Financial Accounting
Banking Theory
Customer / Bank Relationship
What is banker?
A banker is someone who will do the following.
Put money and cheques received on a customer’s behalf into his account.
Take out all cheques and orders paid from the account by the customer.
Keep accounts, such as current accounts, which can be used for paying in or taking out
on the customer’s behalf.
Banker’s Obligation = rights of customers
A duty is a task or action which a person is bound to perform for moral and legal reasons.
Although a bank does not have to account its customers for any profit that it makes with the
money deposited, it does have a number of obligations to its customers.
The banker must repay the amount of the deposit on demand or pay it to a third party
when requested to by the drawing of a cheque.
The banker has a duty to honor a customer’s cheque up to the amount of the bank
balance or agreed overdraft provided that the cheque has been made out correctly.
The banker must provide the amount of the bank balance on the account at any time on
the request of the customer.
The rights of banker
Making charges or commissions
Using customer’s money
Demanding repayments of overdrawn balances
Possessing a lien over securities
What is a customer?
A term ‘CUSTOMER’ or ‘CUSTOMER OF BANK’ is not defined in statute. However, it can be
defined as:
A person becomes a customer in respect of cheque transactions as soon as the bank opens an
account for him in his bank.
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Financial Accounting
Customer’s obligation
The main duty of the customer is to ensure that reasonable care is exercised when drawing up
cheques. Cheques should be drawn up so as not to mislead the bank and not to facilitate
forgery.
The contractual relationships
The relationship between bank and customer arises from legal contracts between them which it
is necessary to understand. There are four main types of contractual relationships which may
exist between a banker and a customer.
Receivable/Payable
Bailor/Bailee
Principal/Agent
Mortgagor/Mortgagee
Debtor (Receivable) and Creditor (Payable)
If a business pays $5000 into a bank account then the bank owes that money back to the
business. The bank is therefore a debtor of the business. Equally the business is a creditor form
the bank’s point of view.
o Alternatively if the bank allows the business an overdraft then the bank is a creditor of
the business and the business is the debtor in the bank’s eyes. The situation in one set
of books is a mirror image of others.
o Banks provide a number of services to customer and often charge interest and
commission. There are pure banking services such as direct debits and standing orders,
overdraft and loans. There are also other services such as the provision of insurance, tax
advice and travel facilities
The Bailor and Bailee Relationship
This relationship exists where a bank offers a safe deposit service to customers, which allows
use of the bank’s strong room or safe. When it accepts the customer’s property, the bank has
the following obligations.
1. To take reasonable care to safeguard it against damage and loss.
2. To redeliver it to the customer or some other person authorized by him and not to
deliver it to any other person. In Law this type of arrangement is known as bailment.
The customer is the Bailor, the bank is the Bailee.
Principal and Agent Relationship
An agency relationship is one where one person (the agent) acts for another (the principal),
usually for the purpose of doing business between the principal and the third party.
The bank may act as agent for his account.
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Financial Accounting
The Mortgagor and Mortgagee Relationship
This relationship arises when a customer asks a bank to give a loan secured by a charged or
mortgage over the customer’s assets such as property. The customer, or mortgagor, grants the
bank, or mortgagee, a mortgage. At the same time the customer is the receivable, and the bank
is the payable for the amount of the loan. If the customer does not pay back the loan, then bank
can sell the asset or assets to recover its money.
Central bank clearing system
Clearing is the mechanism for obtaining payment for cheques.
Clearing Banks
Major high street banks are known as clearing banks, for example, HSBC and BARCLAYS bank in
the UK. These clearing banks settle the amount of cheques drawn on them and payable into
their accounts through what is known as the clearing system.
The Clearing System
The clearing system in the UK operates in the following manner.
All cheques paid into, Lloyds TSB branches in a day are sent to Lloyds TSB head office.
They are sorted into files according to the bank that the cheques are drawn on, for
example all cheques drawn on HSBC bank are grouped together.
This process will take place in each of the clearing bank head offices’ clearing
department.
Cheques drawn on other banks or building societies are dealt with in the same system
with one of the clearing banks acting as their agent.
Timing of the clearing system
This whole process of clearing cheques takes three working days in the UK. The implications of
this are as follows:
o When X pays the cheque into his bank account it will be three working days before the
amount credited to his account is technically cleared, and
o When Y gives his cheque to A it will be three working days until Y’s account is debited
even if X pays the cheque into his bank straight away.
Dis honouredcheques
The paying bank may not necessarily pay all cheques. For example, if the cheque is incorrectly
drawn up or the drawer does not have sufficient funds in his bank account then the drawer’s
bank will not pay on the cheque. The cheque will be dishonored. When a customer’s cheque is
dishonored this means that the goods or services supplied have not been paid for.
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Financial Accounting
Types of receipts / Payments
CASH
Transactions may also be paid for by notes and coins. The fact that cash is portable and belongs
to the person holding it is also a disadvantage. It can be lost, destroyed or stolen.
CHEQUES
Cheques are used for a large number of receipts and payments.
CROSS CHEQUES
A cheque is crossed by drawing (or printing) two parallel vertical lines across it. When a cheque
is crossed, the payment has to be made into a bank account. It can not be made in cash.
Most cheques are now printed as a cross cheque and with ‘A/C Payee’ printed between the
vertical lines.
‘A/C Payee’ stands for ‘Account Payee’. When a cheque is crossed with A/C Payee:
It must be paid into a bank account, because it is a crossed cheque, and
It must be paid into the bank account of the person named as the payee on the cheque.
In other words, a cheque crossed A/C Payee cannot be endorsed.
Endorsing a cheque
A cheque may be endorsed by the payee unless it is an ‘A/C Payee’ cheque.
Example: Suppose that Mr. D has written a cheque, payable to F Lee, for $3000. It can be
endorsed by the payee, F Lee writing his signature on the back of the cheque. The cheque can
then be passed to another person to pay it onto their own bank account.
Cheque Guarantee Cards
An individual (but not a business) will often have a bank guarantee card, or cheque guarantee
card. This is a plastic card issued to an account holder by a bank.
A person receiving payments by cheque with a guarantee card should:
Check that the bank guarantee covers the amount of the payment.
Check that the card is still valid, and has not yet reached the expiry dates shown on the
cards.
Write the card’s number on the back of the cheque.
Make sure that the payer has written out the cheque directly.
Standing orders
A standing order is an instruction to the bank by the payer to pay a certain amount on a regular
(usually monthly) to a third party. This removes the need for anymore within the business to
remember to make the payment and to write a cheque.
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Financial Accounting
Direct Debits
A bank can also pay a third party on behalf of a customer by a direct debit. This is very similar to
a standing order, the main difference being that it is the receiving business that initiates the
direct debit and specifies the amount. Also, the amount and frequency of payment can vary
each time.
Credit Transfer
A credit transfer is a further method of instructing a bank to make a payment to a third party.
This is usually done by the customer filling out a credit transfer form in favor of the third party.
This method of payment is suitable for one off payments or irregular payments to suppliers,
credit transfer forms are often found attached to bills such as gas, electricity, and telephones.
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