Basic Banking Knowledge.doc

Basic Banking KnowledgeBasic Banking KnowledgeA-IT SOFTWARE SERVICES (SHANGHAI) PTE LTDI. Introduction1.1 PurposeThis is a short-term course that introduces the businesses and processes of bank. It aims to equip participants with the basic knowledge they need to learn about the banking area.1.2 ObjectivesAt the end of the course, the participant should be able to: Know the sources of bank funds Know the uses of bank funds Know the process of deposits Know the process of loans1.3 OutlineI. IntroductionII. Overview2.1 Definition of Bank2.2 Types of Bank2.3 Functions of BankIII. Bank Businesses3.1 Sources of Funds3.2 Uses of Funds3.3 Financial ServicesIV. Interest for ProfitV. Deposits5.1 Account Ownership5.2 Personal Accounts5.3 Commercial Accounts5.4 Opening Accounts5.5 Processing AccountsVI. Loans6.1 Types of Loans6.2 Process of LoansVII. General LedgerII. Overview2.1 Definition of Bank An organization, usually a corporation, chartered by a state or federal government, which does most or all of the following: receives demand deposits and time deposits, honors instruments drawn on them, and pays interest on them; discounts notes, makes loans, and invests in securities; collects checks, drafts, and notes; certifies depositors checks; and issues drafts and cashiers checks.2.2 Types of Bank There are four major types of bank:o Commercial Bankso Saving Bankso Saving Associationso Credit Unions Commercial Bankso Accept deposits payable on demand (checking accounts) and make business loans. o Have the authority to be full-service provider of deposit, payment, and credit services to all types of customers. Saving Bankso Specialize in saving accounts and real estate loans. o Allowed to offer additional products now. Saving Associationso Accept various types of deposits and use them primarily as a source of funds for real estate loans.o Allowed to offer commercial and installment loans. Credit Unionso No-Profit, member-owned financial institutionso Accept deposits, extend loans, and provide other financial services.2.3 Functions of Bank Financial Intermediary (manage the flow of money)o Accept money from depositorso Use the funds to make loans and investments Provide a valuable service by linking sources of funds with uses of funds to generate a profit Provide loans, checking accounts, and other products to business and consumers. Handle the distribution of currency to the public. Contribute to the local and national economies.III. Bank Businesses3.1 Source of Funds Deposits and Borrowings are the source of Funds for a bank. They are called liabilities. Deposits represent the major source of Funds for a bank. There are three major types of deposit:o Checkingo Savingso Time Deposits Checking Accounts include:o Demand Deposit Accounts (DDAs) Noninterest-bearing accounts that are payable on demand without advance noticeo Negotiable Order of Withdrawal (NOW) Accounts Intertest-bearing accounts Saving Accounts include:o Regular Saving Accounts Usually allow a low balance and earn interest at a low rateo Money Market Deposit Accounts (MMDA) Only allow 3rd party checks or six electronic transfer per month without charge Usually require a higher minimum balance and pay a higher interest rate Time Deposit Accountso Certificates of Deposit (CDs) long term Time Deposit Accounts Both the commercial and personal accounts can be one of the several types of ownership:o Individual Accountso Joint Accountso Sole Proprietorship Accountso Partnership Accountso Corporate Accountso Fiduciary Accountso Public Fund Accountso Informal Accounts The general processes for accounts:o Open the Accounto Depositso Withdrawalso Account Statuso Interest Accrualo Service Chargeo Statements and Noticeso CDs Maturityo Bank Reports Borrowings are the second of the major sources of funds. There are two major types of borrowings:o Federal Funds Purchased (FFP) Short-term borrowings from one bank to another Collateral is not requiredo Repurchase Agreement (Repos) Enable a bank to borrow short-term by pledging bank-owned securities to the investor as collateralo Federal Reserve Borrowings Borrow from one of the district Federal Reserve Banks Must be secured by collateral Deposits and Borrowings differ on interest rates, maturity, reserve requirements and insurance. Interest Rates:o Deposits Lowero Borrowings market-driven and higher Maturity:o Deposits Longer, from 7 days to 5 yearso Borrowings Shorter, between 1 day and 90 days Reserve Requirementso Deposits The rate is set by the Federal Reserve Bank on transaction accountso Borrowings No requirement Insuranceo Deposits Generally, there is $100,000 insurance on each customer per account typeo Borrowings No requirement3.2 Uses of Funds Usually there are two ways to use the funds: Loans and Investments. They are called assets. Loans are the major use of funds. There are four types of loans:o Commercial Loans Relatively short-term loans for business purposeo Installment Loans Usually 1 to 5 year loans to the individual consumer for personal use It also called Consumer Lending For relatively low amounts and generally paid off with regular, periodic payments, usually monthly or quarterly.o Real Estate Loans Usually long-term (15 to 30 years) loans for purchasing real estate.o Federal Funds Sold Unsecured short-term loans to other bank Credit risk refers to the possible loss on loans due to the borrowers inability to pay. A bank is required to maintain a Reserve for Loan Loss account to cover potential credit risk losses. High risk loans typically have higher