A Bank Guarantee (BG) is a financial instrument offered by a bank where it provides assurance

to a third party (the beneficiary) that the bank will pay a specified sum of money if the applicant
(the bank’s client) fails to fulfill contractual obligations. This type of guarantee is commonly used
in trade, construction contracts, and other situations where one party needs assurance that the
other party will fulfill certain commitments.

Here’s a detailed explanation of a Bank Guarantee:

1. Parties Involved:

Applicant: The person or entity (usually a business) that requests the bank guarantee from the
bank.

Beneficiary: The party to whom the guarantee is given, usually the seller or a party expecting
some performance or payment from the applicant.

Bank (Guarantor): The financial institution that provides the guarantee on behalf of the
applicant.

2. Types of Bank Guarantees:

Financial Guarantee: The bank guarantees payment to the beneficiary in case the applicant
defaults on a financial obligation, such as a loan or credit repayment. For example, if a company
takes a loan and is unable to repay it, the bank will cover the amount for the beneficiary (the
lender).

Performance Guarantee: The bank guarantees that the applicant will fulfill a contract as per the
agreed terms. If the applicant fails to complete the project or meet the contractual terms, the
bank will compensate the beneficiary. This is common in construction and supply contracts.

3. How it Works:

1. Request: The applicant approaches the bank, usually after entering into a contract with a third
party, and requests a bank guarantee.

2. Assessment: The bank assesses the applicant’s creditworthiness and financial position
before issuing the guarantee.

3. Issuance: Once approved, the bank issues the guarantee to the beneficiary, stating that if the
applicant defaults, the bank will cover the loss up to a certain amount.
4. Invocation: If the applicant fails to meet the obligations (e.g., fails to deliver goods or services
as promised), the beneficiary can invoke the bank guarantee. The bank then pays the
beneficiary, but the applicant is responsible for reimbursing the bank.

4. Features of a Bank Guarantee:

No Immediate Cash Transfer: Unlike loans, a bank guarantee does not involve the immediate
transfer of funds. The bank only pays if the applicant defaults.

Collateral: The applicant may need to provide collateral or security to the bank, such as cash,
property, or other assets, as a safeguard.

Fee or Commission: Banks charge a fee or commission for providing the guarantee, which
could be a percentage of the guarantee amount.

5. Types of Performance Situations:

Bid Bond Guarantee: Ensures the applicant (contractor) will take on the project if they win the
bid. If the contractor refuses, the bank pays the beneficiary.

Advance Payment Guarantee: Ensures the buyer’s advance payment is refunded if the seller
does not deliver the goods or services.

Payment Guarantee: Ensures payment to the beneficiary if the buyer defaults on payment after
receiving goods or services.

Warranty Guarantee: Guarantees that the goods or services provided will meet certain quality
standards, and if they do not, the bank compensates the beneficiary.

6. Benefits of a Bank Guarantee:

Boosts Confidence: A bank guarantee assures the beneficiary that they will receive payment or
compensation even if the applicant defaults, facilitating smoother business transactions.

Promotes Business: With the bank’s backing, small and medium enterprises (SMEs) and
startups can secure contracts or business deals they might otherwise struggle to obtain due to
lack of trust.
Mitigates Risk: It reduces the risk for the beneficiary by shifting the financial risk to the bank.

7. Risks to the Bank:

While a bank guarantee enhances trust between the applicant and beneficiary, it also poses
risks to the bank. If the applicant defaults, the bank is obligated to pay the beneficiary, even if
recovering the funds from the applicant proves challenging.

8. Bank Guarantee vs. Letter of Credit:

While both are financial instruments used in international and domestic trade, a Bank Guarantee
ensures payment or performance in case of default, while a Letter of Credit facilitates payment
after the goods or services are delivered and confirmed.

Example:

A construction company, ABC Ltd., wins a contract to build a bridge for a government agency.
The government requires ABC Ltd. to provide a performance guarantee to ensure the work will
be completed on time and to the required standards. ABC Ltd. approaches its bank to issue a
performance bank guarantee. If ABC Ltd. fails to complete the project, the government agency
can invoke the bank guarantee, and the bank will compensate them for the financial loss.

Conclusion:

A Bank Guarantee is a crucial financial tool that facilitates trust in business transactions,
especially in situations involving large sums of money or lengthy projects. It protects the
interests of the beneficiary and helps businesses engage in contracts that might otherwise be
too risky.

A Bank Guarantee (BG) ek financial instrument hai jo bank provide karta hai. Isme bank ek third
party (beneficiary) ko assurance deta hai ki agar applicant (bank ka client) apne contractual
obligations poore nahi karta, toh bank uss beneficiary ko ek fixed amount pay karega. Ye
guarantee trade, construction contracts, aur business deals mein zyada use hoti hai jahan ek
party ko dusri party se commitment ka assurance chahiye hota hai.

