Cash Credit

Overview

Cash Credit (CC) is a short-term financial instrument offered by banks and financial institutions in India that allows businesses and firms to withdraw funds beyond their actual account balance, up to a pre-sanctioned credit limit. Unlike a traditional term loan where a fixed lump sum is disbursed and repayment begins immediately, a Cash Credit facility functions more like a revolving line of credit — the borrower can withdraw, repay, and re-withdraw funds repeatedly within the sanctioned limit and the validity period of the account. It is one of the most widely used working capital financing tools in the Indian banking system, particularly favoured by traders, manufacturers, small and medium enterprises (SMEs), and large corporations alike.

How It Works

A Cash Credit account operates similarly to a current account with an overdraft facility, but it is specifically structured to finance working capital needs. When a bank sanctions a Cash Credit limit, it does so after evaluating the borrower's financials, the nature of their business, and the value of the collateral offered — typically in the form of inventory, stock-in-trade, book debts, or receivables. The borrower can draw funds from the CC account at any point up to the sanctioned limit and repay whenever cash flows allow, making it a highly flexible instrument.

Interest under a Cash Credit facility is charged only on the amount actually utilised, not on the entire sanctioned limit. This is a crucial advantage because businesses often experience fluctuating cash needs — during peak seasons they may draw heavily, while during lean periods they may repay a significant portion. The interest is typically calculated on a daily outstanding balance basis and debited to the account on a monthly basis. This structure ensures that businesses are not burdened with interest costs on funds they are not actually using.

The sanctioned limit itself is reviewed periodically — usually annually — based on the borrower's updated financials, stock statements, and business performance. Banks may enhance, reduce, or renew the limit depending on the creditworthiness of the borrower at the time of review.

Indian Context

In India, Cash Credit is governed broadly under the guidelines issued by the Reserve Bank of India (RBI) and is a staple product offered by all scheduled commercial banks, including public sector banks like State Bank of India (SBI), Punjab National Bank (PNB), and Bank of Baroda, as well as private sector banks like HDFC Bank, ICICI Bank, and Axis Bank. The RBI, through its Master Circulars on loans and advances, sets the broad framework within which banks design their CC products, including guidelines on drawing power calculations, margin requirements, stock audits, and NPA classification norms.

For priority sector lending, particularly for MSMEs and agricultural businesses, Cash Credit facilities often come with concessional interest rates, subsidised under schemes like the Credit Guarantee Fund Trust for Micro and Small Enterprises (CGTMSE). The Mudra Yojana also encompasses certain working capital credit lines that function on principles similar to Cash Credit for micro-enterprises.

Cash Credit is distinct from the Overdraft (OD) facility in Indian banking practice. While both allow borrowing beyond one's balance, OD is typically extended against fixed deposits, insurance policies, or property, and is available even to salaried individuals and retail borrowers. Cash Credit, by contrast, is almost exclusively a business banking product secured primarily against current assets like stock and debtors.

Key Features

The first defining feature of a Cash Credit facility is its revolving nature. Unlike a term loan, there is no fixed repayment schedule; the borrower manages the account based on their business cash cycle. This makes it ideally suited for businesses that need continuous liquidity to purchase raw materials, maintain inventory, or bridge the gap between production and payment collection.

Second, the drawing power concept is central to how Cash Credit functions in India. Drawing power is the maximum amount a borrower can withdraw from the CC account at a given point in time, calculated based on the value of current assets pledged as security minus a prescribed margin. For example, if a business pledges stock worth ₹50 lakhs and the bank applies a 25% margin, the drawing power would be ₹37.5 lakhs. Banks require borrowers to submit monthly stock statements and debtor statements to continuously compute and update the drawing power.

Third, the interest rate on CC accounts is linked to the bank's Marginal Cost of Funds-Based Lending Rate (MCLR) or the Repo-Linked Lending Rate (RLLR), as mandated by RBI regulations for floating rate products. This ensures transparency and ensures that borrowers benefit when benchmark rates fall.

Fourth, Cash Credit accounts are subject to the RBI's guidelines on non-performing assets (NPAs). If an account remains continuously overdrawn beyond the sanctioned limit, or if interest and principal are not serviced regularly, the account can be classified as a Non-Performing Asset, adversely affecting the borrower's credit history and the bank's balance sheet.

Example

Consider Sharma Textiles Pvt. Ltd., a garment manufacturer based in Surat, Gujarat. The company has a seasonal business — orders spike between October and January, requiring large purchases of raw fabric. The firm approaches their banker, Bank of Baroda, and submits audited financials, projected turnover, and a stock statement. The bank sanctions a Cash Credit limit of ₹75 lakhs against the pledge of raw material inventory and book debts, with a 20% margin.

During October, Sharma Textiles draws ₹60 lakhs to procure fabric. Interest is charged only on ₹60 lakhs at the applicable rate. By February, after receiving payments from buyers, the company repays ₹55 lakhs, bringing the outstanding to ₹5 lakhs. They can re-draw funds whenever needed within the ₹75 lakh limit. Every month, the company submits a stock statement to the bank so that drawing power is recalculated. This cyclical draw-and-repay pattern helps the business manage its working capital efficiently without the burden of a rigid EMI-based loan.

Related Regulations

The RBI's Master Direction on Loans and Advances provides comprehensive guidance on how banks should structure, sanction, and monitor Cash Credit facilities. Banks are required to conduct annual reviews of CC accounts, obtain quarterly operational statements, and perform periodic stock audits for larger exposures. The RBI's Prudential Norms on Income Recognition, Asset Classification, and Provisioning (IRACP) dictate that CC accounts where the outstanding balance exceeds the drawing power continuously for 90 days must be flagged and potentially classified as NPAs.

Additionally, banks must adhere to RBI's guidelines on aggregate exposure limits to specific sectors and must ensure that CC limits are not used for purposes other than working capital financing — misuse for long-term capital expenditure is a common compliance concern. For accounts above a certain threshold, banks also file Credit Information Reports with bureaus like CIBIL, CRIF High Mark, and Equifax, ensuring the borrower's credit history is updated regularly.

Tips for Indian Borrowers

Businesses considering a Cash Credit facility should maintain meticulous records of inventory and receivables, as accurate and timely stock statements directly determine the drawing power available. It is advisable to utilise the CC limit judiciously — consistently over-utilising the limit or drawing close to the ceiling without repayments can signal financial stress to the bank and may lead to a limit reduction during annual review.

Borrowers should also compare CC interest rates across banks before finalising, as the spread over MCLR or RLLR can vary. Negotiating a lower margin requirement (which increases drawing power) by offering additional collateral is another strategy to enhance available credit. Finally, businesses should ensure that the CC account sees regular credits — the RBI and banks monitor accounts where the outstanding balance rarely reduces, as this may suggest the account is being misused for long-term funding rather than genuine working capital purposes.