interest rates; low risk loans usually have lower interest rates. The credit policy is established by the board of directors of the financial organization. This policy governs loans practices and procedures. The following are the generally lending processes applying all the consumer loans:o Originating the Loano Closing the Loano Serving the Loano Collecting the Loano Selling Groups of the Loans Investments are the second major use of funds. There are three types of investments:o Government Securities Funds loaned to the federal governmento Federal Agency Securities Funds loaned to agencies of the federal government or federally sponsored agencies.o Municipals Funds loaned to the city, country, or state government for construction use Loans and Investments differ on interest rates and collateral. Interest Rates:o Loans Highero Investments Lower Collateral:o Loans Requiredo Investments Not required Although banks prefer loans over investments, they are sometimes required to invest for the following reasons:o Loan demand is lowo Additional loans can not be madeo Securities are needed for pledging3.3 Financial Services Provide various financial services to community, and get the services fees. These services include:o Trust Account-estateso Living Trusto Lift Insurance Trusto Credit or Debit Cardo Safe-deposit Boxo Cashiers Checkso Money Ordero Stock Brokerageo Mutual Fundso Foreign Exchange Service Fees also contribute the profit of banks.IV. Interest for Profit All source of funds from deposits and borrowings are placed in a pool of funds for making loans and investments The bank pays out interest on most of its deposits and borrowings. This is Interest Expense. The deposit or borrowing on which the bank pays interest is called an interest-bearing liability. Typically, a bank has different interest rates on different types of accounts. A bank will refer to the total amount it pays out for all its deposits and borrowings as its Total Interest Expense. The bank makes money by earning interest on its loans and investments. This is called Interest Income. A bank refers to the total amount of interest income it receives as its Total Interest Income. A banks goal, of course, is to make a profit by ensuring that its Total Interest Income is greater than its Total Interest Expense. The difference between assets and liabilities is called gap. Bank management monitors this gap to predict profitability based on the current rate forecast.V. Deposits5.1 Account Ownership In general, deposit accounts can be divided into two categories:o Personalo Commercial Personal accounts are owned by individuals while commercial accounts are owned by business or corporations. Both personal and commercial accounts can have one of several types of ownership: It is important for you to understand account ownership because:o Dictates the type of account a bank customer can holdo Affects how the bank handles deposits and withdrawals (transactions are handled differently based on the account ownership)o Affects insurance and bank liability For deposit accounts, ownership is typically one of the following types:o Individual Accounts A type of personal account Held by one individualo Joint Accounts Held by two or more parties Held by individualso Sole Proprietorship Accounts A business owned by one individual Held by business or the owner (proprietor)o Partnership Accounts Two or more individuals enter into a business together Any one partner may represent the other partners when dealing with a banko Corporate Accounts A corporation is a legal entity or an artificial person licensed by the state or federal government. It is owned by two or more stockholders. The corporation is the owner of the account Bank must treat corporate accounts differently from other business accounts.o Fiduciary Accounts Opened by a representative for the benefit of another Cover a variety of relationship including Guardianships Trust Accounts Estate Accountso Public Fund Accounts Held by component of the Federal, State, or local government Used to receive and disburse fundso Informal Accounts Owned by social, fraternal, or non-profit group and societies Holders include Churches, Leagues, Clubs, Disasters relief funds and Teams Individual Accounts and Joint Accounts can only be Personal Accounts Partnership Accounts, Corporate Accounts, Public Fund Accounts, and Informal Accounts can only be Commercial Accounts Sole Proprietorship Accounts and Fiduciary Accounts can be both Personal Accounts and Commercial Accounts.5.2 Personal Accounts There are six types of personal deposit accounts:o Checking Demand Deposit Account The consumer can withdraw all the funds on demand, without giving the bank any notices No-interest-bearing accounts There are three main types of checking accounts Regular Special Negotiable Order of Withdrawal (NOW)o Savings Banks have the right to require up to seven days notice to withdraw funds from these accounts Allow a low balance without assessing extra fees but also earn interest at a low rate Most customer transactions are reported on a periodic statement or in a passbooko Clubs Used to save specific amounts of money on a regular basis and for specific purpose Mature on a specific date Earn low and sometimes no interesto Money Markets Money Market Deposit Accounts (MMDA) Allow only three 3rd party checks or six electronic funds transfers per month without chargeo Time Deposits Long-term investment and require customers to maintain a minimum balance for a specified period of time A penalty is normally assessed if funds are