Fund-Based vs Non-Fund-Based Limits: The Whole Debt Stack

Every corporate banking sanction in India splits into two buckets, and confusing them is one of the costliest mistakes a finance team can make. Fund-based limits are facilities where the bank actually parts with cash — term loans, cash credit, overdraft, structured debt. Non-fund-based limits are facilities where the bank lends its name and undertaking, not its money — letters of credit and bank guarantees — and only pays out if a defined event occurs. Fund-based money hits your account; non-fund-based facilities sit off your books until a trigger fires. Sized and sequenced together, they form the whole debt stack a working business runs on.

This guide lays out the full stack — what each limit does, who pays under it, and how the fund-based spine (term loan and CC/OD) connects to the non-fund-based layer (LC and BG). If you are arranging or enhancing limits, start with the corporate finance and debt syndication overview, then use this as the map of how the pieces fit. The neutral, ex-banker answer most lender pages won’t give you: you don’t choose fund-based or non-fund-based — a well-built file uses both, deliberately.

Fund-based vs non-fund-based: the core distinction

The cleanest way to tell the two apart is to ask one question — does the bank disburse cash, or does it issue an undertaking?

A fund-based facility is a deployment of the bank’s own funds. The bank books an asset, charges interest from day one of utilisation, and carries full credit risk the moment money moves. A non-fund-based facility is a contingent liability — the bank issues a bank guarantee or a letter of credit, charges a commission for standing behind you, and only converts to a funded exposure (a “devolvement”) if the underlying event occurs: a default under a BG, or a payment falling due under an LC that you cannot meet.

That difference drives everything downstream — pricing (interest vs commission), how the limit appears in your books, margin requirements, and how the bank assesses risk.

Indicative structure — exact terms, margins and pricing are borrower- and case-specific (Jun 2026).

The fund-based spine: term loan and CC/OD

Fund-based limits are the backbone because they put actual liquidity into the business. They divide cleanly by purpose.

A term loan funds long-dated assets — plant, machinery, building, an acquisition — and is repaid over a fixed schedule against the cash flows those assets generate. It is sized on debt-service capacity, with a DSCR of around 1.5x a common comfort level (defined here as net cash accruals available for debt service divided by total debt obligations). For most corporates the rate is MCLR-linked, not repo-linked — the EBLR external-benchmark regime is mandatory only for retail and MSE/MSME floating loans since 1 October 2019. SBI’s MCLR sits around 7.9–8.85% (indicative, Jun 2026) against a repo rate of 5.25%.

A cash credit or overdraft funds the working-capital gap — the operating-cycle funding that trade credit doesn’t cover — and revolves: you draw and repay as the cycle turns, paying interest only on the utilised balance. The sanctioned limit is a ceiling set by the Maximum Permissible Bank Finance calculation. What you can actually draw on a given day is governed by Drawing Power — (stock − margin) + (book debts − margin) − creditors — recalculated monthly. Crucially, Drawing Power is not the sanctioned limit; a stretched receivables cycle quietly shrinks what you can draw even when the sanctioned limit is untouched. For the full mechanics, see cash credit and working capital.

Structured and mezzanine facilities round out the fund-based stack for cases plain bank debt won’t reach — event-linked, subordinated or acquisition debt, typically from NBFCs or SEBI-registered AIFs at higher pricing in exchange for bespoke structure.

The non-fund-based layer: LC and BG

Non-fund-based limits are where finance teams most often get the concepts wrong — and where an LC is not a BG. They do different jobs, and they trigger differently.

A letter of credit is a payment instrument. It substitutes the bank’s creditworthiness for yours in a trade transaction: your supplier ships, presents compliant documents, and the bank pays on those documents. LCs are governed by UCP 600 (ICC Publication 600, 39 articles), under which a bank has a maximum of five banking days to examine a presentation. Types run sight or usance, inland or foreign, with SBLCs under UCP 600 or ISP98. One India-specific guardrail: where they conflict, RBI and FEMA rules override UCP 600.

A bank guarantee is a default instrument. The bank does not pay in the ordinary course — it pays only if you default on the underlying obligation. BGs split into financial guarantees (securing a payment obligation) and performance guarantees (securing performance of a contract); RBI’s Master Circular on Guarantees and Co-acceptances prefers financial guarantees and cautions banks on performance ones. No open-ended BGs are permitted, commission runs over the validity plus claim period, and the validity period and claim period are distinct — the validity is when the guarantee is live, the claim period is the window after expiry within which a beneficiary can still lodge a claim. The margin a bank requires is bank-policy and case-specific — there is no universal “50% margin.” What you sign is a counter-indemnity.

