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Sunday, 8 May 2011

What is interest? Distinguish between Net interest and Gross interest


Definition of Interest :-
Btach says, " Interest is the price paid for the use of money or credit."

Estham says, " Interest is the payment for parting with the advantages of liquid control of money balances."

In simple words we can say that the price paid by the borrower to the lender for the use of money, during a certain period , is called interest.

Net Interest :-
Net is the payment for the services of loanable funds only.

Gross Interest :-
Gross interest is composed of the following elements :

1. Net Interest

2. Insurance against risk :-
Whenever any person lends the money he under takes risk. So he demands an excess payment as insurance to cover the risk. It is included in gross interest.

3. Untimely repayment :-
Sometimes a borrower may repay the money at that time when it is not possible to use it for profitable investment.

4. Need to the lender :-
Sometimes lender himself is in need of money at any time, but he can not use it until it is returned. So he will have to borrow from other person. This disturbance allowance will also be included.

5. Office maintenance :-
A lender also maintains the offices and employs clerks and staff. So those expenditures will also be included in the gross interest.

6. Stationary expenditure :-
A lender or banker also spends a money on stationary , so it is also included in the gross interest.

7. Remuneration for services :-
The entrepreneur performs so many services, like administrative and technical, so a reward of these services will be included in it.

8. Conveyance expenditure :-
Sometimes a borrower lives at a long distance and lender has to visit for the repayment of loan. So a lender uses the motor car or motorcycle. This expenditure is included in the gross interest.

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