. Many have infact
launched dedicated Online Term Plans and in some cases Online ULIPs/ Traditional plans too.
Surrender Value
If the insured is unwilling or unable to pay the premium of the policy, he may surrender the policy and ask for its
surrender value. Surrender value is the cash value payable by the insurance on voluntary termination of the policy
contract by the life assured before the expiry of the term of the policy. Surrender value depends on the type of
policy and number of premium paid. A policy can be surrendered only when the premium is paid for the three
years.
Differences between Assurance (life insurance) and Insurance (general insurance / non-life insurances)
1.Scope–the term “Assurance” is used only in life insurance and therefore the scope is comparatively limited. The
term insurance is used for all other types of risk coverage and therefore, the scope is wider.
2. Renewal of Policy-The life insurance contract is a continuing contract and it will not lapse unless the premium
is regularly paid. It is not certain that the event insured against may happen or not. Most of the general insurance
policies are annual policies, so renewal of policy is required.
3. Element of investment-the element of investment is present in assurance since there is certainly of receiving
payment either on death or on maturity of the policy. General insurance lacksthe element of investment since there
is no certainty of receiving payment.
4. Assurance–in life insurance, the insurer gives assurance to the insured to pay the claim in any case, either on
maturity or death. In general insurance, the insurer only promises to secure the property in case of actual loss.

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5. Amount of Claim-In LI, the policy amount is paid to the assured in full on the maturity or on death along with
bonus, etc. announced by the insurance company from time to time. In GI,The payment of claim is subjected to the
element of actual loss but not more than the insured sum.
6. Insurable Interest-In a life policy, the insurable interest is one that required by law and such interest isnot
measurable in terms of money. In GIs, the insured is required to have an insurable interest in terms of money.
7. Principle of indemnity-Principle of indemnity does not apply in life assurance. The sum assured is payable
unrespectable of any profit or loss and the full extent of the amount insured. Principle of indemnity is the basis of
general insurance contracts.
8. Certainty of event–in LIs, the event (death or reaching maturity) is bounded to happen sooner or later. It is not
certain that the event insured against may happen or not in the case of GIs.
9. Insured Sum-Insurance policy for any amount or any number of policies can be taken in LIs. In general
insurance, the policy amount is restricted to market value of assets; not more than that. This is because that
indemnity cannot be more than the value of asset.
10. Certainly of payment of claim-in LIs,Payment of claim either on maturity of the policy or on death of the
assured is certain. There is no certainly to receive payment since it is paid only in case of loss of the property
insured in GIs.
11. Insurable interest on the date of the policy or the policy falls due-In life insurance insurable interest is to be
proved at the date of the contract and it is not necessarily be present at the time, when the policy falls due for
claim. In marine insurance, the insured must be having insurable interest on the subject matter at the time of loss,
but not necessarily be present at the time of affecting the policy.
12. Subject matter-Human life is subject matter of life insurance. Goods and properties are subject matter of
general insurance.
13. Principle of subrogation–This is not applicable in life insurance. This principle is applicable in general
insurance.
14. Surrender of policy-in life insurance, the policy can surrender before maturity period.

Policy Administration
This is another departmental description that may involve overlap with other sections or departments mentioned
above or below. The general areas of concern here may be:
(a) General or Life insurance? : this is a most important question, since the policy document with each has a very
different significance. With general insurance, technically there need not be a policy (although there almost
invariably is) and it is seldom necessary to produce the original policy document when making a claim. With life
insurance, however, the contract is non-cancellable by the insurer, and the policy documents are required to be
produced at the time of a claim.
(b) Life insurance policies: as mentioned above, these must be produced when a claim is made. A mistake in a life
policy is potentially much more serious than with General Business, especially since the policy may be assigned to
another person and/or used as collateral with a loan and any assignees are expected to be
relying on the veracity of the policy.
(c) New business procedures: especially with Life business (as noted) the process of verification and checking,
both for factual accuracy and errors in document preparation, is very important. With any class of business, it is
important that the policy should be prepared and issued as efficiently and as impressively as
possible, for reasons that are obvious.
(d) Other procedures: this topic embraces such matters as error handling, policy correction, endorsement
preparation and renewal procedures. With life insurance, once more, the great importance of the actual payment of
the first premium must be considered. In other classes, the contract may commence without the receipt of a
premium (often a non-marine policy requires that the insured ‘has paid or agreed to pay the premium’). With life
insurance, the usual practice is that the existence of the contract depends upon the first premium being received.
Claims
Once more, there are significant differences between Life and General Business claims. Specifically, the
implications include:
(a) Life insurance claims: obviously, there will only be one death claim. It is quite essential for the claims handler
to check each claim with the utmost care, as all sorts of considerations are involved, such as:
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(i) Possible disputes or complications, for instance, problems may arise when the primary beneficiary cannot
be traced, or more than one person lodges a claim as alleged assignees;
(ii) possible outstanding policy loans;
(iii) possible assignment, so that the claimant is not the original policyholder;
(iv) uncertainties over actual death or the identity of the deceased;
(v) dividend/bonus considerations with participating/with-profit policies.
For similar reasons to those pertaining to underwriting life insurance claims handling is frequently centralized.
(b) General insurance claims: the range of different types of claims is much wider than with life insurance. Also,
it is quite possible that the amounts involved are enormous. Therefore, equal care should be taken in verification,
although most claims being relatively small, the work is much more likely to be decentralised, sometimes with
fairly junior staff having some degree of authority in claim settlement. [Example: Claims may be relatively trivial,
such as the loss of a camera, or exceedingly complex, such as a major explosion at a large power station.]
(c) Common features: there are two areas that must be the subject of attention in all insurance claims. These are:
(i) Liability: is the insurer liable under the policy? When dealing with liability insurance, it must also be
ascertained whether the insured is liable at law to the third party claimant.
(ii) Quantum: how much is payable with the claim? With life insurances, it is usually pre-determined, but with
other classes of business, this could involve complex and sometimes bitter discussion.
(d) Significance: it has been said that an insurer stands or falls on the way it deals with its claims. There is truth in
the remark and the insurance intermediary will want to know and feel confidence in the support he looks for in this
area.

