Definition
A demand draft is a financial instrument used by individuals or organizations to make transfer payments from one bank account to another. It is essentially a pre-paid negotiable instrument, wherein the drawee bank or financial institution promises to pay a certain amount to the payee on demand. It is a secure method of transferring funds as the amount is paid in advance, decreasing the risk of payment failure.
Phonetic
The phonetic spelling for “Demand Draft” is /dɪˈmænd drɑːft/.
Key Takeaways
<ol><li>Demand Draft is a pre-paid negotiable instrument, wherein the drawee bank undertakes to pay a certain sum of money to the payee or the beneficiary. The bank issues a demand draft to a client (drawer), directing another bank (drawee) or one of its own branches to pay a certain sum to the specified party (payee).</li><li>A Demand Draft is considered a more secure method of payment than a cheque as it cannot be dishonored. It is drawn by a bank on itself and payment is done from its own account, hence, it is always honored.</li><li>To obtain a Demand Draft, you need to provide necessary details like the name of the payee, amount of payment, name and branch of the drawee bank. You will have to pay the bank the amount of DD in addition to service charge that it levies for the service.</li></ol>
Importance
A Demand Draft is a crucial tool in business and finance because it guarantees the availability of funds during a transaction. This pre-paid negotiable instrument provides security as it is issued by the bank and provides assurance that the payment will be made as the money is withdrawn from the issuer’s account when the draft is prepared. This makes the instrument less risky compared to a standard check. It is commonly used for transferring money from one bank account to another, especially in international transactions. The absence of time lag in the clearing process and the impossibility of bouncing due to insufficient funds make it a preferred method for secure and reliable transfers. The dependability and safety associated with a demand draft are crucial in maintaining smooth and secure operations in the business and finance world.
Explanation
A Demand Draft, typically used for transferring funds, serves the purpose of ensuring safe and hassle-free transactions. Notably, it’s a method preferred by many business entities and individuals while making high-value transactions, either domestically or internationally due to its reliability. In essence, a Demand Draft commits the amount to be paid by the issuing bank on behalf of the payer to the payee, therefore eliminating the risk of payment failure. Higher security makes it a trusted means for monetary transfers, particularly in dealing spaces where the involved parties do not have mutual trust.Furthermore, a Demand Draft is widely used for making payments for college fees, tender documents, and other similar instances where a large amount of money is involved. A unique aspect of a Demand Draft is that it is not bound by the geography of the issuing bank branch, meaning the payee can encash it from any location. This makes it an extremely convenient and favored tool for remote transactions and dealings that are of substantial monetary value. More so, as it is issued by the bank itself, it doesn’t require signature validation, reducing the chances of fraud and enhancing security.
Examples
1. International Trade: Demand drafts are commonly used in international trade transactions. For example, a business based in the United States may purchase goods from a supplier in China. To ensure that the payment is received securely and promptly, the American business can opt to issue a demand draft instead of a regular check. This removes the risk of the check bouncing due to insufficient funds, providing the Chinese supplier with guaranteed payment.2. Education Fees: Many universities and colleges around the world accept fee payments via demand drafts. For instance, an Indian student, attending college in the UK might use a demand draft to pay their tuition fees. Here, the demand draft is prepared by a banking institution in India and it is then made payable to the UK college. This offers a secure method of payment, eliminating the need for carrying large amounts of cash or personal checks.3. Real Estate Transactions: Demand drafts are often used in real estate transactions too. If someone from Canada is buying property in Australia, they might use a demand draft for the down payment, allowing the real estate developer or seller in Australia to receive immediate funds with no delay in clearance. This not only ensures a quick process but is also a reliable and safe mode of financial transaction.
Frequently Asked Questions(FAQ)
What is a Demand Draft?
A Demand Draft, also known as a bank draft, is a financial instrument that banks or financial institutions issue on behalf of the payer to the payee, promising that the mentioned amount of funds will be paid on demand. It functions as a pre-paid negotiable instrument, assuring the payee a secure form of payment.
How does a Demand Draft work?
When a payer requests a demand draft from a bank, the bank transfers funds from the payer’s account into its own account, becoming the primary party responsible for payment. When the payee presents the demand draft to their bank, they receive the funds that the bank had initially set aside.
How is a Demand Draft different from a cheque?
Unlike a cheque, a demand draft is more secure, as the bank guarantees its payment. Unlike the cheque, funds are deducted from the account at the time of the creation of the demand draft, reducing the risk of bounce due to insufficient funds.
What information is required to issue a Demand Draft?
The following information is typically needed to issue a Demand Draft: The name of the payee, the amount of funds to be transferred, the date of issue, and the name of the issuing bank.
Can a Demand Draft be cancelled?
In certain circumstances, yes, the drawer who has requested for the draft can seek cancellation. However, the bank may levy charges for cancelling a demand draft, and there may be other bank-specific policies to consider.
How long is a Demand Draft valid for?
The Reserve Bank of India (RBI) has removed the expiry period for Demand Drafts. It is up to the bank’s discretion to decide how long the drafts are valid.
Can a Demand Draft be made in favor of a minor?
A demand draft can be made in favor of anyone, including a minor. The bank will transfer funds to the guardian or parent’s account.
What is the role of Demand Draft in business finance?
Demand drafts are often used in business for large payments as it assures the recipient of the payment due to the bank’s obligation to pay. It removes the risk of cheque bounce or non-payment.
How can I get a Demand Draft?
You can get a Demand Draft by visiting any branch of your bank. You will need to fill out a form with necessary details and pay the amount the draft is to be made for, plus any applicable fees.
: Can a Demand Draft be crossed?
Yes, like cheques, demand drafts can be crossed, which means they can only be deposited directly into a bank account and not instantly converted into cash at a bank counter. This provides an additional layer of security to the funds.
Related Finance Terms
- Drawee: The individual or entity, often a bank, that is expected to pay the demand draft.
- Drawer: The person who creates and issues the demand draft.
- Payee: The person who is expected to receive the payment from the demand draft.
- Negotiable Instrument: A legal document of specific monetary value that guarantees payment of a specific amount of money.
- Clearing House: A financial institution that provides clearing and settlement services for financial transactions, typically related to demand draft clearing.
