Why Bank Guarantee is Important for Business Loan in UAE?

By Sakshi Srivastava - 03 Feb 2022 Last Updated: 05 Jul 2022
Why Bank Guarantee is Important for Business Loan in UAE?

In some manner, risk is a part of every business. As a result, business partners frequently employ a bank guarantee to assure the security of negotiated agreements. A bank assumes a duty to pay a predetermined amount of money to the customer if the contractor fails to meet the contract's requirements, according to such a document. In this Blog, we are going to talk about why a Bank guarantee is important for Business Loan in UAE.

What is Bank Guarantee?

A bank guarantee is, in fact, a loan product, but it is significantly less expensive than a cash loan. Banks, on the other hand, charge a commission fee in this situation, which is normally a percentage of the transaction amount.

A bank guarantee is a promise by a commercial bank to accept liability for a specific debtor if the bank's legal agreements are not satisfied. In other words, the bank offers to act as a guarantor in a transaction on behalf of a business customer. Most bank guarantees come with a fee that is a tiny proportion of the whole contract value, usually 0.5 to 1.5 percent of the guaranteed amount.

The service of a bank guarantee in the UAE or elsewhere is appealing because it eliminates transaction risks and ensures the complete fulfillment of contract commitments.

The following are the parties to the bank guarantee:

  • Beneficiary – a natural or legal person (client) who requests payment and receives the requested amount from the bank.
  • The Borrower (principal) is the one who initiates the bank guarantee.
  • A Guarantor is a financial institution (bank, insurance company) that agrees to make a payment to the person named in the agreement as soon as a payment request is received.

Bank guarantees are advantageous not just to business owners, but also to banks. They do not demand immediate monetary coverage, unlike a loan. Furthermore, such payments on guarantees may be postponed for a period of time or become unnecessary altogether. A commission fee is payable mandatorily and in full for the supply of such guarantees.

Various Forms of Bank Guarantees available in the UAE

Depending on the characteristics of a transaction, the following types of bank guarantees are distinguished:

Payment guarantee

It assures prompt payment for products or services delivered.

Tender Guarantee (Tender Bond)

It assures that payment requirements are met if a subsequent tendered refuses to cooperate (cancels the application, refuses to sign a contract, etc.).

Tax and Customs Guarantees

It ensures that the tax and customs authorities are met with their commitments.

Advance Payment Guarantee

It assures that the advance payment is refunded if the transaction's terms are not met in terms of time or volume.

Performance Guarantee

It ensures that all services, jobs, or goods deliveries are completed in full and on schedule.

A guarantee might be granted by the UAE bank or by another financial institution. It's a straight bank guarantee in the first situation and a counter-guarantee in the second.

A bank guarantee might be Conditional or Unconditional, depending on the terms of monetary payment.

Conditional Guarantee

A payment is made in the case of a conditional guarantee if the beneficiary submits a written request and the principal produces a document proving the principal's compliance with his or her responsibilities.

Unconditional Guarantee

If a bank guarantee in the UAE is unconditional, the beneficiary's written request is sufficient to make the payment.

Obtaining a Bank Guarantee

Individuals can also apply for bank guarantees, which are not limited to commercial customers. Businesses, on the other hand, obtain the vast bulk of guarantees. Bank guarantees are not difficult to obtain in the majority of circumstances.

To obtain a guarantee, the account holder contacts the bank and completes an application that specifies the amount of the guarantee as well as the grounds for it. Typical applications specify the length of time the guarantee should be valid, any particular payment circumstances, and information on the beneficiary.

The bank may request collateral from time to time. This can take the form of a pledge agreement for assets like stocks, bonds, or cash. In most cases, illiquid assets are not acceptable as collateral.

Who Uses Bank Guarantees and How Do They Work?

There are a variety of bank guarantees available, including:

  • Guarantees of performance
  • A bid bond protects you against losing your bid.
  • Guarantees of funds
  • Payment guarantees in advance or postponed

Bank guarantees are frequently included in contracts between a small business and a large institution, whether governmental or private. The larger business wants to protect itself from counterparty risk, so it seeks a bank guarantee from the smaller partner before starting operations.

Bank guarantees can be used by a variety of parties for a variety of reasons:

  • Assure a seller that the agreed-upon purchase price will be paid on a specified date.
  • Serve as security for reimbursing a buyer's advance payment if the seller fails to deliver the products stipulated in the contract.
  • A credit security bond that acts as a guarantee for the repayment of a loan.
  • A rental guarantee is a piece of collateral used to secure the payment of a rental agreement.
  • A confirmed payment order is an irrevocable obligation in which a bank pays a specified sum to a specified beneficiary on a specified date on behalf of the customer.
  • A performance bond is a sort of insurance that covers the buyer's costs if services or commodities are not delivered as promised.
  • A warranty bond serves as collateral, ensuring that ordered products are delivered on time.

Differences between Bank Guarantees and Letter of Credit

In international commercial agreements, letters of credit are commonly employed, but bank guarantees are frequently used in real estate contracts and infrastructure projects.

For banks, bank guarantees are a far more important commitment than letters of credit. A bank guarantee, like a letter of credit, assures a sum of money to a beneficiary; but, unlike a letter of credit, the sum is only paid if the opposing party fails to meet the contract's stated responsibilities. This can be used to protect a buyer or seller against loss or damage caused by the other party's failure to comply under a contract.

Conclusion

Use guarantees and standby letters of credit to conduct business with confidence, even if you don't have any established ties. Dhanguard could help you negotiate better prices with buyers and suppliers by safeguarding them against contract non-performance while also fulfilling your financial requirements. On request, Dhanguard provides customized solutions such as performance, advance payment, tender, warranty, financial guarantees, and standby letters of credit, among others.

Grow your business with business loan, term loan, capital loan available at attractive interest rates and minimum documentation with no hidden cost with Dhanguard.

By Sakshi Srivastava

03-Feb, 2022

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