Commercial Paper (CP) is a short-term unsecured promissory note issued in the open market. It also represents the obligation of the issuer. Normally, it is issued as a zero-coupon instrument. In United States, commercial papers are issued with maturity less than 270 days. CP with maturity period of 50 days or less is the most common among them.

In India, based on the recommendations of Working Group on Money Markets, the RBI introduced Commercial Paper (CP) in 1990 enabling highly rated corporate borrowers to diversify their sources of short-term borrowings and to provide an additional instrument to investors.

Commercial Papers (CPs) can be issued to and held by individuals, banking companies, corporate bodies registered or incorporated in the home country, unincorporated bodies, Non-resident Indians (NRIs), and Foreign Institutional Investors (FIIs). However, investment by the FIIs would be within the limits set for their investments by the Securities and Exchange Board of India (SEBI). When NRIs subscribe to CP issue, the conditions regarding non-repatriability and
non-endorsability are indicated on the CP.

The salient features of CPs are:

• The CP market has the advantage of giving highly rated corporate borrowers cheaper funds that they could obtain from the banks while still providing institutional investors with higher interest earnings than they could obtain from the banking system.

• Corporations, Primary Dealers (PDs), and the All-India FIs that have been permitted to raise short-term resources under the umbrella limit fixed by the Reserve Bank of India are eligible to issue CPs. Satellite dealers have been discounted from issuing CPs with effect from June 1, 2002.

• CPs will be issued at a discount to face value as may be determined by the issuer and no issuer shall have the issue of CP underwritten or co-accepted. Commercial Papers are issued in denominations of Rs.5 lakh or multiples thereof. A single investor has to invest not less that Rs.5 lakh of face value.

All eligible participants have to obtain credit ratings from any of the credit rating agencies. Some Credit Rating agencies in India are Credit Rating Information Services of India Limited (CRISIL), or the Investment Information and Credit Rating Agency of India Limited (ICRA), Credit Analysis and Research Limited (CARE), and FITCH Ratings India Private Limited. Participants can also obtain ratings from such other credit rating agencies as may be specified by the Reserve Bank of India for issuance of Commercial Paper. The minimum credit rating should be P-2 of CRISIL or such equivalent rating by other agencies. The issuers shall ensure at the time of issuance of CP that the rating obtained is current and has not fallen due for review.

A corporation would be eligible to issue CP provided,

1. Its tangible net worth is not less than Rs.4 crore as per the latest audited balance sheet.

2. It has been sanctioned working capital limit by bank/s or All-India FIs(s); and

3. The borrowed account of the company is classified as a standard asset by the financing bank(s)/institutions.

FIs can issue CPs within the overall umbrella limit fixed by the RBI, i.e., issue of CP together with other instruments, viz., term money borrowings, term deposits, certificates of deposit, and inter-corporate deposits and should not exceed 100 percent of its net owned funds, as per the latest audited balance sheet.

The total amount of CPs to be issued should be raised within a period of two weeks from the date on which the issuer opens the issue for subscription. The amount of CPs to be issued should be raised on a single date or in parts on different dates. In case of issuing in parts on different dates, each CP thus issued will have the same maturity date.

Every issuer must appoint an Issuing and Paying Agent (IPA) for issuance of CPs and only a scheduled bank can act as an IPA for issuance of CPs. On maturity of a CP, the holder of the CP shall present the instrument for payment to the issuer through the IPA. However, when the CP is held in demat form, the holder of the CP will have to get it redeemed through the depository and receive payment from the IPA. The IPA monitors defaults in redemption of CPs. Scheduled banks which act as IPAs have to report to the RBI in case of such occurrence giving full particulars of default of repayment of CPs.

Both issuers and subscribers holding CPs in materialized or physical form, are however banks, PDs and FIs are required to issue and hold CPs only in dematerialized form with effect from June 2001. With effect from July 2005, CPs can also be issued in dematerialized form through any of the depositories approved by and registered with the SEBI. No issuer shall have the issue of CPs underwritten or co-accepted.

Issue of Commercial Paper is subject to payment for stamp duty. The stamp duty on a primary issue of CP is 0.25 percent for all other investors, with a concession rate of 0.05 percent for banks. Secondary market transactions do not attract any stamp duty. All the expenses related to the issue of CPs are borne by the issuers.

In the case of taxation also certain variations are there as shown below:

• For the Corporate: The discount is treated as an interest expense, deductible for tax purpose.

• For the Investor: Profit/Loss on Sale of Investment: Income is taxed under the head "Profits and Losses from Business and Profession". Losses are allowed as business losses for banks and investment companies. For corporates that invest in other company CPs, this would amount to Other Income/Interest Income.

• In order to improve the secondary debt market conditions in the country, the RBI has permitted the Primary Dealers (PDs) to raise funds for their operations by issuing CPs. This may in turn enable the PDs to access greater volumes of funds, which would enhance the level of activity in the money market.