Demystifying Cash Credit and Overdraft: Understanding the Basics

In the realm of banking and finance, terms like “cash credit” and “overdraft” are commonly used but often misunderstood. While both serve as financial instruments provided by banks to individuals and businesses, they serve distinct purposes and come with unique features. In this blog, we’ll delve into the fundamentals of cash credit and overdraft, clarifying their definitions, functionalities, and differences to help you make informed financial decisions.

Cash Credit

Cash credit, also known as a cash advance, is a type of short-term loan facility extended by banks to businesses based on their creditworthiness. It allows businesses to withdraw funds up to a specified credit limit as and when needed, similar to a line of credit. Here’s how it works:

  • Credit Limit: The bank sets a maximum credit limit based on the borrower’s creditworthiness, financial standing, and collateral provided (if any).
  • Withdrawal: Borrowers can withdraw funds from their cash credit account as per their requirements, up to the approved credit limit.
  • Interest Charges: Interest is charged only on the amount withdrawn and for the duration it remains outstanding. Interest rates may be variable or fixed, depending on the terms of the agreement.
  • Repayment: Repayment terms vary but typically involve periodic interest payments and principal repayment at regular intervals or upon maturity.


An overdraft is a financial arrangement provided by banks that allows individuals or businesses to withdraw funds from their current account even when the account balance is zero or negative. It serves as a short-term borrowing facility to cover temporary cash flow shortages. Here’s how it works:

  • Approval: The bank approves an overdraft facility for the account holder, specifying a maximum overdraft limit.
  • Usage: Account holders can withdraw funds up to the approved overdraft limit, even if there are insufficient funds in the account.
  • Interest Charges: Interest is only assessed on the overdraft amount for the time that it is outstanding. Interest rates may vary and are typically higher than those for conventional loans.
  • Repayment: The overdraft facility is repayable on demand by the bank, although repayment terms may vary depending on the agreement. Repayment may involve periodic interest payments or the repayment of the entire overdraft amount at once.

Key Differences

While cash credit and overdraft may appear similar, they differ in several key aspects:

  1. Purpose: Cash credit is typically used by businesses to finance working capital needs, while overdraft is often used by individuals or businesses to cover short-term cash flow gaps.
  2. Collateral Requirement: Cash credit may require collateral, such as inventory, receivables, or property, whereas overdrafts may or may not require collateral, depending on the borrower’s creditworthiness.
  3. Interest Calculation: Interest on cash credit is calculated on the amount withdrawn, while interest on overdraft is calculated on the amount overdrawn.
  4. Usage Flexibility: Cash credit offers more flexibility in terms of usage, allowing borrowers to use funds for various purposes within the approved credit limit, whereas overdraft is primarily used for covering immediate expenses or payments.


In summary, cash credit and overdraft are valuable financial tools provided by banks to meet the short-term funding needs of businesses and individuals. While they share similarities, such as providing access to funds when needed, they serve distinct purposes and come with unique terms and conditions. Understanding the differences between cash credit and overdraft can help you choose the right financial instrument to address your specific needs and manage your finances effectively.