What is Primary Security and Collateral Security for a Bank Loan?

Security

One of the most important functions of a bank is to employ its fund by way of loans and advances to its customers and a bank’s strength depends considerably on the quality of its loans and advances. The position is quite different to-day. Banks having a large number of offices over a wide area cannot allow loans and advances without retention of security in one form or the other.

Security is obtained as a line of last defense to fall back upon. It is meant to be an insurance against emergency. By taking security, bank acq1uires a claim upon the assets of the borrower if repayment is not made as planned.

Security taken by banks may be classified into two broad categories: Primary Security and collateral Security.

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What is Primary Security and Collateral Security for a Bank Loan

Primary Security

Primary Security is one which is deposited by the borrower himself and thus provides the main cover for the advance made. Primary security may be either personal Security or Impersonal security or both.

Personal Security: When personal advance is made the borrower is personally liable to repay the advance for which he executes promissory note, accepts or endorses a bill of exchange and makes personal covenants in mortgage deed or loan agreements. Banker has the right of action to proceed against the borrower personally in the event of default or non-fulfillment of conditions as per agreements.

Impersonal Security: Impersonal security is given when a charge is created by way of hypothecation/pledge/mortgage over the borrower’s tangible assets-such as, goods and commodities, fixed assets, book debts and bills receivables etc. In case of default, the bank is empowered to proceed directly or through the intervention of the court to dispose of the impersonal security and realize the dues. Impersonal security may take the form of either specific security or continuing security and realize the dues. Impersonal security may take the form of either specific security or continuing security. She specific security covers the specific loan alone and does not cover any other indebtedness of the borrower to the bank. In case of continuing security for an advance in cash credit or overdraft account, the memorandum creating a charge on the assets is so worded as to make it a continuing one to cover all sums due now or in the future form the borrower until the ultimate balance is determined and regardless of whether the account may at times go into credit.

Collateral Security

A collateral security is a security belonging to and deposited by borrower himself or by a third party to secure loans and advances. Collateral security in a wider sense is used to denote any type of security that runs parallel to or side by side with the personal right of action against a debtor in respect of an advance.

Collateral security may be direct or indirect.

Collateral security obtained from the borrower himself to secure his own account is known as dire3ct collateral security. Advance against hypothecation of stock-in-trade which is considered a weak security is strengthened by equitable mortgage of ti9ltle deeds of house property of the borrower.

Indirect collateral security means any form of security given by a third person to secure a customer’s account. A guarantee is an indirect collateral security because it is given by one person to secure another person’s indebtedness.

These collateral securities are advantageous form the banker’s stand-point because, in the case of insolvency of the customer, the can prove for his whole amount of debt against the assets of the debtor and receive form the customer’s estate all he can in the course of distributing by the official assignee, and thereafter fall back upon the collateral security for the deficiency. The usual practice should be to obtain a memorandum of deposit of security in a proper form. This is most essential because even thought in law such memorandum is not necessary, the banker, by using it, protects himself by inserting in ti the clauses necessary for such protection.

The most significant categories of security lodged as cover are:

  • Goods and commodities
  • Fixed Deposit Receipt
  • Real estate iv) stock exchange securities
  • Life Insurance policies
  • Gold and gold ornaments
  • Documents of title to goods
  • Book debts
  • Supply bills.

Each of these properties is of different type and need to be dealt with differently. But it must be clearly borne in mind that every form of security has its drawbacks, and there is nothing like an absolutely perfect security. Each has its own special merit, and it is all a q1uestion of comparative advantages and disadvantages.

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