The one-line test: an LC pays on compliant documents; a BG pays on default. Never equate them.

How the buckets connect — and why margins matter

The two layers aren’t independent. A non-fund-based facility can devolve into a fund-based one: if you can’t reimburse the bank when an LC matures, the LC crystallises into a funded liability — often debited to your cash-credit account. That single mechanism is why banks assess your fund-based and non-fund-based limits as one combined exposure, not two silos.

It is also why a credible alternative to a BG matters. An insurance surety bond — under the IRDAI (Surety Insurance Contracts) Guidelines 2022, effective 1 April 2022, and placed on par with bank guarantees in government procurement under GFR 2022 — is an insurance contract that does not consume your bank non-fund limits. That is the entire point of the insurance surety bond versus a BG: it frees up banking lines you’d otherwise lock against a performance guarantee.

How Finnova structures the whole stack

Sizing each limit is the easy part. The advisory work is sequencing them — a term loan matched to asset life, a CC/OD line sized to the real operating cycle, and an LC/BG sub-limit that supports trade without strangling drawing power — then negotiating the margins, commission and covenants across a right-fit lender, not a mass application.

That is how we run mandates at Finnova Advisory: CA-led and ex-banker, lender-agnostic across PSU banks, private banks, NBFCs and SEBI AIFs, with ₹4,250 Cr+ mobilised across 100+ corporate-finance mandates since 2011 (largest single facility ₹550 Cr). We don’t mass-apply — we close mandates: the right lender, on the right terms, and walked through to disbursement. We structure the file and negotiate; the lender sanctions and disburses. If a fresh or restructured limit stack is on your agenda, our corporate finance and debt syndication team builds the full file. For working-capital sizing specifically, see what a CMA report is and how banks set your CC/OD limit, and to compare lender categories, PSU bank vs NBFC vs AIF.

Key takeaways

• Fund-based limits deploy the bank’s cash (term loan, CC/OD, structured); non-fund-based limits issue an undertaking (LC, BG) and only fund on a trigger.
• A term loan funds long assets on a DSCR test (~1.5x comfort); a CC/OD funds the working-capital gap and revolves, with Drawing Power — not the sanctioned limit — governing daily availability.
• An LC pays on compliant documents (UCP 600, 5 banking days); a BG pays only on default — never equate them.
• Non-fund-based limits can devolve into funded exposure, so banks assess both buckets as one combined limit.
• An insurance surety bond can secure performance without consuming bank non-fund limits — unlike a BG.

FAQ

What is the difference between fund-based and non-fund-based limits? A fund-based limit is a facility where the bank disburses its own cash — term loans, cash credit, overdraft, structured debt — and charges interest from utilisation. A non-fund-based limit is an undertaking, not a disbursement — a letter of credit or bank guarantee — where the bank charges a commission and only pays out if a defined event (a default or a maturing payment) occurs.

Is a letter of credit the same as a bank guarantee? No. A letter of credit is a payment instrument — the bank pays your supplier on presentation of compliant documents under UCP 600. A bank guarantee is a default instrument — the bank pays only if you fail to meet the underlying obligation. They serve different purposes and trigger differently, and should never be treated as interchangeable.

Can a non-fund-based limit turn into a fund-based one? Yes — this is called devolvement. If you cannot reimburse the bank when an LC matures, or a guarantee is invoked, the contingent liability crystallises into a funded exposure, often debited to your cash-credit account. Because of this, banks assess fund-based and non-fund-based limits as one combined exposure.

Is Drawing Power the same as my sanctioned CC limit? No. The sanctioned cash-credit limit is the ceiling set by the MPBF calculation. Drawing Power — (stock − margin) + (book debts − margin) − creditors, recalculated monthly — is what you can actually draw on a given day. A stretched receivables cycle can reduce Drawing Power well below the sanctioned limit.

Are corporate term loans linked to the repo rate? Mostly no. The repo-linked external benchmark (EBLR) is mandatory only for retail and MSE/MSME floating-rate loans since 1 October 2019. Most corporate loans are priced off MCLR — SBI’s MCLR is around 7.9–8.85% (indicative, Jun 2026) against a repo rate of 5.25%.

Does an insurance surety bond use up my bank limits? No — that is its main advantage over a bank guarantee. An insurance surety bond, regulated under the IRDAI (Surety Insurance Contracts) Guidelines 2022 and treated on par with bank guarantees in government procurement under GFR 2022, is an insurance contract that does not consume your bank non-fund-based limits.