Bank Drafts: A Brief Guide for a Reliable Financial Tool
In finance, bank drafts are a reliable and secure method for transferring funds. Although they may not enjoy the same level of attention as modern digital payment systems, their importance in financial transactions remains undisputed.
In this blog, we will cover the intricacies of bank drafts, covering what they are, how to obtain and cash them, the ways you can use them and the various types available to you.
Table of Contents
- What is a Bank Draft?
- What are the Key Benefits of Bank Drafts?
- How Does Someone Get a Bank Draft?
- How Does the Recipient Cash a Bank Draft?
- What are the Different Types of Bank Drafts?
- Bank Drafts and Cheques: What is the Difference?
- Bank Drafts and Money Orders: What is the Difference?
- Common Uses for Bank Drafts
- A Brief Guide to Bank Drafts: A Summary
What is a Bank Draft?
A bank draft, also known as a banker's draft, is a secure financial tool issued by a bank or regulated financial institution. It ensures that the recipient will receive a specified amount of funds without the risk of non-payment.
When an individual or organisation requests a bank draft, the finance provider immediately debits the corresponding amount from the requester's account and places it in its reserves, effectively safeguarding the funds. A bank draft will then be prepared with the sender's name, the amount being transferred/paid, watermarks and a unique serial number.
Once the bank draft is issued, it becomes payable to the designated recipient, with the issuing finance provider guaranteeing the payment. By providing a commitment to payment, bank drafts serve as a trusted option for large money transfers (domestic and international) and critical transactions.
Note: Bank drafts differ from personal cheques (we'll go into this more below!), which depend on the availability of funds in the sender's account, carrying the risk of bouncing.
What are the Key Benefits of Bank Drafts?
For individuals or businesses dealing with large domestic transactions or significant international payments, bank drafts offer unparalleled advantages:
The Reliability of Bank Drafts
The issuing bank or finance provider (in partnership with a bank) guarantees payment, ensuring that the payee can confidently accept the draft without concerns about insufficient funds or bounced checks.
Prestige and Professionalism
The formal nature of a bank draft often conveys credibility, making it ideal for significant transactions like real estate purchases abroad or corporate deals.
Bank Drafts can be Used Globally
Bank drafts are widely accepted across borders, making them a practical choice for international payments or dealings with foreign institutions.
Enhanced Security
With stringent verification processes during issuance, bank drafts provide a level of protection against fraud that is superior to many other payment methods.
How Does Someone Get a Bank Draft?
Obtaining a bank draft is a simple yet important process that involves a few key steps.
By following the steps below carefully, those looking to get a bank draft and ensure a transaction is accurate and secure can be done.
Step One: Visit Your Bank or Utilise a Regulated Finance Provider
The first step is to visit a branch of your bank or to avoid fees charged by Banks to issue bank drafts directly, use regulated financial institutions who, through their established banking relationships, can issue bank drafts more cost-effectively.
Step Two: Provide Identification and Account Details
You'll need to provide identification and specify the account from which the funds will be withdrawn. In cases where online services are available, authentication through secure login details will suffice.
Step Three: Specify the Amount and Payee
You will need to clearly state the amount of the draft and the name of the recipient. Ensure you are accurate here, as any errors could delay the transaction. The bank will ensure you have enough money to cover the amount requested before withdrawing the money from your account and transferring it into the bank's reserve.
Step Four: Pay the Fee
Most banks and online services charge a fee for issuing a bank draft. This fee may vary depending on the amount you are sending and the destination you are sending it to e.g. domestic or international.
Many banks will charge a % of the amount you're looking to transfer, which, again varies but it can be around 1-4%. This fee can be significant if you're looking to transfer a large amount of money overseas, using a bank draft, with your regular bank here in the UK.
Step Five: Receive the Draft
Once processed, you'll receive the physical bank draft, which can be delivered to the recipient for payment.
Note: When you purchase a bank draft, the funds are immediately withdrawn from your account, effectively making the issuing bank the payer.
How Does the Recipient Cash a Bank Draft?
As a recipient, cashing a bank draft is a straightforward process that ensures secure access to funds while maintaining safeguards against potential fraud.