1. Bank Guarantee ke main parties:

Applicant: Applicant wo hota hai jo bank se guarantee ke liye request karta hai (usually ek
business).
Beneficiary: Beneficiary wo party hoti hai jisko guarantee di jati hai (generally seller ya wo party
jo applicant se kuch performance ya payment expect karta hai).

Bank (Guarantor): Bank wo hota hai jo applicant ke behalf par beneficiary ko guarantee deta
hai.

2. Bank Guarantee ke types:

Financial Guarantee: Bank yeh guarantee karta hai ki agar applicant financial obligation (jaise
loan ya credit repayment) default karta hai, toh beneficiary ko bank payment karega.

Performance Guarantee: Bank yeh guarantee karta hai ki applicant apne contract ke terms ko
pura karega. Agar applicant project complete nahi karta ya contract ke terms fulfill nahi karta,
toh bank beneficiary ko compensate karta hai.

3. Kaise kaam karta hai:

1. Request: Applicant bank ke pass jaata hai aur guarantee ke liye request karta hai jab wo kisi
third party ke sath contract sign karta hai.

2. Assessment: Bank applicant ki financial position aur creditworthiness ko evaluate karta hai.

3. Issuance: Approval ke baad, bank beneficiary ko guarantee issue karta hai, jis par likha hota
hai ki agar applicant apne obligations poore nahi karta, toh bank beneficiary ko payment karega.

4. Invocation: Agar applicant apne obligations fail karta hai, toh beneficiary bank guarantee ko
invoke kar sakta hai. Us case mein, bank beneficiary ko paise deta hai, aur applicant ko bank ko
repay karna padta hai.

4. Bank Guarantee ki Features:

No Immediate Cash Transfer: Bank guarantee mein koi immediate paise transfer nahi hoti. Sirf
tab paise diye jate hain jab applicant apne obligations ko fulfill nahi karta.

Collateral: Kabhi kabhi applicant ko bank ko collateral (jaise property ya assets) dena padta hai,
jo bank ke liye safeguard hota hai.
Fee or Commission: Bank applicant se guarantee dene ke badle ek fee ya commission charge
karta hai.

5. Types of Performance Situations:

Bid Bond Guarantee: Ye ensure karta hai ki agar contractor bid jeet jata hai, toh wo project ko
take karega. Agar contractor mana karta hai, toh bank beneficiary ko payment karega.

Advance Payment Guarantee: Ye guarantee karta hai ki buyer ka advance payment wapas
milega agar seller goods ya services deliver nahi karta.

Payment Guarantee: Ye ensure karta hai ki agar buyer payment default karta hai, toh bank
beneficiary ko paise dega.

Warranty Guarantee: Ye guarantee karta hai ki provided goods ya services expected quality ko
meet karenge, aur agar nahi karte, toh bank beneficiary ko compensate karega.

6. Bank Guarantee ke Benefits:

Confidence Build karta hai: Beneficiary ko assurance milta hai ki agar applicant fail hota hai, toh
bank uska loss cover karega.

Business Growth: Bank guarantee ke sath, chhoti aur medium businesses bade contracts
secure kar sakti hain jo unke liye bina guarantee ke mushkil hota.

Risk Mitigation: Beneficiary ke liye risk kam ho jata hai kyunki financial risk bank par shift ho jata
hai.

7. Bank ke Liye Risk:

Bank guarantee dene se bank ke liye risk hota hai. Agar applicant default karta hai, toh bank ko
payment karna padta hai, aur applicant se paise recover karna kabhi mushkil ho sakta hai.

8. Bank Guarantee aur Letter of Credit ka Difference:

Bank Guarantee mein bank payment tab karega jab applicant apna contract fulfill nahi karta,
jabki Letter of Credit mein bank tab payment karta hai jab beneficiary apne goods ya services
deliver karta hai.

Example:
ABC Ltd. ek construction company hai, jo government agency ke liye ek bridge banane ka
contract jeet jati hai. Government require karta hai ki ABC Ltd. ek performance guarantee
provide kare jo ensure kare ki kaam time par aur standard ke hisaab se hoga. ABC Ltd. apne
bank se performance bank guarantee issue karwati hai. Agar ABC Ltd. apna project complete
nahi karta, toh government agency bank se compensate ho sakti hai.

Conclusion:

A Bank Guarantee ek zaroori financial tool hai jo business transactions mein trust badhata hai.
Ye beneficiary ke interest ko protect karta hai aur businesses ko bade contracts secure karne
mein help karta hai.