The Insurance Market

The major players in the insurance market are:
 Insurance companies
 Reinsurance companies
 Insurance intermediaries
 Buyers of insurance products.
Insurance Companies – Insurance companies are risk takers. They accept risks transferred to them by individuals,
corporate bodies, government and their agencies/corporations etc. Insurance companies are required to be egistered
by the National Insurance Commission. The requirements for registration are contained in the Insurance Act 2003.
Re–Insurance Companies – As individuals purchase insurance from insurance companies, insurance companies
also purchase insurance from Re–insurance companies. Companies that accept insurance from insurance
companies are called re–insurance companies. Re–insurance is therefore a form of insurance whereby an insurance
company can transfer to another insurer all or part of its liabilities in respect of claims arising under the contracts
of insurance that it writes.
Insurance Intermediaries
Like any commodity or service, insurance transaction involves intermediaries through which insurance services
pass to the insuring public. There are two main categories of insurance intermediaries. They are insurance brokers
and insurance agents.
Insurance Brokers are required to be registered and professionally qualified. The requirements for registration as
a broker are contained in the Insurance Act.A broker is an intermediary between the insurer and the insured. The
main function of a broker is to act as the agent of the insured (the person taking an insurance policy) in obtaining
insurance cover for his risk and as agent of the insurer (insurance company) in collecting premium. Insurance
brokers receive brokerage (commission) from the insurance companies with whom they place business.
Insurance Agents – An agent is a person who acts on behalf of another. Insurance agents act as agents of
insurance companies in obtaining businesses from potential policy holders. The main duty of an agent is to solicit
risk and collect premium on behalf of the principal (insurer). An agent receives commission and other
remuneration from insurers. Insurance agents are required to be licensed by the National Insurance Commission.
The minimum requirements for licensing insurance agents are contained in the Insurance Act. There are three
classes of insurance agents:
The Full–Time Agent: A full–time agent acts for only one or more insurance companies. Also, the agent might be
an independent agent or an employee of an insurance company. The full–time agent devotes all his time towards

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the selling of insurance products. He is remunerated--- in the case of an employee, by monthly allowance plus
commission and in the case of an independent agent by commission only on the business produced.
The Part-Time Agent: A part–time agent does other things apart from selling insurance products. He might act
for one or more insurance companies. A part–time agent earns commission only on business introduced.
The Staff Agent: The staff agent is an employee of an insurance company. He sells insurance products on behalf
of only his employer. In return, he earns a commission on businesses introduced in addition to his monthly salary.
Buyers of Insurance Products
Buyers of insurance products are:
Individuals – The demand for insurance by individuals depends on their financial position. As a person’s income
rises, he can afford to buy the financial security provided by insurance. A rise in a person’s income enables the
person to acquire more property such as; a car, a house and household goods, which will in turn create the need for
insurance
protection.
Business Organizations–The demand for insurance by business buyers is a function of economic development. As
an economy grows, more capital - intensive methods of production tend to be employed. This will in turn increase
the demand for property insurance for the protection of property and liability insurance to compensate employees,
consumers and third parties for injury or damage to property resulting from the activities of business organizations.
Charities, Clubs and other Organizations--This third group of insurance buyers tends to demand for insurance
when their activities and income increases. An increase in activities increases the needs for group personal accident
for the protection of their members and property insurance for the protection of their assets.
Governments and Government Agencies/Corporations
Governments, Federal, State and Local councils are big time buyers of insurance products. The need for insurance
by these buyers is mainly to protect governments’ assets movable or immovable. In the case of agencies
/corporations, the need for insurance protection is obvious due to the fact that some of their activities are
hazardous. For instance, can NNPC do without insuring its assets? Can airlines afford not to insure their aircraft?
The answer is definitely “no” as no aircraft can be allowed to fly in the air space of another country without
insurance protectio

Non-Life Insurance
Non-life insurance is also called general insurance. Any insurance
other than life insurance is known as non-life insurance. Because of
its nature of measuring any risk in terms of money, it is also said as
pure insurance. General insurance is the insurance of property and
liable risk of insured against most specified cost that is premium. It
also includes property insurance, liability insurance and others
forms of insurance.
According to David (1983), “This part of insurance includes the
insurance and risk transfer of the property and liability of insured
where property insurance against loss arising from the ownership or
use of property includes two general classifications. The first in indemnifies the insured in the event of loss
growing out of damage too or destruction of his/her property. The second form pays damages for which
the insured is legally liable the consequence of negligent acts that result in injuries to other person or
damage to their property. This is known as liability insurance”.
General insurance is designed according to the customer necessity and it is very appropriate for covering
any kind of uncertainty in future. It can play a vital role in building a progressive business by assuring their
business activities. This will propel individuals and business sectors to take risk and be successful in
future.
Types of Non-life Insurance
Non-life Insurance includes products which, on the one hand, protect you against costs associated with the
damage or loss of non-life, but on the other hand secure the interests of persons who may suffer damage as a result
of an accident.

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There are many types of non-life insurance policies, but three main types can be distinguished:
1. Accident and Sickness Insurance
It covers the risk of an accident, including that of an accident at work and occupational disease. Depending on the
type of coverage, the insured is eligible to a one-off or regular benefits.  
   
2. Liability Insurance
This insurance applies where the insured causes damage to another person and is obliged to redress it. With the
liability insurance policy in place, it is the insurance company which pays compensation to the injured rather than
the perpetrator. The interests of both the injured and the policy holder are thus protected.

3. Non-life Insurance

This type of coverage protects against the financial consequences of damage to or loss of non-life in case of flat
fire, car theft, etc. Such products can be taken out to protect non-life against damage caused by calamities or
disasters. Buildings, civil structures, machinery, equipment, motor vehicles and electronics can be insured in this
way.

