Bank Guarantee

What is a Bank Guarantee?

A Bank guarantee is the one that lending institutions provide to ensure that the debtor’s liabilities have been met. In simple words, if a debtor fails to repay the debt, the bank will have to cover it. This bank guarantee allows the debtor to purchase equipment, reimburse a loan, or procure good and products.

Let’s take a bank guarantee example here. Suppose there is a newly-started company that requires Rs. 30,00,000 to buy equipment. Now, the equipment vendor will demand a bank guarantee from the company to cover payments before the shipping and delivery can take place. Thus, the company will request a guarantee from an institution by keeping its cash accounts as Collateral. This way, the bank will be buying a contract with the vendor.

Bank Guarantee in India

A bank guarantee comes in the picture when a lending institution assures to cover the losses in case the borrower defaults the payment. This guarantee allows a company to purchase machinery and equipment so as to enhance the growth of the business.

There could be a variety of bank guarantees that include both the direct and indirect ones. Typically, banks use direct guarantees in the domestic or foreign business, which is issued directly to the beneficiary. These direct guarantees are applied when the security of the bank doesn’t depend upon the enforceability, validity and existence of the primary responsibility.

Indirect guarantees, on the other hand, occur in the export business, especially when public companies and government agencies are the beneficiaries. With this type of guarantee, a second bank, majorly a foreign bank with a head office in the beneficiary’s country is used.

Types of Bank Guarantees

Considering the basic nature of a bank guarantee, there is a variety of them, such as:

• A payment guarantee provides assurance to the seller that the purchase price is paid on a specific date
• A warranty bond offers collateral ensuring ordered good will be delivered upon agreement
• An advance payment guarantee acts in the form of a collateral for compensating the advance payment from the buyer in case the seller fails to supply good according to the contract
• A performance bond is all about collateral for the cost of the buyer that incurred if the products or services were not delivered as per the contract
• A credit security bond comes in the form of a collateral for loan repayment
• A confirmed payment order is the irreversible responsibility wherein the bank has to pay the beneficiary a specific amount on behalf of the client within a set period of time