A term loan is a line of credit that must be repaid regularly over a predetermined duration. As a result, it may also be referred to as term finance. Loan under this category is typically offered for a period ranging from 1 to 30 years.
A term loan requires minimal documentation and offers flexible repayment options, making it a convenient financing option. It is appropriate for small business enterprises, but individuals too can avail this loan scheme.
To sum up a term loan:
It has a fixed repayment schedule
The rate of interest on term loan can either be fixed or floating
It can be availed by individuals and businesses both
Widely offered by leading lenders
Defaulting on a term loan attracts a high penalty
Here are some key features that set term loans apart from other credit facilities:
Offered by a bank, term loans may be secured or unsecured. If secured, the lender offers the funding based on collateral.
The Term loan EMIs should be paid on time and for the stipulated period
The interest rate levied on the loan can vary based on the credit risk of the proposal, the loan amount, and the tenure for which the loan is taken. The interest rate is negotiable based on all the related terms
The term loan’s repayment period ranges between 1 and 30 years. The repayment of the loan must be made in instalments
The borrower must follow the restrictive covenants laid down by the lender. This could include not raising additional loans, repaying the existing loans, and maintaining a minimum asset base
Term loans can be converted into equity depending upon the terms of the lender
Borrowers may incur a hefty defaulting fee if the loan is not repaid within the tenure
The borrower pays a commitment fee on the unutilised term loan amount
Some of the most notable advantages of a term loan are as follows:
The term loan is comparatively cheaper than other types of funding and brings better value for the borrower
The interest paid on term loans is sometimes tax-deductible. Hence, borrowers enjoy tax benefits through term loans
As with every kind of financial product, term loans carry a set of disadvantages. The disadvantages of term loans include the following:
In case the borrower fails to make the repayment in time, the lender can take legal action
A term loan is a form of debt financing, and it affects the interest of stakeholders
There are restrictive covenants that may be imposed by the lender. These may hamper the borrower's ability to get another loan or close existing loans, thus affecting the usual functions of the firm
A lender may either levy a floating interest rate or a fixed interest rate on the term loan. The borrower often has the option to select between the two. Here is what availing fixed or floating rate term loans means:
In this instance, the term loan interest rate that applies is fixed throughout the duration of the loan. Over the course of the loan, the interest outgo remains the same, and is fixed from the start.
This term loan interest rate varies according to market interest rates and market economic conditions. The payment amount subsequently fluctuates over the term as a result. Every few years, banks often modify their rates of return or adjust them to the market in response to significant or abrupt changes.
Additionally, fixed interest rates are often selected for short-term loans, whereas floating interest rates are recommended for long-term loans.
Here is an example of how term loan work:
Suppose you need funding of ₹50 Lakhs to expand your business activities and apply for the same with your chosen lender. Once you have applied, the lender will assess your application by evaluating factors that play a role in determining your repayment ability.
This includes collateral security, cash flow, profits, business infrastructure and more. Now, if the lender determines that you may not be able to repay the proposed loan amount, they will offer a loan amount that is feasible. After you have accepted the offer, the repayment structure will be planned based on the assessment.
If you have chosen a floating interest rate, the EMI amount will change as and when the lender changes the interest rates following an economic fluctuation. This can either reduce or increase your EMI amount.
In fixed interest rate, the EMI amount stays the same throughout the tenure. However, in both cases, the repayment tenure is dependent on your purpose of availing a term loan. Once the repayment starts, you can prepay/foreclose the term loan as per the terms and conditions mentioned by the lender.
Keep in mind that the lender may levy an additional charge on prepayment/foreclosure of the loan. If it is a secured loan, the lender will lose the rights on the assets once you repaid the term loan as per the repayment terms and conditions. In case of default, the lender has the right to confiscate the asset to recover the loan amount.
A term loan can be offered in different categories. These categories reflect the repayment period of a term loan. Read on to the available types of term loans:
A short-term loan is typically used to meet immediate funding needs that can be repaid immediately. The duration of the term loan ranges anywhere from between 12 to 18 months. However, lenders, at times, also offer this type of loan for up to 5 years.