General Insurance Claims Assessing and Verification

High risk claims across the risk spectrum are segmented to Censeo for assessment, verification and determination
of quantum. The process includes:
 Assessing and verifying the accuracy and validity of a claim
 Identifying, quoting and quantifying lost or damaged items
 Negotiating agreements of loss with individual clients
 General claims assessing and verification
 Complex and large value forensic examinations
 Application and policy assessment and verification
 Broker, claimant, provider, beneficiary and witness interviews
 Ombud / Regulator enquiries management
 Forensic audits on service provider spent
 Fraud, corruption and criminal reporting
 Stolen and hijacked vehicle recovery services
 Risk segmentation and analytics services
 Risk evaluation and survey
 Record keeping of all involved in criminal schemes
Who are Insurance Surveyors and Loss Assessor?
Surveyors are professionals who assess the loss or damage and serve as a link between the insurer and the insured.
As per Insurance Act all the claims above Rs.20000/- must be surveyed by an independent professional. The
Insurance Companies on receipt of any claims appoints the surveyor to assess the loss and submit a report
quantifying the claim payable under the policy.
Surveyors are independent professionals licensed by IRDA. They usually function only in non life business. Their
job is to assess the actual loss and avoid false claims. Surveyors are not employees but are independent
professionals hired by the insurance company
Arbitration
Procedure in which an insurance company and the insured or a vendor agree to settle a claim dispute by
accepting a decision made by a third party.
General Insurance, also known as non-life insurance, comprises of a gamut of insurances that provide specific
covers to the insured against specific forms of eventualities. The contrast between life insurance and non-life
insurance is that while the former protects the insured against risks of death, the latter protects him/her against risks
associated with life such as fire, burglary, theft, illnesses, accident, etc. By its very definition, it can be estimated
how wide a category General Insurance is.
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Types of General Insurance(Non-Life Insurance):
Car Insurance :
Confused over which company to choose to get your lovable ride insured? Let us dispel all your doubts by getting
you fast online quotes. Our experts are happy to help you choose the best policy in terms of premium, coverage
and features. Compare online and save big bucks!
Two Wheeler Insurance :
We know your love for your mean machine. That's why we bring to you the best of two-wheeler insurance. Get a
comprehensive plan that covers you and your vehicle against damage. For renewal of your existing plan we help
you find the best quotes as per your needs. Hassle free renewal of expired two wheeler insurance - without
inspection.
Health Insurance :
Health Insurance is a complex product and the exclusions and additional riders and benefits makes it all the more
complex. We assist you to understand the features, flexibilities and fine print of a plan. We get you the best health
insurance quotes from the leading health insurers. Get a smart coverage at a smarter price now!
Travel Insurance :
All packed up, ready to go … hey wait! Got your travel insurance? Get it right here. Whether you are off on a
vacation with your family or on a business trip, you never know what might come upon you whilst abroad; always
have your travel insurance to back you up. Find the right travel insurance with us.

Home Insurance :
Want to insure your most treasured possession? Safeguard the structure and contents of your home against natural
calamities and human misintents. Get a comprehensive coverage for the lowest premium rate. The best deal is just
a click away!

Corporate Insurance:
Employees are the biggest assets of any organization. Show them that you care with a Corporate Insurance that
protects them against illnesses, personal accidents and other eventualities. We help you choose a plan that gives
you the best coverage at minimal rates.
Claim Process for General Insurance
Every insurance company presents its best facet while selling a plan but it is the Claim Settlement that really
decides how good the company really is. As a buyer you should ideally look for 3 factors while making a purchase
–
1. Claim settlement ratio – The number of claims settled by the company to the total number of claims filed
in a financial year.
2. Incurred claim ratio – The total amount spent on claims to the total amount earned as a premium by the
insurance company in a financial year.
3. Claim settlement turnaround time – It signifies the time span between the filing of a claim and settling of a
claim. In other words, it is the time taken by the insurance company to settle a claim.
The basic outline of a claim process for the general insurance is -

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Tax Benefits via General Insurance

Of all the forms of general insurance, only Health Insurance comes with tax benefits

Marine Insurance
The marine insurance is a contract between the
insured and the insurer. The insured may be a
cargo owner or a ship owner or a freight
receiver. The insurer is known as the
underwriter. The document in which the
contract is incorporated is called “Marine
policy”. The insured pays a particular sum,
which is called premium, in exchange for an
undertaking from the insurer to indemnify the
insured against loss or damage caused by
certain specified perils.
The main features of marine insurance are:
1. Essentials of valid contract.
2. It is a contract of indemnity based on utmost good faith.
3. It compensates for actual loss caused by sea risks up to the amount of contract.
4. The insurable interest in marine insurance should exist at the time of loss.
5. Ship, cargo and freight can be insured.
6. The insurance can be for single journey, multiple journeys or a particular period of time.
7. The compensation is paid in cash only.
8. Warranties
Importance of Marine Insurance
In the present modern age marine insurance has become most important insurance in the field of insurance. The
importance of marine insurance is as follows:
1. Importance of Marine Insurance for the Individual: An individual has to import goods from another country. It
may be located on the other side of sea for his business. While carrying goods from other side of sea
businessman may have to face dacoits. Goods may be damaged because of sinking of ship into the water. So
businessman has to experience economic loss. By the result of loss person may be discouraged to engage in
business. But when one person insures his/her property in marine insurance, does not have to face economic
problem as marine insurance provides compensation to the insured against the loss of property and goods.
2. Importance of marine Insurance for Ship-owner: Marine insurance is important insurance for ship- owner. While
going on the marine venture expensive ship may be destroyed due to different types of risks. Ship-owner may
have to experience with larger amounts of loss due to the destruction of the ship. Marine insurance provides
compensation of loss to the ship-owner.

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3. Importance of Marine Insurance for Cargo Owner: A businessman wants to be secured for his goods. Especially
countries which are located on the other side of sea, businessman may have to use marine venture. Marine
insurance is beneficial for them as it keeps them away from worry and fear. All responsibility of cargo owner is
transferred to the hand of insurance company that provides compensation to the cargo owner if loss occurs.
4. Importance of Marine Insurance for Freight: Freight insurance is also included under the marine insurance.
Marine insurance is very important for the freight. Freight refers to the fee received for the carriage of goods in
the ship for transportation of goods from one part to another. If businessman does not pay freight of his goods to
the ship-owner, ship-owner may have to experience economic loss. If such types of loss occur insurance
company indemnifies the ship-owner. In this way Marine insurance is very important for the freight.
5. Importance of Marine Insurance for the Government: Marine insurance is also important for the growth of
International trade. As international trade increases government also can receive economic profit. Government
increases revenue by including extra income tax. Thus marine insurance is important for the government also.
Principles of Marine Insurance
Marine insurance is based on the basis of certain principles like other insurance. Marine insurance cannot run away
from these certain principles because marine insurance is also a contract between insurer and insured. These
principles are:
1. Principle of Insurance Interest
2. Principle of Indemnity
3. Principle of Utmost Good Faith
4. Principle of Subrogation
5. Principle of Warranties
6. Principle of Causa Proxima

Social insurance can be many things to many people in many countries. But a summary of its essence is that it is a
collection of insurance coverages (including components of life insurance, disability income insurance,
unemployment insurance, health insurance, and others), plus retirement savings, that requires participation by all
citizens. By forcing everyone in society to be a policyholder and pay premiums, it ensures that everyone can
become a claimant when or if he/she needs to. Along the way this inevitably becomes related to other concepts
such as the justice system and the welfare state. This is a large, complicated topic that engenders tremendous
debate, which can be further studied in the following articles (and others):

