In this article, I shall explain you the meaning and definition of Nostro Accounts, Vostro Accounts and Loro Accounts with examples. We will further discuss how the transactions are performed through Nostro Accounts. You will be able to learn the following topics by the end of this note.
- What are Nostro, Vostro and Loro Accounts?
- The difference between Nostro, Vostro and Loro Accounts.
- Transactions through Nostro Accounts with examples
The term ‘NOSTRO’ has emerged from the Italian word ‘Nostro’ which meaning is ‘OUR’.
“NOSTRO ACCOUNT can be defined as a bank account open by any commercial bank of a country in any bank of a foreign country with a denomination of foreign currency.”
In other words, NOSTRO ACCOUNT is an account maintained in a foreign country’s bank in the denomination of that foreign country by any country’s banks to settle the foreign exchange transactions between both countries.
The interest rate is not paid to NOSTRO ACCOUNT, however, in case of insufficient balance or overdrawn amount, some fee is chargeable to these accounts. Nostro Accounts are typically utilised to facilitates foreign trade and foreign exchange transactions.
What is Escrow Account? How does Escrow Account work? | Meaning & Process
Now consider an example to understand it more clearly.
Suppose, HDFC Bank (India based bank) operates a bank account in the City Bank (USA based bank) with the $ (Dollar) denomination, therefore it would be a Nostro Account for HDFC Bank.
Thus it is said that HDFC Bank has a $ denominated Nostro Account in City Bank of USA.
“Vostro Account refers to an account held by a foreign-based bank in the domestic currency with the domestic bank of the country”
The term ‘Vostro’ is also an Italian word which means is ‘Yours’.
It is just like the inverse of Nostro accounts. Let us understand with an example.
Suppose City Bank (USA based bank) opens an account in HDFC BANK (India based bank) with the Currency INR (Indian Rupee), then this type of accounts is called Vostro Account.
Thus single conclusion can be drawn from the above definitions of both Nostro and Vostro accounts.
If HDFC bank opens a bank account in City Bank, it will be a Nostro Account for HDFC Bank and from the City Bank’s point of view, it would be a Vostro Account.
You would be thinking what about Loro account.
When domestic banks use the account of third party banks which holds a Nostro account to settle foreign exchange transactions then these type of transactions are included under the Loro Account.
In other words, If a domestic bank who possess a bank account in foreign bank clear the due of foreign trade on the behalf of third party banks then this is called Loro account transactions.
Obviously, the third party bank doesn’t have the Nostro account and hence, in this case, domestic bank functions as an intermediary.
Consider HDFC Bank has an account with City Bank but IDBI Bank doesn’t have any Nostro account with City Bank. However, IDBI Bank has to pay the bill of imported machinery from the USA on behalf of its customers. Therefore, IDBI Bank approaches to HDFC Bank and ask to settle the invoice on its own behalf.
Thus HDFC bank worked as an intermediary between City Bank and IDBI Bank.
Transactions in Nostro Accounts:
Nostro accounts will be credit when the actual inflow of foreign currency exists whereas the account will be debit while actual outflow of foreign currency happens. Few examples are described below to understand clearly.
1) Suppose Mr A requests the bank in India to immediately transfer $ 10,000 to his father’s account in Washington USA.
- The transaction is referred to as TT issuance/ TT sale/TT remittance.
- The bank will receive rupees value of $10,000 and transfer same from it’s Nostro account held in the USA. Hence Nostro account will be debited in this case.
2) Suppose Mr X is an Indian businessman hold an account in HDFC Bank and he exported some goods of Rs. 10,00,000 to American company ABC Pvt Ltd. which holds the account with City Bank in the USA. Now Mr A has to receive payment of that invoice.
- In this case, the City Bank in the USA will receive a dollar value of rs 10,00,000 from ABC Pvt Ltd and deposit the same to the Nostro account of HDFC Bank.
- Therefore, in this circumstance, Nostro account will be credited and further HDFC Bank will pay Rs.10,00,000 to Mr X.
3) Consider Mr X approaches HDFC bank to get a DD of $5000 issued in the favour of XYZ Pvt ltd payable at Boston (USA).
- The HDFC bank will charge rupee value of $5,000 from Mr X and issue a DD however the transactions will not be entered in the Nostro account on the date of issuance of DD.
- This transaction will be entered in the Nostro account on the date of clearance of DD.
- Therefore, Nostro account of HDFC bank will be debited on the clearance date of DD.
4) Now let us assume Mr X receives a DD of $ 5,000 payable at New Delhi (India) from his client Mr Y who belongs to Washington (USA).
- Now X approach his domestic bank to encash this DD and hence Bank will pay the rupee value of $5,000 to Mr X.
- This transaction is referred to as DD Encashment/ DD purchase/ DD payment.
- Nostro account of the domestic bank will be credited under this circumstance.
Thus we can conclude a future contract of foreign exchange will not be entered in Nostro account, in fact, it would be debited or credited whenever actual inflow or outflow of foreign exchange is
Hope you have understood the significance of Nostro accounts in foreign exchange transactions. Thus it plays a key role in international trade.
You might also be interested in the following topics: