Bank Guarantee:
A Complete Process for Students, Entrepreneurs & Banking Awareness Readers. (Only for educational purpose)

What is a Bank Guarantee (Meaning)
Definition:
A Bank Guarantee is a legal promise issued by a bank assuring that the bank will pay a specified amount of money to a third party (beneficiary) if the bank’s customer (applicant) fails to fulfil a contract or obligation.

In simple words:
👉 Bank becomes a guarantor for its customer.
👉 If the customer defaults, the bank pays.
👉It is a safety net for the beneficiary.

Example:

Applicant: ABC Constructions Pvt. Ltd.

Beneficiary: Public Works Department (PWD)

ABC wins a tender and needs to deposit a Performance Guarantee of ₹20 lakh.

ABC requests its bank to issue the BG to PWD.

If ABC fails to complete the project, PWD can claim ₹20 lakh from the bank.

This ensures that beneficiaries are protected from financial loss.

⭐Parties Involved in a Bank Guarantee
Every bank guarantee involves three main parties:

1. Applicant (Customer / Debtor)

The person or company requesting the bank guarantee.
They must have an account and financial standing with the bank.

Example: Contractor, importer, exporter, supplier, bidder.

2. Beneficiary

The person or organisation in whose favour the bank guarantee is issued.

Example: Government departments, companies, exporters, project owners.

3. Issuing Bank

The bank that commits to pay the beneficiary if the applicant fails.

⭐ Why Bank Guarantees Are Important.

👉 Builds trust between two parties
👉 Ensures smooth business transactions
👉Prevents financial risks
👉 Required in tenders, trade deals, and large contracts
👉 Strengthens business credibility
👉 Helps companies avoid advance payments

A BG is a powerful tool in both domestic and international commerce.

⭐ Types of Bank Guarantees.

Bank Guarantees are divided into several categories based on purpose.
Below are the main types commonly used in India:
1. Financial Guarantee

This ensures payment of money if the applicant fails.

Example:

A supplier delivers goods worth ₹10 lakh to a buyer.
The bank issues a Financial BG assuring that if the buyer does not pay, the bank will.

2. Performance Guarantee

This ensures performance of a contract, such as completing a project or fulfilling quality standards.
Example:

A construction company must build a road in 6 months.
If it fails, the government can encash the Performance BG.

3. Bid Bond / Earnest Money Deposit (EMD) Guarantee:
Issued during tender submission instead of depositing EMD.

Example:

A bidder submits a BG of ₹5 lakh instead of paying EMD in cash.

4. Advance Payment Guarantee

When a beneficiary gives advance money, they require a BG to ensure repayment if the applicant does not perform the contract.

Example:

A company receives ₹10 crore as advance to supply machinery.
The buyer takes an Advance BG to secure the amount.

5. Shipping Guarantee

Issued to release cargo when the original shipping documents are delayed.

Example:

Importer needs goods urgently but documents haven’t arrived .
Bank issues a Shipping Guarantee to the port authority.

6. Foreign Bank Guarantee (FBG)
Used in international trade, offered through correspondent banks.

Example:

An Indian importer buying equipment from Germany may need an FBG.

7. Deferred Payment Guarantee
👉Used when goods are purchased on credit and payment will be made later.
👉Example:
An industrial buyer purchases machinery with 3-year installment terms.

How Does a Bank Guarantee Work.(Step-by-Step Process)

⭐BG issuance process:

1. Applicant submits request to the bank
They provide:
👉Application form
👉Contract copy / tender document
👉Board resolution (for companies)
👉Financial statements
👉Required collateral/security

2. Bank does credit assessment
Bank checks:
👉Applicant’s financial stability
👉Past repayment history
👉Project/contract authenticity
👉Risk level

3. Security / Margin Money

Bank may ask for:
👉Cash margin (5%–25%)
👉Fixed Deposit
👉Property mortgage
👉Hypothecation of assets

⭐Margin depends on:
👉CIBIL score
👉Business reputation
👉Value of BG
👉Type of guarantee (financial has higher margin)

4. Bank prepares the Bank Guarantee document
It includes:
👉BG number
👉Applicant name
👉Beneficiary name
👉Amount
👉Validity period
👉Terms & conditions

5. Bank issues BG
Issued through:
👉Paper format
👉SWIFT message
👉Structured Financial Messaging System (SFMS) to beneficiary’s bank
6. Beneficiary verifies BG.
Usually done via:
👉Email confirmation
👉Branch verification
👉NEFT/IFSC/SFMS confirmation

7. Claim / Invocation Process.
👉If the applicant defaults, the beneficiary submits a written claim.
👉Banks must honour a claim if it is:

👉Within validity

👉Written as per terms

👉Signed by authorised beneficiary
👉Banks cannot refuse payment unless fraud is proven by court.

⭐Example of a Bank Guarantee .
Scenario:
Company A receives an order from Company B to supply goods.
Company B asks for a Performance Guarantee of ₹25 lakh.

