Difference between Overdraft and Cash Credit

Overdraft and cash credit are widely used external sources of finance for availing short term borrowing at some cost. Both cash credit and overdraft are used by businesses to manage short-term working capital requirements. The difference between overdraft / Bank overdraft and cash credit are on various aspects which include nature of the account, charges, and fees, amount, purpose, type of security, use of funds, interest rate etc. 

Both these facilities are repayable on demand and therefore classified as sources of finance payable on demand or loans payable on demand. However, these facilities are rarely recalled in real-life scenario except in very rare circumstance like customer’s business and financial position is going from bad to worse phase as time passes by or in a case when the value of the security is found extremely low during period re-valuation of the security or during the renewal of the facility.

Although both these facilities are very similar in nature, one needs to understand cash credit vs. overdraft difference in order to understand them better.

Difference between Overdraft and Cash Credit

Overdraft

Cash Credit 

Account requirement

Overdraft can be availed on the existing current account. It is a facility of “excess withdrawal” given in current account and at times even in the savings account. One needs to usually open a separate cash credit account with a bank to avail cash credit facility.

Security Requirement

Overdraft facility does not necessarily require current assets as security. An overdraft facility may be extended by taking shares, other investments like FDs, insurance policies as security. At times even based on the credibility of the person, overdraft limit may be approved. Company inventory and receivables are usually taken as security for allowing cash credit facility.

Limits Sanctioning Rationale

Limit is usually allotted taking into consideration the assets collateralized and also on the basis of financial statements of the company. Limit is usually a percentage of the stocks or receivables.

End Use

Overdraft Facility can be used for any purpose and not necessarily for business. This is generally given specifically for the purpose of the business operation (as working capital).

Length of Credit Period

Overdraft facility is allowed for a very short duration at times (Say a month or even for a week in some cases), but can be allowed for a period of up to 1 year. Cash Credit is usually for a short period. That means, the limit is allowed for a period of 1 year and is renewed every year. In some cases, renewals or review may be stipulated half yearly as well.

Limits Availability

The amount or the overdraft limit that the customer gets remains constant since limits sanctioned is not based on current assets. However, if OD is against shares or insurance policy surrender value, the limit changes based on the underlying security value at periodic intervals. The cash credit withdrawal limit keeps changing with the change in the amount of current assets kept as security. Withdrawal limit from the CC facility is called drawing power.

Rate of Interest

The rate of interest charged under overdraft facility is higher than what is usually charged under the cash credit facility. The rate of interest charged under cash credit facility is lesser than what is usually charged under the overdraft facility.

References:

http://taxadda.com/banking/difference-between-overdraft-od-and-cash-credit-accounts/

http://www.banknetindia.com/banking/loans.htm

Last updated on : August 31st, 2018

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