withdrawn before the stated account maturity date There are two types of time deposits Certificates of Deposit (CD)o Contracts between the bank and the customer Time Deposit Open Accounts (TDOA)o Deposited for specified lengths of timeo Consist of multiple deposits, all tracked separately. Each deposit can earn a different rate and have a different maturity dateo Retirement Plans Allow individuals to make deposits to accounts that will be used for retirement.5.3 Commercial Accounts There are four types of commercial deposit accounts:o Checking Demand Deposit Account The consumer can withdraw all the funds on demand, without giving the bank any notices Must be no-interest-bearing accounts More frequent statements Deposit and Withdrawal Restrictionso Money Marketso Savingso Certificate of Deposit Three types of special services banks offer commercial customers are:o Target Balance A group of bank accounts maintained for the same customer and controlled by a master parent or concentration account. Subsidiary accounts are also set up for each branch of the company near their respective locations with the same bank. The bank provides the service of moving balances between subsidiary accounts and the parent account to maintain a specific target balance in each of the subsidiary accounts.o Sweep A relationship in which all funds in an non-interest checking account, over and above a specified figures, are automatically transferred into interest-bearing investment securities overnight or for short periods of time.o Cash Management A family of bank services for corporate customers, designed to generate new deposits, speed up collection of receivables, controls payments, provides information, and efficiently manage funds. These services often include lock boxes, depository transfer checks, payments, item reconciliation, and controlled disbursements.5.4 Opening Accounts Each bank must establish and follow new account opening procedures listed below:o Verifying a New Customer A valid form of identification Proofs for organizationo New Account Documents Sing a signature card Determine the rules for how your account will be handledo Service Charges and Fees Monthly service charges Ordering new checks Making an ATM transaction Making more withdrawals than allowed during a give period of time Falling below a minimum balance levelo Relationship Pricing Look through whether you already have an account or noto Transfer between accounts Link the deposit account to another account, credit card etc. Set automatically transfer ruleso Account insuranceo Backup withholding Provide the Tax Identification Number (TIN) during opening accounts Otherwise, bank will withhold 31% of any interest the account earns5.5 Processing Accounts You can handle your accounts for any activities listed in the following ways:o Depositso Withdrawalso Changing Account Statuso Interest Accrualo Service Chargeso Customer Statementso Customer Noticeso Maturity Processingo Account Reporting Depositing money into an account can take many forms including:o Going to the bank in persono Using an ATMo Electronic funds transfers (for example ACH transfer) ACH (Automated Clearing House) is a nationwide electronic payment and collection network that provides financial institutions with an automated, low cost substitute for issuing and processing checks. It is used to transfer funds from one bank to another. Sometimes, If you deposited a check into your checking account, all the funds might not be available for you to withdrawals for a few days. The length of time a bank may delay availability is dictated by bank policy and controlled by banking regulations. When a deposit is made to an account, it is entered into the banks computer system and the amount is added to the accounts balance. There are several balances in account including:o Available Balance The amount which is available to you at this point in time Subtract funds for holds and unavailable deposits Add funds for lines of credito Ledger Balance Actual amount in this accounto Closing Balance The amount that you would receive today Include accrued interest and have penalties and charges subtracted from ito Aggregate Balance Used to calculate an average Add together the balance amount for each day during a certain period of time A withdrawal is the removal of funds from a deposit account. It can be take on several forms including:o Making a Withdrawal in Persono Writing a Checko ATM Withdrawalo In-Bank Transfero ACH Transfero Wire Transfero Debit Card Many banks limit the number of withdrawals you can make from an account. If you have overdraft protection and write a check for more than the amount that is in your account, the bank pays the check and either draws the funds from another account or lends you the money to cover it. It is referred as OverDraft. If you do not have overdraft protection, the bank will refuses to pay an item which the account balance will not cover. It is referred as Insufficient Funds All banks track the status of their accounts. In general, all accounts fall into one of the following categories:o Active Currently in useo Dormant Has not been in use and has had no customer contact for a given period of timeo Closed The account has been closed at a customer request or by banko Frozen Not allow any customer-generated activities Can be frozen for withdrawals only A stop payment s an order not to pay an item or items. Stops are placed at the customers request. A hold is the restriction of all or part of an account. For example: funds in the account are being held as collat