This loan is classified as an intermediate loan as it is usually offered for a period of up to 84 months (7 years). An intermediate term loan can be used to fund big-ticket needs such as boosting working capital and purchasing advanced machinery. The repayment can be done through affordable EMIs, making it a convenient option for business enterprises.
Long-term loans are offered for an extended tenure that can reach up to 25 years. The term loan can be repaid monthly or quarterly through the profits or cash flow of the company. A long-term loan, however, may limit the ability of the company to take on other forms of business debt.
The term loan can be availed by the following eligible entities:
Private limited companies
Public limited companies
The factors that affect your eligibility for a term loan are majorly in line with your repayment ability. Given this, lenders assess the following to evaluate your repayment ability which affects your eligibility.
The business gives the lender an idea about its feasibility as well as repayment plan. If the lender determines that the repayment can happen smoothly, they may extend the term loan offer. This essential component also plays a role in determining the term loan interest rate and amount.
The operational efficiency gives the lender an idea of the business’ profit in different financial situations. Given this, this is generally assessed for an already established firm seeking a term loan.
The credibility and history of the promoters are assessed. The likelihood of a successful negotiation increases with the promoters' credit score.
The corporate entity's credit repayment history is evaluated. The terms will be more favourable as it assures them that new credit can be managed well.
Lender evaluates the current financial performance. The financial success over the following three to five years is also forecasted in the business strategy to assess the organisation’s ability to manage credit.
To ensure that the loan amount can be recovered in the event that the borrower defaults, lenders assess the security of the collateral offered.
To ensure the term loan can be repaid in full in the event of default, the business' infrastructure is evaluated. Even if the collateral for these loans is equal to the extended loan, this element is still taken into consideration. The term loan is secured by already-built infrastructure.
Given below is the list of documents required for term loan:
Duly filled application form
Self-drafted business plan (in case of a business unit)
Address proof: Telephone bill, water connection bill, gas bill
Bank statement for last 12 months
Check the document requirement with the lender you are applying with to ensure that you have all the term loan documents required for a seamless process. A lender may request additional documents to support the application.
The majority of lenders enable you to apply on their portals, allowing their representatives to contact you. To speed up the loan approvals, banks have established loan hubs and processing facilities.
Once you have calculated your finances using the business term loan calculator and have chosen one of the digital platforms, follow these steps:
Submit your application together with your financial, company, and personal information.
Submit the documents and fill in the online application form
Once your term loan request is approved, the lender will directly transfer the sanctioned amount to your bank account.
Term loans are a good opportunity for individuals as well as business entities wanting to avail quick funding through a smooth application process. The requested amount, when approved, is quickly disbursed into the applicant’s bank account. All these factors work wonderfully when it comes to accessing immediate funding. Visit Bajaj Markets to avail the best deals on a term loan.
It is based on three factors: cash flow, repayment ability, and debt service coverage ratio.
The interest rate is determined based on the project's type, the loan's size, its term, and the debt structure.
Term loans have a predetermined maturity date, a fixed or variable interest rate, and a monthly or quarterly repayment plan. The repayment schedule may be impacted by the asset's useful life if the loan is being used to fund an asset acquisition.
Yes, in general, your gross income is reduced by the interest you pay on your company debt, which is deductible from taxes. According to the Income Tax Act of 1961, you can deduct interest paid on business loans from your business profits.
The term "loan maturity date" describes the day when a borrower must make their last loan payment. The Promissory Note, which is a record of the Original Debt, is discharged once the last payment has been received and all requirements of repayment have been satisfied. When a loan is secured, the lender loses all rights to the borrower's assets.
Term loans are typically extended for a longer period of time, which might be anywhere between 1 year to 30 years.
You can calculate the term loan using an online term loan EMI calculator.
Yes, a term loan can qualify for tax benefits, depending on how the sanction gets utilised. For specific expenses and undertakings, the interest paid can qualify for a deduction.
You can avail term loans in both secured and unsecured forms.