SOURCES OF FUNDS-BANKS LIABILITIES

Similar to the balance sheet of any other firm, the banks balance sheet also has assets that represent Application of Funds to generate revenue for the bank and liabilities and net worth that form the Sources of the banks funds. However, within this framework, there are significant differences in the basic composition of the assets and the liabilities and how they contribute towards the revenues and expenses of the bank. The sources of the funds for the lending and investments activities constitute the Liabilities of the banks balance sheet. The various sources through which the bank raises funds for its business are broadly classified into the following:

SOURCES OF FUNDS

CAPITA

DEPOSIT RESERVE S AND SURPLU S

OTHER LIABLITIES AND PROVISIONS

BORROWING

Capital
The RBI has provided guidelines for the capital requirement of the banks. The capital of the nationalized banks, which is fully contributed by the government, will also include the contributions made by the governments for participating in the World Bank projects. For banks that are incorporated outside India, and have branches in India, the capital will be the amount they bring in by way of start-up capital as prescribed by the RBI. Under this head amount of deposits kept with the RBI under section 11(2) of the banking Regulation Act, 1949 is also shown. According to this section, if the bank is not incorporated in India, it will have to maintain a deposit with the RBI either in cash or in the form of unencumbered approved securities or the party in such securities. New banks will have to be incorporated under the Indian Companies Act and have a minimum capital requirement of Rs 100 crore. Banks will have to show in their capital account the authorized, issued, subscribed and called up capital. The account will, however, be represented by the paid-up capital which will be arrived at after deducting the calls-in-arrears and adding up the paid-up value of forfeited shares to the called-up capital.

The Purposes of Bank Capital

The most obvious purpose of bank capital (although minor in comparison with other businesses) is that it provides

funds for fixed-asset purchases-building, equipment, and other physical assets-necessary to conduct the banks business. A major difference between banks and other businesses is that banks operate with a much lower level of capital than nonfinancial businesses. Capital is also the basis on which bank regulators set limits on lending. These limits restrict the amount that can be lent to any one borrower to a certain percentage of the banks total capital. Such limitations force banks to diversify their loans, thus protecting bank from concentrating funds in one or two major loans that may lead to major losses. Finally capital is the basis for market evaluations of bank performance.

Reserves and Surplus

The components under this item of the banks liability will include statutory reserves, capital reserves, share premium, revenue and other reserves and balance in profit and loss account. These items are discussed below:
1.

Statutory

Reserves:

Section

17

of

the

Banking

Regulation Act, 1949 which deals with the reserves fund account of the bank provides that every banking company incorporated in India shall create a reserve fund out of the balance of profit of each year as disclosed in the profit and loss account. This transfer of funds will be before any dividend is declared and the amount will be equivalent to not less than 20 percent of the profit.

2.

Capital

Reserves:

The

surplus

arising

due

to

revaluation will be considered as the capital reserve. It will not include any amount that is regarded as free for distribution through the profit and loss account. As stated earlier, if there is excess depreciation on investments and the bank intends to reverse it, then it shall be taken to capital reserve. Similarly, profit made on sale of permanent investments shall also be taken to capital reserves.
3.

Revenue and Other Reserves: All other reserves reserve fund. Excess provision for depreciation in

other than the capital; reserve will appear under this category of investments will have to be appropriated to investment fluctuation reserve account and be shown under this head. This amount will be considered as Tier-2 capital and can be utilized for the depreciation requirement on investment in securities, in the future.
4.

Share Premium: This item will show the premium on the

issue of share capital by the bank.

5.

Balance in Profit and Loss Account: The profits

remaining after the appropriations are considered under this heading.

Deposits
The equity capital and reserves of a bank form relatively a small proportion of the total liabilities. Banks are

highly leveraged organizations, relying mainly on debt and the chief sources of funds are the deposits that are raised. These deposits are grouped into various types depending on the purpose and the maturity. The deposits are broadly classified as deposits payable on demand and deposits accepted for a term and hence payable on a specified date. Deposits payable on demand consist of current deposits and savings deposits. However, the classification of these deposits for balance sheet purpose will be as demand deposits, savings bank deposits and term deposits. Demand Deposits: these include balances in current account and term deposits which have become due for payment but have not been paid yet. These funds represent interest-free balances. These accounts will be in the form of an operating account primarily for a business concern.
1.

Savings Deposits: these represent balances payable on

demand which is in the form of an operating account catering to non-commercial purposes such as individuals, trusts, etc.
2.