Step One: Deposit at a Bank
The recipient can deposit the bank draft into their account. You should be aware that banks may require some form of identification to verify the legitimacy of the transactions.
Step Two: Wait for Clearance
Although funds are guaranteed, some banks may place a temporary hold on the draft to confirm authenticity, particularly for larger transactions or international bank drafts.
Step Three: Access the Funds
Once cleared, the funds will be credited to the recipient's account and made available for use.
What are the Different Types of Bank Drafts?
Bank Drafts for Domestic Money Transfers
Bank Drafts can be used for transactions within the same country. For example, a small business owner purchasing inventory from a supplier in the same city might use a domestic bank draft for a payment of £10,000.
This ensures the supplier receives secure and guaranteed funds promptly, facilitating a smooth and trusted business transaction without the complexities or additional fees that are more commonly associated with international bank draft payments.
Bank Drafts for International Money Transfers
International bank drafts are issued in foreign currencies for transactions that cross national borders.
These drafts are commonly used for international business or overseas real estate. For example, a company in the United States importing machinery from a supplier in the UK might issue an international bank draft in GBP for £50,000. This ensures that the UK supplier receives the guaranteed funds in their local currency, avoiding complications with exchange rates or the risk of payment failure.
Similarly, a person or couple looking to move/buy property abroad may utilise an international bank draft for a deposit, or, final payment, ensuring that funds are transferred securely (but be mindful of the fees!)
Bank Drafts and Cheques: What is the Difference?
While not exactly a bank draft, certified cheques offer a similar guarantee of funds, as they are certified by the issuing bank.
For example, if an individual is purchasing a pre-owned car from a private seller for £15,000, they may choose to use a certified cheque. The bank certifies the cheque by verifying that the amount is available in the individual's account at the time of issuance, and it places a hold on the funds. Cheques and bank drafts are both instruments for transferring money, however, there are key differences you should be aware of:
Fund Guarantees
Cheques are drawn directly from the payer's account and could bounce if there are insufficient funds. On the other hand, bank drafts are backed by the bank, thereby ensuring payment.
Processing Time
Bank drafts often clear more quickly than cheques because they are considered a higher secure payment.
Fees
Issuing a cheque typically has no direct cost, whereas bank drafts usually come with a % fee of the transferred amount.
Usage
Bank drafts are generally preferred for large or important transactions because of the guarantee they offer, while cheques are more commonly used for everyday transactions.
Bank Drafts and Money Orders: What is the Difference?
Money orders are prepaid financial instruments available through banks, post offices and other vendors. Money orders are typically used for smaller money transfers/transactions, often having maximum limits of around £1,000 in many locations.
They are a convenient option for individuals without bank accounts or for transactions that don't need a higher level of security or international reach.
Although bank drafts offer clear advantages for larger, more secure transactions, money orders still have their place. For those needing to make smaller transfers, money orders do provide a simple, accessible, and depending on the vendor, cost-effective solution.
Common Uses for Bank Drafts
Real Estate Transactions
When purchasing property domestically, or overseas, Buyers often use bank drafts to pay deposits or closing costs.
Large Purchases
For items such as cars or high-value electronics, bank drafts offer a secure method of payment.
Business Deals
Companies may use bank drafts to settle large invoices or international payments.
Educational Expenses
International students or their sponsors frequently use bank drafts to pay for their tuition fees.
Settlements and Legal Payments
Bank drafts are preferred for paying court-ordered settlements or large legal fees.
Here is a summary of some common reasons people may use a bank draft:
- To ensure a transaction is secure when the seller has no relationship with the buyer, or vice-versa.
- To secure large payments, such as a down payment on a home, car or holiday property.
- To ensure a transaction is secure when you have reason to believe collecting payment may be difficult.
- To secure large payments abroad.
A Brief Guide to Bank Drafts: A Summary
Bank drafts remain a vital financial tool, particularly for transactions that demand security and assurance.
Whether used for buying a house, settling a business deal or managing international payments, they offer unparalleled reliability. While newer digital payment methods are gaining ground, the traditional bank draft holds its own in situations where guarantees and formalities are paramount.
Understanding the nuances of bank drafts can empower individuals and businesses to make informed financial decisions with confidence.
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