What Do Term Loans Mean for Businesses? How to Get the Benefits?

There are several types of loans, such as those that have specified repayment terms and those that allow a sequence of withdrawals and repayments based on the borrower’s requirement. Let us focus on the former type that is called a term loan. Read through to know more about term loans.

What are term loans?

A term loan is a loan taken for personal or business purposes by a bank or non-banking financial company (NBFC). The loan comes with a fixed loan amount and repayment tenure. The repayments must be made in the form of equated monthly instalments. The interest rate for such a loan may either be fixed or floating.

Generally, business loans, home loans, vehicle loans, personal loans, education loans, and even gold loans can be categorised as term loans based on the definitive nature of their repayment period.

What do term loans mean from the business perspective?

You can avail a term loan for any business purpose, such as to purchase equipment, inventory, or machinery; to expand business operations; to inject cash in the workflow; to manage working capital requirements; to buy office space/land; to pay salaries to employees; to pay rent or other debt; and to hire new staff.

The repayment term for business-related term loans can range from 1 year to 5 years. In the case of business loans, working capital loan, equipment financing, and more can be classified as a term loan.

Factors, such as the amount of funding the applicant is seeking, repayment capacity of the business, cash flow, and availability of funds play a crucial role in making or breaking the deal. These factors also contribute to the final interest rate applicable to the loan.

Categories of term loan

Term loans can be classified into different categories based on various criteria.

Based on Repayment Tenure

i. Short-term loans: Term loans having a repayment tenure between 12 months to 24 months are called short-term loans.

ii. Intermediate-term loans: Term loans with a repayment tenure beyond 24 months and 120 months are called intermediate-term loans.

iii. Long-term loans: Term loans with a longer repayment period between 10 years and 30 years are called long-term loans.

Based on Security

i. Secured term loans: The applicant must pledge property/assets that are equal to or greater than the loan amount he is looking for to get the loan approval. The property/asset will be considered as collateral, i.e. an assurance from the applicant about repaying the borrowed money within the agreed-upon repayment period.

ii. Unsecured term loans: Most businesses look for unsecured loans as they do not have to provide any property/asset as collateral for the loan. These loans are mostly offered based on the applicant’s and business’s credit score.

Eligibility criteria

• Eligible business types:
  • Startups
  • Self-employed
  • Manufacturers
  • Traders
  • Artisans
  • Retailers
  • Small businesses
  • Microbusinesses
  • Enterprises
  • Sole proprietorship firms
  • Partnership firms
  • Limited liability companies
  • Private limited companies
  • Public limited companies
  • Co-operative societies
  • NGOs
• Age criteria:
  • Minimum: 21 years at the time of application
  • Maximum: 65 years at the time of loan maturity
• Applicant should be an Indian citizen
• A good credit score over the last three years can be favourable
• The applicant should have a regular source of income
• Satisfactory performance of the business in terms of turnover, sales, and profit
• In the case of negative variance, the values must be within 10%
• A debt-to-service ratio of up to 4.5:1 and total term liability and an equity ratio of up to 3:1.
• The average Debt-Service Coverage Ratio (DSCR) must be within 1.75:1.
• A satisfied customer of the lender for at least three years.

Documents required

• Passport-size photos
• Duly filled application form
• KYC documents, such as Passport, PAN card, Aadhaar card, driver’s license, utility bills, and voter ID
• Business address proof, such as property papers, rent agreement, or lease document
• Business plan
• Income proof, such as the latest balance sheet
• A copy of the last 12 months’ company bank account statement
• Credit report of the company as well as the applicant
• A copy of ITR, sales tax report, and profit and loss statement of the last two years

*The list is non-exhaustive. Your lender may ask for documents that are not listed above.

Frequently Asked Questions (FAQs)

In what intervals should I repay the term loan?

Usually, the repayment interval will be once every month. Some lenders may also allow the borrowers to repay in equal quarterly or half-yearly instalments.

How much loan amount can I expect for my business?

Several factors decide the eligible loan amount for you, such as the collateral provided, credit score, the operating condition of the business, and more. However, some banks state that they offer up to 25% of the existing fund-based working capital limits of the company. You can expect a loan amount within the range of Rs.25 lakh up to Rs.500 lakh.

Does the lender decide on whether to offer a fixed interest rate or floating interest rate?

Mostly, the borrower can take the call whether they wish to go for a fixed interest rate or the floating one. However, some lenders may only choose to offer one of the two options, not leaving a choice to the borrower.