 Earthquake insurance is a form of property insurance that pays the policyholder in the event of an earthquake
that causes damage to the property. Most ordinary home insurance policies do not cover earthquake damage.
Earthquake insurance policies generally feature a high deductible. Rates depend on location and hence the
likelihood of an earthquake, as well as the construction of the home.
 Disability insurance policies provide financial support in the event of the policyholder becoming unable to
work because of disabling illness or injury. It provides monthly support to help pay such obligations as
mortgage loans and credit cards. Short-term and long-term disability policies are available to individuals, but
considering the expense, long-term policies are generally obtained only by those with at least six-figure
incomes, such as doctors, lawyers, etc. Short-term disability insurance covers a person for a period typically
up to six months, paying a stipend each month to cover medical bills and other necessities.
 Long-term disability insurance covers an individual's expenses for the long term, up until such time as they
are considered permanently disabled and thereafter. Insurance companies will often try to encourage the
person back into employment in preference to and before declaring them unable to work at all and therefore
totally disabled.
 Disability overhead insurance allows business owners to cover the overhead expenses of their business while
they are unable to work.
 Total permanent disability insurance provides benefits when a person is permanently disabled and can no
longer work in their profession, often taken as an adjunct to life insurance.
Worker Compensation
Workers' compensation insurance replaces all or part of a worker's wages lost and accompanying medical
expenses incurred because of a job-related injury.
Methods of insurance

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In accordance with study books of The Chartered Insurance Institute, there are
the following types of insurance:
1. Co-insurance – risks shared between insurers
2. Dual insurance – risks having two or more policies with same coverage
3. Self-insurance – situations where risk is not transferred to insurance
companies and solely retained by the entities or individuals themselves
4. Reinsurance – situations when Insurer passes some part of or all risks to
another Insurer called Reinsurer

Marine Insurance
The marine insurance is the oldest form of insurance that originated from Greek and maritime loan. This
insurance policy is focused on insuring the loss or damage involved during transportation of goods from
the points of loading to unloading of the goods. It is very essential insurance for the shipping industry as it
protects against loss or damage by peril of the sea and generally, through the hazards of transit.
In fact, marine insurance provides all kind of assurance during a given period of voyage that include from
natural disaster to other manmade disaster. The modern marine insurance policy provides the protection
against inland transit loss arising on the way to seller and buyer. Marine insurance can be classified into
following categories.
 Hull insurance
 Cargo insurance
 Freight insurance
 Liability Insurance
Or,
Marine Insurance
It is the oldest form of Insurance. It is an arrangement by which the insurer agrees to indemnify the loss suffered by
insured as account of the perils at sea while transporting goods. Marine Insurance further classified in to Cargo,
Freight, Hull Insurance.
Cargo Insurance:- The Cargo on Ship is exposed to risk arising from an act of God or enemy, fire, and other
perils of sea etc... This risk covers Cargo Insurance.
Freight Insurance:- In certain cases the owner of the Cargo may promise to undertake to pay the freight on the
goods transported when the cargo is safely delivered at the port of destination.
Hull Insurance: - Sometime owner of ship suffers many risks, like ship itself is exposed to the perils at sea. The
owner insured against this risk is hull insurance. Fire Insurance Fire Insurance is a contract of indemnity where by
the insurer agrees to indemnify the insured, the actual loss or damage suffered or the amount of the policy
whichever is less.

Fire Insurance
The insurance policy that covers loss and damages caused
by fire is called fire insurance. It is a contract made to
compensate a certain loss or damage during the policy
period caused by fire. Fire insurance plays a pivotal role in
compensating the losses as it can cause a huge destruction
of valuable property.
However, the policy of fire insurance can be modified
according to need of insurer that may include wide range of
danger close to fire like wind, storm, earthquake, terrorism,
explosion, and landslide. Fire insurance contract can be customized by changing the premium as for the
need of insurer.

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Definition of an earthquake
An earthquake is an earth tremor whose natural origins are below the surface of the earth. A distinction is
made between tectonic, volcanic, and collapse earthquakes, depending on the cause. Collapse
earthquakes, involving the collapse of subterranean cavities, are the least common and account for only
3% of all earthquake events. Volcanic earthquakes, i.e. tremors due to magma movements or
subterranean explosions in volcanic areas, account for 7%. Tectonic factors are by far the commonest
cause (90%) and produce the strongest earthquakes. Seismology is the study of earthquakes.
Earthquake insurance

Earthquake insurance is a form of property insurance that pays the policyholder in the event of an earthquake that
causes damage to the property. Most ordinary homeowners insurance policies do not cover earthquake

Most earthquake insurance policies feature a high deductible, which makes this type of insurance useful if the
entire home is destroyed, but not useful if the home is merely damaged. Rates depend on location and the
probability of an earthquake loss. Rates may be cheaper for homes made of wood, which withstand earthquakes
better than homes made of brick.
In the past, earthquake loss was assessed using a collection of mass inventory data and was based mostly on
experts' opinions. Today it is estimated using a Damage Ratio (DR), a ratio of the earthquake damage money
amount to the total value of a building.Another method is the use of HAZUS, a computerized procedure for loss
estimation.

Aviation Insurance
Aviation insurance policy covers the loss and damage
occurred in aircraft during flights, landing, and takeoffs. In
addition to that, it also covers the risk of passengers and
aircraft hull. Aviation is a big industry at present. So,
aviation insurance policy has an immense importance for
assuring any future damage and loss. It includes the hull
insurance, aircraft liability insurance and medical payments
too.

Motor Insurance
Automobile insurance has immense impact in sharing the
loss and controlling the damage caused from vehicles. This
insurance policy helps by covering the losses and damages
resulting due to accidents of vehicles. With the growing
number of vehicles in the street, road accidents have been
major threat compared to other means of transport.

