What is a Term Loan? Know More About Type and Benefits of Term Loans

Read this informative blog to know more about the meaning of a term loan, and the various advantages such loans offer.

What are Term Loans?

Loans increase efficiency in the achievement of goals. Term loans do the same. They are simply loans that have to be repaid within a specific duration of time, periodically at an agreed upon interest rate. More commonly, they are loans that have to be repaid within a certain tenure via EMIs. The EMI would consist of both principal and interest components. Depending on the loan product, term loans can extend for a short or long duration of time. You agree to a specific interest rate with your financier. However, your rate of interest charged under these loans may be on a fixed or a floating basis, which varies with market fluctuations. In a nutshell, a term loan provides you with the required amount of cash upfront which needs to be repaid within a specific term. Term loan lenders may also ask for a down payment to reduce the EMI amount, depending on the nature of the loan.

Features of Term Loans

You receive the requisite lump sum of cash in one installment from a term loan for a specific interest rate. However, in the case of loans taken to purchase under construction properties, it is common practice for the lenders to disburse the amount in trenches.

You agree to terms related to monthly EMI and tenure with the lender. You also agree on a fixed or floating interest rate.

Many times term loans are used by small businesses to purchase certain equipment or set up a factory.

Products such as traditional personal loans, car loans, property loans and so on also qualify as term loans.

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Types of Term Loans

1) Short-term loans:
Short term loan is a loan taken out for only a brief period of time.The tenure is usually upto a maximum of 12 - 18 months. Hence the interest rates are charged on a monthly basis. The total interest payout could be significantly less in this type of loan, providing that the borrower chooses to repay the loan within a few months. They are considered to be less risky compared to long term loans because of shorter maturity dates. This is because the borrowers’ ability to repay a loan is less likely to change significantly in a short duration of time. And hence the time it takes for a lender to underwrite this loan is also shorter, thereby reducing the overall time period in obtaining the loan. Short term loans can be lifesaving at times for smaller businesses or individuals who could otherwise suffer from a poor credit score. Short term loans are also a substitute for the firms that do not qualify for a line of credit. Some examples are overdraft facilities, salary loans, and so on.

2) Medium-term loans:
These are loans for a medium period, typically durations for such loans could vary from 1 year – 5 years. These loans could be important for business growth. Some examples are small business loans, traditional personal loans, and so on. These are usually unsecured, and the maximum amount one can borrow depends on their eligibility as well as the lender’s policy. Since interest is charged annually, the rates are lower when compared to short term loans.

3) Long-term loans:
Long term loans can last anywhere between 1 to 30 years. An individual’s or an entity’s assets could be used as collateral and the loan is repaid by the borrower’s income. Long-term loans are the most popular form of loans in the financial industry. Long term loans offer a large loan amount and hence can be spread over a considerable period of repayment tenure. Features of long term loans can vary from lender to lender depending on the reason for which these loans are being taken. Long term loans offer a pre-payment option to customers in case they want to pay off their loan prior to the committed time frame. Depending on the nature of interest rates and the purpose of the loan, such prepayments may or maynot attract charges.

Long term loans are sanctioned based on various parameters, including the income details of applicants. Lenders also need a continuous source of income or collateral or both to be able to grant these loans. Features of long term loans are likely generally similar across loan products. For instance:

• Long term loans usually come with higher loan amounts. Since long term loans are mostly secured with collateral submissions, lenders are comfortable in lending heavy loan amounts to long term loan applicants. Collaterals help lenders in recovering lost cash in case a borrower defaults to repay the loan.
• Also, as your loan time period is higher for long term loans, financiers levy a lower rate of interest on these loans. Repayment of these long-term loans is done through monthly EMIs, made up of two components, principal and interest.
• For such loans, lenders also evaluate the nature and value of the pledged collateral. This pledged collateral must be fully owned by the borrower, and should be free of all mortgages / litigation.

Term Financing and its Benefits

Term loans are highly beneficial in today’s date because of many reasons. Firstly, Term loans are affordable. The competitive interest rates on term loans make them an efficient option to consider. Typically, business owners apply for term loans the same way they would any other loan or credit facility. They need to provide requisite statements and other financial evidence demonstrating their creditworthiness. As a business owner, you can use term loans for any business purpose. Term loans smoothen your business operations and provide an opportunity to sustain, elevate and progress on your business plans.

Eligibility Criteria for long-term loans

Typically, long term loans need the applicant to be within the age of 21- 65 years. Applicants should be earning a regular income and should be able to provide documents to that effect. Documents pertaining to the pledged asset are also required. Applicants need to be a resident of India.