Explanation:

Applicant: Company A

Beneficiary: Company B

Guarantee Amount: ₹25,00,000

Validity: 12 months

Purpose: To ensure Company A supplies goods as per contract

If Company A fails → Company B can claim ₹25 lakh from the bank.

⭐Real-Life Example in Government Tender

A contractor receives a Work Order for road construction.
The department asks for a 5% Performance Guarantee.

Project Cost = ₹50 crore

Performance Guarantee = ₹250 lakh

Contractor goes to the bank → submits documents → bank issues BG → contractor submits BG to the government.
If work is incomplete, the government can encash the BG.

⭐Charges & Fees for Bank Guarantee Charges vary by bank and depend on:
👉BG amount
👉Validity period
👉Security offered
👉Risk category Components:
👉 Issuance fee
👉 Processing fee
👉 Commission (0.75% – 3% per year)
👉 Stamp duty
👉 Amendment charges (for extension or change)
👉Depends on Bank limited o bank

⭐Risk Factors of Bank Guarantees
For Banks

👉Non-payment by customer
👉Fraudulent documents
👉Contract disputes
👉Sudden financial failure of applicant
👉For Beneficiaries
👉Fake BGs (counterfeit cases)
👉Delayed verification
👉Expired BGs during disputes:

⭐For Applicants:

👉Large margin requirement
👉Risk of BG invocation
👉Impact on credit score

⭐ Advantages of Bank Guarantee

For Applicants
👉Enhances credibility
👉Helps win contracts
👉Reduces need for advance payment
👉Builds trust in market
👉For Beneficiaries
👉Ensures financial security
👉Protects from default
👉Encourages timely performance

⭐Frequently Asked Questions (FAQ) on Bank Guarantee

1. What is the minimum and maximum amount for a Bank Guarantee.

👉There is no fixed limit.
It depends on the bank’s policy and applicant’s creditworthiness.
Even small guarantees like ₹50,000 to large guarantees of ₹500 crore may be issued.

2. Is Bank Guarantee the same as a Letter of Credit (LC).

👉No.
Reason: Feature Bank Guarantee Letter of Credit
Responsibility Bank pays only if applicant defaults      Bank ensures payment irrespective of buyer default
Usage Tenders, performance, projects Import/export, goods purchase

3. Can a Bank Guarantee be revoked?
A BG cannot be revoked unilaterally.
It ends only when:
👉Validity expires
👉Beneficiary returns original BG
👉Claim is settled

4. How long is a BG valid.
👉 Common validity: 6 months to 5 years depending on project needs.

5. What is e-Bank Guarantee.
An electronic BG issued via:
👉SFMS
👉NeSL Digital Guarantee Platform
⭐This reduces fraud and speeds up processing.

6. Can a beneficiary invoke the guarantee without proof.

👉Yes, most BGs are unconditional, meaning the bank must pay without question upon proper invocation.
However, if fraud is proven, courts can stop payment.

7. What is margin money in a Bank Guarantee:
👉The applicant deposits a percentage (5% to 25%) as security.
Higher risk → higher margin.(Bank risk factor as per clients)

8. What documents are required for BG issuance?
Typical documents include:
👉Application form
👉Contract / tender copy
👉    GST, PAN
👉Financial statements
👉KYC documents
👉Board resolution (company)
👉Collateral documents

9. Can a Bank Guarantee be extended

👉Yes, by issuing an amendment with updated expiry date.
Charges apply.

10. What happens if the BG expires
👉Once expired:
Bank has no liability unless a claim is submitted before expiry.

11. Can individuals get a Bank Guarantee:
Yes, but only with:
👉Adequate collateral
👉Strong financial history
👉Common for property deals, education institutions, court matters.

12. What is Bank Guarantee invocation

👉It means the beneficiary sends a written claim requesting payment.
Bank must pay within the timeframe stated in BG terms.

13. What is the difference between conditional and unconditional BG?

⭐.  Type.                       Meaning

👉Conditional BG: Bank pays only if conditions are fulfilled
👉Unconditional BG :Bank pays immediately on claim

👉Most government tenders use unconditional BGs.

14. Can a fake Bank Guarantee be detected?

Yes, through:

👉SFMS confirmation

👉Direct bank branch verification

👉Unique BG numbers

👉Digital BG platform

15) Is GST applicable on BG commission?
Yes, 18% GST is applicable on bank commission charges.

👉 Conclusion: Why Bank Guarantees Matter Today

Bank Guarantees are a backbone of the modern financial and commercial ecosystem. In a world where trust and financial security are essential for business transactions, BGs offer a structured, reliable, and legally enforceable assurance.

For entrepreneurs, contractors, and businesses, mastering the concept of Bank Guarantees can help:

Win large contracts

Manage risks

Build professional credibility

Expand business operations
Understanding its meaning, process, and legal importance ensures smooth business functioning and protects all parties involved.