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Automobile insurance policy generally covers property, liability, and medical expense according to the
contract made between insurance company and insurer
Engineering Insurance
This insurance policy helps in covering losses and damages occurring in construction and engineering
industries. It covers against damages caused in engineering equipment and plants during the construction
stage. From the small machinery to big equipment, everything is insured under these policies that enable a
sound completion of the consignment.
Contractors All Risk Insurance
This insurance provides indemnity to contractors for physical damage that may take place during the
period of construction and also during certain period of maintenance. This policy can be extended to cover
third party liabilities also, depending upon the agreement.
Money and Transit Insurance
This type of insurance policy is generally required for bank and financial institution that are involved in
receiving and sending cash from one place to another. It provides the indemnity of the cash loss during
transit period.
Personal Accident Insurable Policies
The policy helps insurer by financially assuring against being handicapped or disability resulting from
accident. This insurance policy is very important for any individual as it financially helps in times of need
and incapability.
Fidelity Guarantee Insurance
The Fidelity guarantee insurance covers the loss and damages against the case of fraud and dishonesty. The
owner of firm or organization gets the guarantee against the fraud or betrayal caused by the employees.
There can be a big loss as valuable employees can misuse their position and involve in fraud.
Underwriting
Underwriting is the process of determining whether a risk offered for insurance is acceptable, and if so, at
what rate, terms and conditions the insurance cover will be accepted.
Underwriting, in a technical sense, comprises the following steps:
i. Assessment and evaluation of hazard and risk in terms of frequency and severity of loss
ii. Formulation of policy coverage and terms and conditions
iii. Fixing of rates of premium
The underwriter firstly decides on whether or not to accept the risk.
The next step would be to decide the rates, terms and conditions under which the risk is to be accepted.
Underwriting skills are acquired through a continuous learning process involving adequate training, field
exposure and deep insights. To be a fire insurance underwriter one needs to have a good knowledge of the
likely causes of fire, impact of fire on various physical goods and property, the process involved in an
industry, geography, climatic conditions etc.
Similarly a marine insurance underwriter must be aware about port/road conditions, problems encountered
by cargo/goods in transit or storage, ships and their seaworthiness and so on.
A health underwriter needs to understand the risk profile of the insured, age, medical aspects, fitness levels
and family history and measure the effect of each factor affecting the risk
Underwriting, equity and business sustainability
The need for careful underwriting and risk classification in insurance arises from the simple fact that not
all risks are equal. Each risk thus needs to be appropriately assessed and priced in accordance with the
likelihood of loss occurrence and severity
Since all risks are not equal, it would not be equitable to ask all those who are to be insured, to pay equal
premium. The purpose of underwriting is to classify risks so that, depending on their characteristics and
degree of risk posed, an appropriate rate of premium may be levied.
Every insurer has a responsibility to its current policyholders to make sure that it is able to meet all the
contractual obligations of existing policies. If the insurance company issues policies on risks that are
uninsurable or charges premiums much lower than is required to cover the risk, it would result in
jeopardizing the insurer’s ability to meet its contractual obligations.

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On the other hand, an insurer who wants to charge very high rates for risks that do not warrant such high
rates may find that its business is non-competitive and unsustainable. Therefore in the interest of equity
and sustainability, the underwriting process needs to be meticulously followed
The main features of underwriting are as follows
i. To identify risk based upon the characteristics
ii. To determine the level of risk presented by the proposer
iii. To ensure that the insurance business is conducted on sound lines
The objectives of underwriting are achieved, in short, by deciding the level of acceptability, adequacy of
premium and other terms.
Burglary Insurance
The policy is meant for business premises like factories, shops, offices, warehouses and godowns which
may contain stocks, goods, furniture fixtures and cash in a locked safe which can be stolen. The scope of
cover is limited to burglary and house breaking only. The scope is to be distinguished from other related
perils like theft, larceny, robbery, dacoit, which are all not covered by the definition.
1. Risks covered under burglary insurance
a) Loss of property following actual forcible and violent entry into the premises or loss followed by actual,
forcible and violent exit from the premises or hold up.
b) Damage to insured property or premises by burglars. Property insured is covered only when it is lost
from the insured premises and not from any other premises.
2. Cash cover
An important part of burglary cover is cash cover. It operates only when the cash is secured in a safe,
which is burglar proof and is of an approved make and design. The common conditions applicable for
granting cash cover are given below:
a) Cash is lost from the safe following the use of a key to open it, where such key has been obtained by
violence or threats of violence or through means of force. This is generally known as “key clause”.
b) A complete list of the amounts of cash in safe is kept secure in some place other than the safe. The
liability of the insurer is limited to the amount actually shown by such records.
c) In the cases, which are of low value in high bulk, (such as cotton in bales, grain, sugar etc.) the risk of
losing the entire stock on a single occasion is considered remote. The value that can be burgled is
ascertained as probable maximum loss and the premium is charged for this maximum probable loss while
covering the entire stock at risk. It is assumed that a second burglary may not follow immediately or the
insured may take additional security measures from its recurrence.
3. Exclusions
The policy does not cover theft by employees, family members or other persons who are lawfully on the
premises, nor does it cover larceny or ordinary theft. It also excludes losses that are covered by a fire or
plate glass policy.
4. Extensions
The policy can be extended to cover riot, strikes and terrorism risks at extra premium.
5. Premium
Rates of premium for burglary policy depend upon the nature of insured property, the moral hazard of the
insured himself, construction and location of premises, safety measures (e.g. watchmen, burglar alarm),
previous claims experience etc.
In addition to details given in the proposal form, a pre-acceptance inspection is done by insurers where
high values are involved.

Fidelity Guarantee Insurance

Companies suffer financial loss due to what are termed as white collar crimes like fraud or dishonesty of
their employees. Fidelity guarantee insurance indemnifies employers against the financial loss suffered by
them due to fraud or dishonesty of their employees by forgery, embezzlement, larceny, misappropriation
and default.
1. Coverage under Fidelity Guarantee Insurance
Cover is granted against a direct pecuniary loss and does not include consequential losses.

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a) The loss should be in respect of moneys, securities or goods b) The act should be committed in the
course of the duties specified; c) The loss has be discovered within 12 months of expiry of the policy or
death resignation or dismissal of the employee, whichever is earlier d) No cover is provided in respect of a
dishonest employee who has been re-employed
2. Types of Fidelity Guarantee Policy
There are various types of fidelity guarantee policies, as discussed below:
a) Individual policy
This type of policy is used where only one individual is to be guaranteed. Name, designation of the employee and
amount of guarantee has to be specified.
b) Collective policy
This policy comprises a schedule listing out the names of those employees to whom the guarantee applies, along
with a note on the duties of each employee and separate individual sums insured.
c) Floating policy or floater
In this policy, the names and duties of the individuals to be covered are inserted in a schedule, but instead of
individual amounts of guarantee, a specified amount of guarantee is “floated” over the whole group. A claim in
respect of any one employee will, therefore, reduce the floated guarantee, unless the original sum is reinstated by
payment of an extra premium.
d) Positions policy
This is similar to a collective policy with the difference that instead of using names, the schedule lists out
"positions‟ that are to be guaranteed for a specified amount.
e) Blanket policy
This policy covers the entire staff without showing names or positions. No enquiries about the employees are made
by the insurers. Such policies are only suitable for an employer with a large staff and the organization makes
adequate enquiries into the antecedents of employees. The references that the employer obtains must be available
to the insurers in the event of a claim. The policy is granted only to large firms of repute.
3. Premium
The rate of premium depends upon the type of business occupation, status of the employee, the system of check
and supervision.
Jewelers‟ Block Policy
In recent years India has emerged as a leading center in world trade for jewelry, especially diamonds. Imported raw
diamonds are cut, polished and exported. It takes care of all risks of a jeweler whose business involves sale of
articles of high value in small bulk like jewelry gold & silver articles, diamonds and precious stones, wrist watches
etc. The trade involves stocking these expensive items in large quantity and moving them between different
premises.
1. Coverage of Jeweler's Block Policy
Jewelers block policy covers such risks. It is divided into four sections. Coverage under Section 1 is
compulsory. The insured can avail of other sections at her option. It's a package policy.
a) Section I: Covers loss of or damage to property whilst in the premises insured, as a result of fire, explosion,
lightning burglary, house-breaking, theft, hold-up, robbery, riot, strikes and malicious damage and terrorism.
b) Section II: Covers loss or damage whilst the property insured is in the custody of the insured and other
specified persons.
c) Section III: Covers loss or damage whilst such property is in transit by registered parcel post, air freight etc.
d) Section IV: Provides cover for trade and office furniture and fittings in the premises against the risks
specified in Section I.
Each section is separately rated for calculating premium.
2. Important exclusions are:
a) Dishonesty of employees, agents, cutters, goldsmiths, b) Property kept during public exhibition c) Lost
whilst being worn / carried for personal purpose d) Property not kept in safe outside business hours e)
Property kept in display windows at night f) Loss due to infidelity of employees or members of the insured
family is not covered. Fidelity guarantee cover should also be taken by the insured for full protection.
3. Premium

