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Small businesses do not understand how a bank arrives at their working capital limit.
Under the turnover method the requirement is 25 percent of projected annual turnover; the borrower brings 5 percent as margin and the bank finances 20 percent.
Project next year's turnover realistically, support it with twelve months of GST, ITR and banking turnover, and keep the margin money in the business.
A working capital limit of about one-fifth of projected turnover that the bank can defend from evidence.
For small borrowers, banks often size the working capital limit from projected turnover. The usual convention is that the business needs working capital equal to 25 percent of its projected yearly turnover; the borrower brings 5 percent of turnover from its own funds as margin, and the bank finances the other 20 percent.
The method was introduced by the RBI in the early 1990s, following the Nayak Committee’s recommendations, to give small businesses a simple, quick way to get a limit without detailed financial projections.
When is the turnover method used, and when does a bank move to a detailed assessment?
| Situation | Usual method |
|---|---|
| Micro and small enterprise, limit up to ₹5 crore | Turnover method |
| Limit above ₹5 crore | Working capital gap method (also called MPBF, maximum permissible bank finance) |
| Seasonal or project-based business | Cash budget method |
| Long operating cycle, small borrower | Operating cycle method may give a higher limit |
Banks set out their exact thresholds in their own MSME lending policies, so check with your bank. If the operating-cycle assessment gives a higher figure than the turnover method, banks may sanction the higher amount.
Worked example: ₹1,60,00,000 of projected turnover
A garment trader in Tiruppur projects turnover of ₹1,60,00,000 for the coming year.
- Working capital requirement: 25 percent of ₹1,60,00,000 = ₹40,00,000.
- Borrower’s margin: 5 percent of ₹1,60,00,000 = ₹8,00,000.
- Bank limit: ₹40,00,000 − ₹8,00,000 = ₹32,00,000, which is also 20 percent of ₹1,60,00,000.
So the trader can expect a cash credit limit of around ₹32,00,000, subject to drawing power from monthly stock and debtors statements. If the business’s own net working capital is only ₹5,00,000, the bank may reduce the limit or ask the owner to bring in the shortfall of ₹3,00,000.
How does the lender test projected turnover?
A projection is only a claim. The bank checks it against what the business has actually done:
- GST returns. Twelve months of declared outward supplies.
- Income tax return. Turnover in the last ITR filed.
- Banking turnover. Business credits in the bank statements over the past twelve months, after removing transfers between own accounts, loan disbursals and refunds.
- Growth check. A projection far above past performance needs a reason, such as a new contract or a new outlet.
Suppose last year’s GST turnover was ₹1,30,00,000 and business credits in the account came to ₹1,24,00,000. A projection of ₹1,60,00,000 means growth of about 23 percent (₹30,00,000 ÷ ₹1,30,00,000). A bank may accept that with a reason, or may assess on, say, ₹1,45,00,000, which would give a limit of ₹29,00,000 (20 percent).
Why does banking turnover matter so much?
Because it is the hardest number to inflate. GST returns and ITRs are self-declared; bank credits come from customers’ payments. If banking turnover is far below declared sales, the lender will ask whether sales are collected in cash or through another account. Keeping receipts in the account used for the loan application makes the case easier.
What are the limits of the turnover method?
The method is simple, which is its strength and its weakness. It assumes an operating cycle of about three months: money tied up in stock and unpaid customer bills for roughly a quarter of the year. A kirana wholesaler that turns stock every few weeks may need less than 25 percent of turnover. A machinery fabricator that waits four months for payment may need more.
So treat the figure as a starting point for a conversation with your banker, not a fixed entitlement. If your cycle is genuinely longer, show it with debtor ageing and supplier terms. If it is shorter, a smaller limit costs less in interest and commitment charges, and is easier to keep within drawing power.
What to read next
- Next in this series: MSME working capital assessment from bank statements
- Synthetic profit and loss from MSME bank statements
- Bank statement analysis for MSME lenders
TransactIQ helps lenders test projected turnover against banking turnover, with GST-versus-bank cross-validation and synthetic financials for MSME underwriting.