Term Deposits: Deposits that are repayable after a

specified term are included here. The minimum maturity period for which term deposits can be accepted are 15 days to 10 years and in case of deposits of Rs.15 lakhs and above this period can be relaxed in certain specific case.

These term deposits which can be raised from banks and others will include fixed deposit, cumulative and recurring deposits, cash certificates, certificates of deposits, annuity of deposits, deposits raised under various schemes, ordinary staff deposits, FCNR deposits, etc. The deposits under special schemes which are included here will be shown as demand deposits when they mature for repayment. All the deposits mentioned above will be classified as Those from banks and From others. The deposits from banks will include deposits from the banking system in India, co-operative banks, foreign banks which may or may not have operations in India. The balance sheet will also present the deposits segregating them into those raised by branches in India and those raised by overseas branches.

The Cost and pricing of Funding Instruments

A variety of factors influence the cost of deposits, the single most important source of bank funds. Bank funding sources have undergone profound changes in recent years, and continued change and challenge are still on the horizon. The deposit structures of most banks have been altered significantly due to marked declines in traditional demand deposits and rapid increases in the volume of time deposits. The sources of

most bank funds are now interest sensitive and increasingly volatile. Competition for funds is intense, and effective management of a banks liabilities now requires a much more aggressive approach to attracting and keeping funds. Bank funds managers must determine the true costs and appropriate prices of deposit accounts and must evaluate the relative costs of various short-term sources of borrowed funds.

Determining Deposit costs and prices

The changes in bank deposit structure coupled with increased competition for funds, have forced many banks to look more realistically at the true costs of obtaining funds and the adequate pricing of bank products and services to offset the total cost of funds. Recognizing the true cost of funding and recovering those costs through accurate pricing are essential to bank profitability and stability in the increasingly competitive and complex financial services industry.

Borrowings
Borrowings of the bank will be shown as those made within India and those made in the overseas markets. Borrowings in India will consist of Borrowings/ refinance obtained from the RBI, commercial banks (including co-operative banks) and other institutions and agencies like IDBI, EXIM Bank of India, NABARD etc. The borrowings made outside India will include the overseas borrowings made by the Indian branches and the borrowings of

the foreign branches. The amount borrowed in the money market will be shown under borrowings from other banks and other institutions depending on the lender. These borrowings will not include interoffice

transactions. Further, the funds raised by the foreign branches by way of Certificate of Deposits, notes, bonds, etc., should be segregated into deposits, borrowings, etc., based on the documentation. The secured borrowings made in the above two categories i.e. within and outside India will be shown separately under this head.

Purchased and Borrowed Funds

Purchased or borrowed funds play a significant role in bank funds management because they offer banks an alternative means of liquidity apart from assets liquidation. They also enable banks to compete for funds to expand their earning assets rather than relying solely on funding from deposits. All banks purchase or borrow funds from time to time to met reserve deficiencies, but many banks with access to national money markets also use purchased funds to enable them to expand their assets significantly.

Comparing the Costs of Borrowed Funds

Comparing the costs of funds that banks borrow or purchase is not as straightforward as cost comparisons on

various types of deposit instruments. Short-term borrowed funds, or money market liabilities, are liabilities that a bank incurs voluntarily to cover both expected and unexpected shortterm needs for funds. The costs of borrowing vary somewhat depending on the characteristics of the particular instrument used, but the major determinants of cost with borrowed funds are market supply and demand, as well as the efficiency of funds managers in obtaining funds.

Other Liabilities and provisions

The other liabilities of the bank are grouped into the following categories:

Bills Payable: This includes drafts, telegraphic transfers,

travelers cheques, mail transfers payable, bankers cheques and other miscellaneous items.

Interoffice Adjustments : As mentioned earlier, while

discussing the assets side of the balance sheet, the credit balance of the net interoffice adjustments will appear on the liabilities side of the banks balance sheet.

Interest Accrued : The interest accrued but not due on

deposits and borrowings is entered under this heading. Interest accrued and due is usually credited to the deposit account and hence such amounts usually do not get reflected here.

Others: The other liability items include the net provision

for income tax after deducting the advance payment, tax deducted at source, etc., and other taxes like interest tax. It also includes the surplus in the aggregate in provisions for bad debts account and for depreciation in securities. The contingency funds which are not disclosed as reserves but are required to be included under this head are as follows:

the proposed dividend/transfer to government, unexpired discount, outstanding charges like rent, conveyance, etc., other liabilities that do not appear under any head such as dividend.

unclaimed

Provisions and funds kept for specific purposes and certain

types of deposits like staff security deposits, margin deposits, etc., where the repayment is not free.