Understanding Different Types of Business Loans

Business loans are important in deciding upon the financial strength of business. Apart from the olden days’ term loans, there is a big variety of loans at one’s reach today for each specific business prospect. For instance, SME Business Loans have boosted the growth of startups and small businesses in the business world.
When a business formulates a debt leveraging capital structure, its borrowings outweighs the initial investment. And hence its loan demands rise up and the business has to avail credit from a suitable lender. This scenario happens often and a typical businessman has to go through different credit schemes to get the best financial advantage. But how exactly should your business choose the best loan option? Or what are the best SME business loans accessible for startups and the like? Let’s find out.

1. Term Loan
A term loan must be the most common every businessman is well-versed about. Banks and financial institutions provide term loans to businesses; be it small, medium or large enterprise. The following features are noteworthy:

  • Tenure: Term loans are generally provided for more than year. The tenure can be summed up as 3-12 years. Longer periods is best suited for business as installment amount is less though the overall interest increases.
  • Purposes Financed by term loans: Acquisition of long term fixed assets such as machinery, equipments, land and building, infrastructure, vehicles, factories, and the like.
  • Cost of Term Loan: Cost of such loans is estimated at around 25%

2. Loan against collateral assets
A loan against collateral assets simply means a loan availed by providing an asset property of land or building as security to the bank or lender. It is quite notable that residential personal assets can be provided as security for availing business loans.

  • Tenure: The tenure period is 2 to 15 years and solely depends om credit score and security pledged of the borrower.
  • Collateral Assets allowed as security: These include all residential, commercial or vacant land and building properties.
  • Cost of Loan: The cost of such loans range from 10% and higher based on lender terms.

3. Loan against financial securities such as shares
Loans could be raised by providing collateral financial securities such as shares or stock. Collaterals such as demat shares, mutual fund units, bonds, insurance plans, fixed maturity plans (FMP) and Exchange Traded Funds (ETF) are to be provided.

  • Tenure: Generally for 12 months. Can be renewed after the term.
  • Assets allowed as collateral security: All the above assets provided that these are bank approved.
  • Cost of Loan: Solely depends on terms and conditions of agreement.

4. Loan against gold bullion, precious stones or jewellery
Gold loans are comparatively easier to raise than any other loan. Besides being easier, the lendee has to furnish few more documents that show the legal title of ownership as well as purchase documents. The only con of such loans is most banks offer loans only upto 30 lakhs.

  • Tenure: The tenure period is 1-3 years depending on the credit score of the borrower.
  • Assets required for raising Gold loans: Gold coins, gold ornaments or jewellery, etc.
  • Cost of Gold loans: Around 5% is the cost of gold loans.

5. Bridge Loans
A bridge loan is not the usual kind of loans available. It is solely intended to finance the short term period during which a term loan is pending to be sanctioned. The purpose of such loan is to enable businesses start their venture and to not be affected due to delay of sanctioning bigger term loans.

  • Tenure: Usually bridge loans are for short term ranging from 2 weeks to 3 years.
  • Cost of bridge loans: Less comparatively, depends on agreement.

6. Cash Credit
A cash credit facility is more popularly sought out financing method as there is zero headache in getting credit. Most banks offer such facilities. These can be availed as overdrafts by pledgeing rawmaterial stock or finished goods stock.

  • Tenure: For 12 months and option for renewal beyond that.
  • Assets that can be pledged: Inventories of both finished and raw material stock as well as receivables.
  • Cost: 75% to 80% is the cost.

7. Letter of Credit
Letter of credit is a recent loan type where bank guarantees payment to seller if buyer fails to. These types of transactions are mostly found in international trade where buyer and seller have no direct contract. However certain terms are to be met by the buyer.

  • Tenure: 12 months and renewal thereafter.
  • Assets for security: Any capital asset and stock.
  • Cost: 70% to 80%.

Availing loans for small business has never been this confusing. These are the main loan types for businesses. Apart from these different Government schemes and bank initiatives have come up with easy loans and subsidies with waiver offers. However understanding the basic business loan models is quite essential to take a further dip into deep analysis of financial borrowing trends.

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We believe there is a need for easing the operating environment for the Micro, Small And Medium Enterprises sector. Access to finance, redefining investment limits, could transform MSMEs into a hotbed of entrepreneurial activity.