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Risks are rated on merits of each case. Different premium rates are applied for each section with discounts for
exclusive watchman, close circuit TV / alarm system, exclusive strong room and for any other safety devise
etc.
Bankers Indemnity Insurance
This comprehensive cover was drafted for the banks, other institutions who deal with operations involving money,
considering the special risks faced by them regarding money and securities.

1. Coverage under Bankers Indemnity Insurance

There are different variations to this policy based on the requirement of banker.
a) Money securities lost or damaged whilst within the premises due to fire, burglary, riot and strike.
b) Loss suffered due to any cause whatsoever including negligence of the employees, when the property is carried
outside the premises in the hands of authorized employees.
c) Forgery or alteration of cheques, drafts, fixed deposit receipts etc.
d) Dishonesty of employees with reference to money/securities or in respect of goods pledged.
e) Dispatches by registered post parcels.
f) Dishonesty of appraisers.
g) Money lost while in the hands of agents of the bank like „Janata Agents‟, „Chhoti Bachat Yojana Agents‟.
The cover is issued on discovery basis, this means the policy will respond to a period during which a loss is
discovered and not necessarily the period when it occurred. But a cover should have been in existence when the
loss actually occurred.
Conventionally losses within a period of 2 years prior to date of discovery only are payable, subject to the cover
having been continuous, from a date earlier than that when the loss has occurred.
2. Important exclusions
These include:
a) Trading losses
b) Negligence [software crimes and dishonesty of the partners / directors]
3. Sum insured
The bank has to fix the sum insured which would usually float over the first 5 sections. This is termed as „basic
sum insured‟. Additional sum insured can be purchased for section (1) and (2) if the basic sum insured is not
sufficient. The policy also allows one compulsory and automatic reinstatement of sum insured by payment of an
extra premium
4. Rating
The premium calculation is based on:
a) Basic sum insured
b) Additional sum insured
c) Number of staff
d) Number of branches.
Bancassurance
The term „Bancassurance‟ broadly refers to the tie up between banks
and insurers to distribute insurance products to their customer base. It
has emerged as an important distribution channel globally and has
risen in a relatively short time due to the benefits it offered in terms of
operational cost and efficiencies. This was due to the wide consumer
network that banks had access to.
In India, bancassurance is still quite new. However it has immense
potential which is seen from the rapid strides it has already made.
India has two broad bancassurance models:
a) One, where a bank becomes a corporate agent of an insurer and taps its customer base to sell insurance
products. In this case the employees of the bank take up the task of selling the products of the insurance
company.
b) A referral model, where the bank supports the insurance company with the data base while the sale of
insurance products is done by the insurance company.

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The first one, where banks become corporate agents of an insurance company, is gaining momentum. The
potential is immense for this channel, as banks have a huge reach, across the entire geographical spread
and are a strong brand supported by their customers. Bancassurance is growing rapidly and needs a large
number of insurance sales personnel. This offers attractive prospects for the insurance agent. Already this
channel has taken a position of having almost a “monopoly” when it comes to distributing the insurance
products of some of the companies.
In line with the international trend,Nabil Bank has set up Bancassurance unit for selling life and non
life insurance policies to its customers through various distribution channels.‘Nabil Bank' has obtained
required permit from Insurance Board.Nabil Bancassurance has made an arrangement with various
insurance companies to provide insurance policies instantly to bank’s customers from any branch/unit,
once insurance request is made and premium are paid there on. Being a corporate agent, Nabil
Bancassurance plays a bridge role between the customers and the insurance companies.
Advantage of Nabil Bancassurance:
 Availing the insurance service in addition to other banking services (one stop  financial solution)
 More trust and stability of dealing with a Bank in operation for over 2 and ½ decades.
 Convenience in premium payments
 Convenience in receiving policies
 Assistance in expeditious claim settlement
Baggage insurance policy provides insurance coverage for loss of baggage and luggage etc in transit.
Health Insurance/Medical insurance:
It covers all medical expenses following hospitalization from sudden illness or expenses from any kind of
accident. It is an Insurance against loss by illness or bodily injury. Health insurance provides coverage for
medicine, visits to the doctor or emergency room, hospital stays and other medical expenses.Policies differ
in what they cover, the size of the deductible and/or co-payment, limits of coverage and the options for
treatment available to the policyholder. Health insurance can be directly purchased by an individual, or it
may be provided through an employer.Medicare and Medical aid are programs which provide health
insurance to elderly, disabled, or un-insured individuals. There are anumber of companies which provide
private health insurance, including BlueCross, United Healthcare, or Star health. Important policies are:
a.Individual Mediclaim policy b.Group Mediclaim policy c.Jan Arogya Bhima policy d.Cancer policy
e.Bhavishya Arogya policy f.Overseas medical policy g.Videsh Yatra Mitra policy
Motor Vehicle Insurance:
According to Motor Vehicles Act, every motor vehicle running onthe road has to be insured, if not with at
least a liability policy. Generally, there are two types of motor insurance policy; one covers the act of
liability while the other covers all liability and damages caused to the vehicles. As per the provisions ofthe
MV Act1938 (amended in 1988), it was made compulsory for motorists to insure against the risk of
liability to third parties. In other words, the insurance of motor vehicle against risk is not mandatory but
insurance of third party liability arising out of use of motor vehicle in public places is mandatory.
Important types of policies are:
a. Act liability only policy (Form A policy)
b. Third party only policy
c. Comprehensive policy
d. Garage insurance policy
e. Collision insurance policy
Public liability insurance
Under Public liability Insurance Act, 1991, allthe companies, individuals and persons owing and dealing
hazardous good are required to take insurance policy satisfying the limits specified in the Act. For the purpose of
insurance, public liability risk insurance is classified into; a.Industrial risks insurance b.Industrial All risks
insurance c.Non-industrial risk insurance.
Rural Insurance: Rural Insurance is an underwriting company dedicated to providing insurance solutions to meet
the needs of agricultural and rurally based businesses.The core business principles that guide Rural Insurance are
exclusivity, access to informed and empowered decision makers, service and quality. Rural Insurance believes that
by combining these core values and adhering to the business ethos of ‘Putting You First’, we create a
fundamentally better option for your business.

