Both cash credit and overdraft facilities help many micro, medium, and small enterprises to get short-term financing. When the business has insufficient balance in their banking accounts, these facilities help to prevent the debit card from getting declined for the cheques from getting bounced. Business accounts receive cash credits, and they require collateral.
On the other hand, overdraft allows the account holders to have a negative balance without even incurring an overdraft fee. Hence when you speak about cash credit vs overdraft facilities, there are lots of common differences between both of these.
How does cash credit work?
Any business can take up cash credit. It is a short-term financing solution that any business customer can take. If the customer does not have funds in their account, then they can take the help of cash credit for banking transactions reaching up to the credit limit. Unlike any other credit product, the interest charged on the cash credit is on the daily closing balance. The main purpose of the cash credit is to help the business to buy raw materials. Also, cash credit helps to take care of the receivables while maintaining the stocks of the business. If you want to calculate the interest rate on the cash credit, it is calculated based on the entire amount you withdraw. Generally, the business requires a separate bank account to get the cash credit facility. However, they do not have to provide extra charges for this facility.
Compared to the overdraft facility, the rate of interest of the cash credit facility is quite lower. You can also change the limit of withdrawal based on the quantity or value of your inventory. If one wants to take any cash credit loan, they can get it at a smaller real interest cost.
How does an overdraft facility work?
An overdraft facility is a financing aid by any financial institution. If the customer does not contain sufficient funds in their account for completing a transaction, then the overdraft facility helps to cover the difference. It is a process of providing short-term credit to various account holders when their balance drops down to zero. The overdraft facility helps to keep the business operational and fulfil every kind of non-business requirement. The interest rate is quite higher in case of an overdraft. You can use your current bank account to get the overdraft facility. You need not have to open a new account. Although, unlike the cash credit facility, you cannot change the withdrawal limit. The current balance in your account influences the current account. The lender decides the charges of the overdraft facility.
Business customers who can provide any collateral can easily get access to cash credit. It means that they will not have any liquidity problems when they require immediate capital. In most cases, one can renew the cash credits on an annual basis for every business customer. It means that the business entities do not have to re-apply for credit approval. Over the interest payments that get availed on the cash credit is tax-deductible. It means that businesses can use these credits to lower down the tax burden and save a lot of money in a prolonged period.
On the contrary, when customers want to incorporate overdraft protection, they should apply for the service just like any other credit facility. The bank will review the application and later approve it based on the customer’s creditworthiness. Unlike the facilities of cash credits, the customer cannot claim the amount of interest paid on the overdraft facilities for the deducted tax.