Define Bank Draft in a Business
A bank draft is a payment instrument that is guaranteed by a bank. It is a check drawn by a bank on its own funds and payable to a specific payee. In essence, it's a certified check that guarantees the funds are available for payment.
How does a bank draft work?
- Application: The applicant approaches the bank and requests a bank draft.
- Payment: The applicant pays the bank the amount of the draft plus any applicable fees.
- Issuance: The bank issues the draft, which is essentially a check drawn on its own funds.
- Payment: The payee presents the draft to the bank for payment.
Why use a bank draft?
Bank drafts offer several advantages in business transactions:
- Guarantee of funds: The bank guarantees the payment, assuring the recipient that the funds are available.
- Security: It's considered a safer and more secure payment method than a regular check.
- Credibility: Bank drafts add a level of credibility and trustworthiness to transactions.
- International payments: Bank drafts are commonly used for international transactions where other payment methods might not be readily available or reliable.
When is a bank draft used?
Bank drafts are commonly used in situations where:
- High-value transactions: Bank drafts are often used for large purchases or transactions involving significant amounts of money.
- Transactions requiring security: Bank drafts are used when parties require a guaranteed payment method, especially in real estate, import/export, and international trade.
- Transactions with unfamiliar parties: Bank drafts can help build trust and confidence in transactions with unfamiliar parties.
Alternatives to bank drafts
While bank drafts are a reliable option, other alternatives exist depending on the specific requirements of a transaction:
- Wire transfers: Provide faster payment and are suitable for large amounts.
- Certified checks: Offer similar guarantees to bank drafts but are issued by the payer's bank.
- Money orders: Similar to bank drafts but typically issued by post offices or other financial institutions.
In conclusion
A bank draft is a valuable payment instrument that provides a guaranteed payment method, ensuring both the payer and the payee are protected. While alternative payment methods are available, bank drafts remain relevant in situations where security, credibility, and assurance of funds are paramount.