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Whilst Rural Insurance has a wealth of expertise and industry experience, we maintain an innovative approach to
rural and agricultural insurance and risk management.
Social insurance
Social insurance is a government-run insurance programme operated soundly using actuarial techniques but funded
primarily by current contributions while relying on the taxing power of the government to guarantee solvency.
Social security is a part of social insurance system. This insurance system is not popular in india.The social
insurance programmes of countries are drawn up based on their specific Needs. In the United States the following
are the characteristics of social insurance:
1. Compulsory programmes
2. Floor of income-The main aim of social insurance is to provide minimum required benefit to meet the needs.
3. Social adequacy rather than individual equity
4. Benefits loosely related to earnings
5. Benefits prescribed by the law
6. No means test:These benefits are given as a right. No formaltest is needed.
7. Full funding unnecessary
8. Financially self-supporting
9.Medicare support

Social Insurance It is a technique of social security and it includes all sections of society. Social Insurance can
further classified in to sickness insurance, accident, disablement, maternity, old-age insurance, Unemployment
Insurance.
Sickness insurance:- The insured is provided with financial aid in addition to medical facilities during the period
of sickness.
Disablement Insurance:- The insured is given financial help for the disablement in an accident other than the
industrial accident.
Maternity Insurance:- The insured woman workers are compensated by the insurer for the expenses done on
getting treatment, balanced food during the period of maturity.
Old Age Insurance:- Insured gives pension when they become old, not being able to earn their livelihood.
Unemployment Insurance:- Getting financial help due to some uncontrollable reason.
Other Insurance
 Agricultural Pumping set Insurance
 Rain Insurance  Export risk Insurance
 Air Craft Insurance
 Machinery Insurance
 Bankers Indemnity Insurance
 War or Emergency Insurance
 Sports Insurance
 Motor Vehicle Insurance

Unit V
Re-Insurance
Re- insurance(Meaning and Nature)
Reinsurance The term, reinsurance, also termed as insurance of insurance, means that an insurer who has assured a
large risk may arrange with another insurer to insure a portion of the insured risk. In reinsurance, one insurer
insures the risk which has been undertaken by another insurer. The original insurer who transfers a part of the
insurance contract is called the reinsured and the second insurer is called reinsurer. Of course, the reinsurer has to
pay reinsurance premium for risk shifted.
Re insurance is a device where by the original insurer can minimize his risk. When an
insurer transfers a part of risks on particular policy by insuring it with some others, it is called re-insurance.

Features of Reinsurance

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 It is liable only to the original insurer
 It is liable only for the risk or any part of a risk mentioned in the reinsurance contract
 Insurance principles are applicable to reinsurance also
 Direct Insurer can never reinsure for larger amount than that of original insurance amount.
 The reinsurer shall never be liable to the original insured.
Objectives of Reinsurance
 Reducing the risk of the insurer by sharing it with other insures
 Limiting the liability to an amount which is within the financial capacity of the insurers.
 Stabilising of the underwriting over a period of time
 Safe guarding against serious effect of uncertainities.
Merits of Reinsurance
 It makes possible distribution of risk and helps in minimizing the burden of loss
 Gives courage to insurance companies to undertake heavy risk
 Avoid unhealthy competition among companies
 Develop co-operation among companies
 Helps to build strong insurance system.
Terms of Reinsurance
Ceding Office - Original Insurer
Cession - The amount of insurance ceded to the re insurer by the original insurer
Reinsurer - Company which provides insurance cover to the ceding company
Re insured - The Insurer who wishes to reinsure a part of the risk insured with another
insurer
Retrocession - If a reinsurer reinsures a part of the risk he has undertaken with another
Retension - Amount retained by the ceding company for itself.
Methods of Reinsurance
Facultative Method:- In this method ceding company offers each risks for reinsurance. The reinsurer may accept
or decline the offer for reinsurance.
Treaty Methods:- It is an agreement between the direct insurer and the reinsurer usually for a period of one year.
Under this method the ceding company agrees to give, and the reinsures agree to accept, all insurance business
with in the limits laid down in the treaty.
Pooling Method:- Under this method different underwriters agree to work together by giving their acceptance to a
common pool.

Other Information about Insurance

Core Function of an Insurance Company :
Whilst an insurance intermediary is unlikely to have close contact with the internal organisation of insurance
companies, it is good to understand something of their infrastructure and to be aware of the various departments
and personnel behind the marketing process. These, in outline, are considered below. Please remember, however,
that there is no single system for insurance companies to follow, and therefore the suggested structure must be seen
as representative only.
Product Development
Someone once said, ‘Insurance is not something that is bought, it is something that
has to be sold’. We shall recall this when discussing marketing and promotion, but to the extent that it is true the
whole exercise depends upon having something to sell. That something may be described as an insurance product.
Some insurances, of course, are compulsory (e.g. third party motor andemployees’ compensation), but even
with these classes the precise policy wording is notdecreed by the Government. Therefore there is scope for
flexibility in presentation (whilst
the requirements of Ordinances must be respected). With other classes of insurance business, Hong Kong is an
open and very competitive business environment. Insurers must therefore be efficient and dynamic in preparing the
products they ‘sell’. As an abbreviated summary, the Product Development department/section of an insurer will
be
much occupied with:

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(a) Individual product development: this is a never-ending process. With competitors eager to learn and copy, it
has been said that the unchallenged ‘lifespan’ of a totally new product is very short, perhaps a matter of only a few
weeks or months. After that time, the product has been copied, adapted and frequently undersold.
(b) Product portfolio development: increasingly, producing a ‘package’ of cover, especially for larger clients, has
become sensible, even vital, in order to retain a competitive edge.
(c) Product research: we may think of this in three areas:
(i) our own products: nothing is perfect beyond improvement.
(ii) competitors' products: we do not, and cannot, live in a vacuum. It is essential to know what is happening in
our market and ‘what we are up against’. Besides, they will have no hesitation in ‘borrowing’ from us!
(iv) Market trend: the needs of the general public.

