Introduction
A debt instrument is a fixed-income asset that enables the lender (or giver) to earn a fixed interest rate in addition to receiving the principal, while the issuer (or taker) can use it to generate funds at a cost. Debt is a legal responsibility on the side of the issuer (or taker) to repay the lender the borrowed amount plus interest on a timely basis. A debt instrument can be printed or stored electronically. Debt instruments include bonds, debentures, leases, certificates, bills of exchange, and promissory notes.
These instruments also allow market players to shift debt obligation ownership from one party to another. Throughout the life of the instrument, the lender receives a specified amount of interest. Debt instruments offer fixed and higher yields than bank fixed deposits, giving them an advantage. Debt instruments can be either long-term or short-term in length. Short-term debt instruments raise funds that must be returned within a year. Debt instruments offer fixed and higher yields than bank fixed deposits, giving them an advantage. Debt instruments can be either long-term or short-term in length. Short-term debt instruments raise funds that must be returned within a year. Long-term debt instruments, on the other hand, are those that are paid over a year or more. Short-term debt instruments include credit card bills and Treasury notes, whereas long-term debt instruments include long-term loans and mortgages.
Some of the common types of the debt instrument are:
1. Debentures
Debentures are a type of debt instrument. Debentures are not secured in any way. The corporation issues these in order to raise medium and long-term capital. They are part of the company’s capital structure, appear on the balance sheet, but are not included in the share capital.
2. Bonds
Bonds, on the other hand, are backed by a security and are typically issued by the government, central bank, or significant corporations. Bonds also guarantee the payment of fixed interest rates to the money lenders. The principal amount is repaid when the bond matures. Bonds function in the same way that loans do.
3. Home loan
A mortgage is a loan secured by a piece of real estate. An related property protects it. In the event of nonpayment, the property might be seized and auctioned in order to recoup the loaned funds.
4. Treasury Bills
Treasury notes are a type of short-term financial instrument with a one-year maturity. They can only be redeemed when they reach maturity. If sold before maturity, they are sold at a discount.
5. Credit Card
A credit card gives a borrower a pre-determined credit limit that they can use at any time. Consumers can use their credit cards like a line of credit as long as they pay their bills on time.
Borrowers have two payment options: pay the entire sum in full each month to avoid interest charges, or pay the minimum monthly payment. This option allows the cardholder to carry over the outstanding balance from one month to the next. As a result, they are liable for any interest accrued under the terms of their cardholder agreement.
Conclusion
A debt instrument is an asset that is used to raise capital or produce investment income by an entity such as an individual, a business, or the government. For example, a corporation may want financing to purchase new equipment, while government agencies may require funding for initiatives such as infrastructure renovations or to fund their day-to-day operations. This sort of instrument functions as a promissory note between the issuer and the buyer. By making a lump-sum payment to the issuer or borrower, the buyer becomes the lender. In exchange, the issuing business promises the customer that the investment will be fully repaid at a later period. The payment of interest over time is common in these types of contracts, resulting in a cumulative profit for the lender.
Reference
1. Claire Boyte-White, What Are Some Examples of Debt Instruments, Investopedia, 20,Nov,2022, https://www.investopedia.com/ask/answers/050515/what-are-some-examples-debt-instruments.asp
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