A bank draft is a payment instrument issued by a bank on behalf of a customer, guaranteeing the payment to the recipient. It functions as a secure and reliable alternative to personal cheques because the bank ensures that the funds are available and will be paid to the payee.
Unlike a regular cheque, a bank draft is prepaid by the issuer, meaning the bank withdraws the money from the customer’s account at the time of issuance. This makes it a trusted method for large transactions or for situations where the payee requires guaranteed funds.
How a Bank Draft Works:
A bank draft works by transferring funds from the purchaser’s account to the bank, which then issues the draft to the recipient. The amount specified on the draft is guaranteed by the bank, ensuring that the payee will receive the stated sum. Unlike personal cheques, which can bounce if there are insufficient funds in the account, a bank draft is prepaid and cannot be returned due to insufficient funds.
Issuing a Bank Draft:
To obtain a bank draft, the customer must visit their bank and request it. The bank will deduct the amount from the customer’s account and issue the draft. The customer may need to pay a small fee for the service. In some cases, drafts can also be requested online, depending on the bank’s services. The bank then prepares the draft with the payee’s name, the amount, and the bank’s guarantee that the funds will be honored.
Key Features of a Bank Draft:
- Guaranteed Payment: Since the bank holds the funds, the payment is guaranteed to the payee, offering greater security than personal cheques.
- No Risk of Bouncing: A bank draft is prepaid, so there is no risk of it bouncing due to insufficient funds, unlike personal or business cheques.
- Widely Accepted: Bank drafts are generally accepted for larger or more important transactions, such as real estate purchases, because they are backed by the issuing bank.
- Safety for Large Payments: For large transactions, such as buying property or expensive items, bank drafts provide a safe, verifiable payment method that the payee can trust.
Types of Bank Drafts:
- Demand Draft: A type of bank draft that can be drawn from one branch of a bank and paid at another branch, typically used for domestic or international transactions.
- Foreign Draft: Used for international payments, foreign drafts allow for payment in different currencies, making them suitable for cross-border transactions.
Advantages of a Bank Draft:
- Security: Bank drafts are considered a very secure method of payment, as they are backed by the issuing bank’s funds. This reduces the risk of fraud or the cheque bouncing.
- Certainty for Payee: The payee can be confident that the funds will be available, as the bank guarantees the payment.
- Widely Accepted Internationally: Foreign drafts can be issued in various currencies, making them a suitable method for international transactions.
- Useful for Large Transactions: For payments such as buying a home or a vehicle, bank drafts provide a reliable way to transfer large sums of money.
Disadvantages of a Bank Draft:
- Processing Time: While a bank draft is secure, it may take longer to process compared to electronic transfers or direct payments. The payee might need to wait several days for the funds to be cleared, particularly for foreign drafts.
- Non-reversibility: Once a bank draft is issued, it cannot be canceled or stopped, unlike a cheque. This can be problematic if the wrong amount or payee details are entered.
- Fees: Banks may charge a fee for issuing a bank draft, which can vary depending on the bank and the type of draft.
Uses of a Bank Draft:
- Real Estate Transactions: Bank drafts are commonly used when buying property, as sellers often require guaranteed payment to close the deal.
- Vehicle Purchases: When purchasing cars, especially in large or second-hand transactions, bank drafts are a secure method of payment.
- International Payments: Foreign drafts allow individuals or companies to make international payments in foreign currencies.
- Legal and Government Payments: Certain government or legal payments may require bank drafts to ensure the funds are guaranteed.
Bank Draft vs. Cheque:
- Funds Guarantee: The primary difference between a bank draft and a cheque is the guarantee of funds. With a cheque, the funds may or may not be available in the issuer’s account, and the cheque could bounce. In contrast, a bank draft guarantees payment because the bank withdraws the funds before issuing the draft.
- Acceptance: Because of the guarantee, bank drafts are often preferred for large transactions where a personal cheque might not be accepted.
- Reversibility: Cheques can be stopped or canceled by the issuer, but a bank draft, once issued, cannot be reversed.
Bank Draft Fraud:
While bank drafts are secure, they are not immune to fraud. In some cases, counterfeit drafts can be produced to deceive recipients. It’s essential to verify the authenticity of a bank draft before accepting it by contacting the issuing bank.
Cancelling a Bank Draft:
Bank drafts are usually non-cancellable once issued, as the funds are already removed from the issuer’s account. However, in the event of loss or theft, some banks may offer ways to cancel or replace a draft, but this typically involves a lengthy process and strict verification.
Conclusion:
A bank draft is a secure and reliable method of payment, particularly useful for large or international transactions. Its key advantage is the guarantee of payment, backed by the issuing bank. However, its non-reversible nature and potential processing time are important considerations when deciding to use a bank draft. Proper precautions, such as verifying its authenticity, should be taken when accepting bank drafts to avoid fraud.