Customer Servicing
Sometimes described as Client Servicing, this section has a number of functions, and with a particular insurer
some of these may be carried out by other departments (such as Accounts, Claims etc.). The general scope of its
responsibilities is indicated by its name. It is to provide a service to existing and potential customers/clients, and
the duties probably include:
(a) Correspondence: enquiries of every imaginable kind are likely to be received, asking for guidance and
information. Sometimes, the enquiries will be totally unrelated to the company's business; therefore a degree of
perception and tact will be required. It is quite sure that the response a company gives to enquiries is very
important.
(b) Public relations: the more formal aspects of this could be within the province of the marketing people, but the
way clients are dealt with profoundly influences a company's standing in the eyes of the public.
(c) Documentation: requests for duplicate policies, amendments to existing policies, copies of motor insurance
certificates, etc. will probably receive at least their initial attention in this department.
(d) Complaints: an area that must be seen to be handled fairly and promptly. This may require considerable liaison
with other colleagues/departments. It must also be remembered that complaints may reach high levels of company
management and receive media and even Government attention.
Marketing and Promotion
This is a very important area for the insurer. The particular areas of responsibility include:
(a) Public Relations: as explained, this may overlap to some extent with Customer Services, but the image of the
company and its perceived standing in the eyes of the public is of great significance. This wide-ranging activity
will include:
(i) the co-ordination of all external communications;
(ii) the co-ordination of media enquiries and interviews;
(iii) press conferences, to announce or explain things, as necessary;
(iv) preparing press releases and copy for trade and other journals.
(b) Promotions: organising and co-ordinating their preparation and conduct.
(c) Advertising: closely interconnected with the above, this enormously important area includes:
(i) selection of external agencies (if used);
(ii) the extent to which TV or other media are to be involved;
(iii) co-ordination of advertising campaigns;
(iv) expenditure analysis and control.
Note: Advertising is an area which could involve massive expenditure. Great care must therefore be taken in its
management and control. As one famous businessman said ‘Half the money I spend on advertising is wasted.
Unfortunately, I do not know which half!’
(d) Sponsorship: insurers are frequently asked to sponsor industry or educational projects. Also, this is of course
an important aspect of advertising, involving much time and probably a considerable budget.
(e) Market research: obviously, continuous monitoring of one's present and potential market is a vital element for
a marketing department. This will seek to establish existing and perceived needs and demands in respect of
insurance products.
Insurance Sales

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Very closely connected with marketing, there may be considerable overlap of activity, if separate sections exist.
The name, however, indicates the functions, which specifically will include:
(a) Product liaison: it is vital that the closest co-operation exists between Product Development, Marketing and
Sales, for obvious reasons.Poor communication between colleagues in this area could have disastrous results.
(b) Sales enhancement programmes: again requiring co-operation with other colleagues, e.g. Training and
Marketing.
(c) Monitoring: it is important to keep abreast of results and trends. Again, much teamwork with colleagues is
required.
Underwriting
This may be defined as the selection of risks to be insured and the determination of the terms under which the
insurance is given. With non-life insurances, it also involves a continuing process of monitoring results and
individual risks, to see whether renewals should be offered, and on what terms. Special features to note are:
(a) Life insurance: for individual life policies, underwriting is a once only exercise, since the policy cannot be
cancelled by the insurer and changes are only possible with the insured's consent. Because of its crucial
importance, life insurance underwriting is often centralised.
(b) General insurance: here the range of different cover is very wide and mistakes in underwriting are not
permanent, in the sense that policies will come up for renewal and their terms be reviewed, and can even be
cancelled if necessary. Therefore much less centralised underwriting is still affordable.
(c) Guidelines: whilst underwriting is at a ‘one to one’ level, there is obviously a need for the preparation of
underwriting manuals, rating guides and similar guidelines for staff. These involve considerable research and
development, again with much attention to trends and results.
(d) Target risks: curiously, this term could mean highly desirable types of business (in Life Insurance) or highly
undesirable types of business (in General Insurance). In the former, of course, this is business the insurance
intermediaries should be encouraged to seek diligently. In the latter, the term could mean large, hazardous risks,
e.g. petrochemical plants. Each insurer will have its own ideas about what constitutes desirable or undesirable
risks. Typically, however, in life insurance, healthy young professionals are likely to be desirable contacts. In theft
insurance, jewellery stores in Central Hong Kong may not be favoured.
(e) Stop-lists: sometimes given other names, a ‘stop-list’ indicates those types of business that should not be
encouraged, or should be rejected if offered. Some examples may readily come to mind, with different types of
insurance, although not every insurer will have the same opinions on this subject. Nevertheless,
compiling such lists involves considerable underwriting expertise, especially bearing in mind the sensitivity over
discrimination of every kind.

Reinsurance: the insurance intermediary is likely to have a close association, but he should be aware that
reinsurance is very important to the insurer. The aftermath of the September 11 terrorist attack is a testimony to
this saying.
(a) Definition: insurance used to transfer all or part of the risk assumed by an insurer under one or more insurance
contracts to another insurer, who may be referred to as a reinsurer in relation to such a transaction.
(b) Reasons: The major reason for buying reinsurance is security. It is very likely that an individual insurance
claim is payable from the assets of the insurer, but it may be very inconvenient (and even costly) to produce large
amounts of cash at short notice, since assets will mostly be in investments. A reinsurance contract may be so
arranged as to entitle the reinsured to an immediate claim payment by the reinsurer in the event of a valid direct
claim (i.e. a claim from the original insured) exceeding a pre-determined figure, even before the reinsured has
actually paid the direct claim. Another important reason for reinsurance is to increase an insurer’s ‘underwriting
capacity’, which means the ability to accept proposed business with in mind all risk management considerations.
Having reinsurance means that some risks may be accepted which might otherwise have to be declined in part or
total.
(c) Methods: This does not concern insurance intermediaries, unless they handle reinsurance matters on behalf of
insurers or reinsurers.
(d) Effects for the Insured: Reinsurance has no direct effect for the policyholder. He is not entitled to know, and
probably has no need to know, that his insurance is being reinsured. That is a matter entirely between the insurer
and the reinsurer(s). The insurer is always directly liable to the policyholder for the full amount payable under the

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contract irrespective of the financial condition of its reinsurers. Reinsurance, however, does give an added security
that the insurer will be able to Pay.
The End !

Thank you !

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