What is a term loan?

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Term Loans are short-term loans offered to businesses for capital expenditure and expansion, among others. Generally having a tenure up to 96 months, these loans are tailor-made to suit the various financial needs of businesses. Minimal documentation, quick disbursal of funds and repayment flexibility are some of the major benefits of these loans.

Types of Term Loans

Term Loans are available to suit a borrower’s funding requirements based on factors like:

  • Amount of funding required
  • Repayment capacity of the borrower
  • Regular cash flow and in-hand availability of funds

Based on these, interest rates on Term Loan also vary along with other terms of lending. These advances are available in the following types:

Short-term loans

A short-term loan is a type of advance offered for a duration ranging between 12 to 18 months. Some lenders, however, also consider tenures of up to 8 years or 96 months as short-term loans. Borrowers usually avail of these loans to meet the immediate, medium-sized funding needs that they can repay easily within a short span.

Intermediate-term loans

Financial institutions generally classify intermediate or mid-term loans as they come with a longer tenure of up to 96 months. Available in considerable ticket size, these advances sufficiently make for big-budget funding needs of businesses like purchasing machinery, boosting the working capital, etc.

Long-term loans

Available at attractive Term Loan interest rates, long-term loans come with an extended tenure. The easy EMI option makes these advances convenient to repay over a long tenure while fulfilling a business’s requirement for lump-sum funding. Usually, such loans are secured in nature.

Example of a term loan

A term loan is a type of loan where a fixed amount of money is borrowed from a financial institution for a specified period, typically ranging from one to ten years. The borrower repays the loan in regular installments over the agreed-upon term, which may include both principal and interest. Term loans are commonly used by businesses to finance long-term investments such as equipment purchases, expansion projects, or real estate acquisitions. These loans offer predictable repayment schedules and interest rates, providing borrowers with stability and clarity in their financial planning.

Features of term loan

  • Fixed loan amount: Borrowers receive a predetermined sum of money upfront.
  • Fixed term: The loan has a specific duration, typically ranging from one to ten years.
  • Regular payments: Borrowers repay the loan in regular installments, usually monthly or quarterly.
  • Fixed interest rate: Interest rates are typically fixed for the duration of the loan, providing predictability in repayment amounts.
  • Security: Term loans may require collateral to secure the loan, such as property or equipment.
  • Purpose: Often used for long-term investments such as equipment purchases, expansion projects, or real estate acquisitions.

Advantages of term loans

  • Predictable payments: Borrowers benefit from fixed monthly payments, making budgeting and financial planning easier.
  • Long-term financing: Term loans offer extended repayment periods, allowing businesses to fund large investments without immediate financial strain.
  • Lower interest rates: Compared to short-term loans or alternative financing options, term loans often come with lower interest rates due to the longer repayment period.
  • Flexibility: Funds from term loans can be used for various purposes, including equipment purchases, expansion projects, working capital, or refinancing existing debt.
  • Build credit: Successfully repaying a term loan can improve a borrower's credit profile, making future borrowing easier and potentially lowering interest rates.

How does a Term Loan work?

Among multiple financing options available, Term Loans are one of the most convenient ones as they come with pre-determined loan value, interest rates, EMIs, etc. Below is explained how a Term Loan works for an easy understanding of its functioning.

  • Fixed loan amount
    Terms loans come with a fixed amount. Depending on the type of Term Loan chosen, the loan value may vary. Meeting the lender’s eligibility criteria is also essential in determining the actual loan amount.
  • Fixed tenure of repayment
    You must repay the amount availed in EMIs throughout a fixed tenure as determined while availing the loan. Depending on loan repayment duration, it is classified as a short, mid, or long-term loan.
  • May or may not require collateral
    Depending on the loan amount required, the borrower’s eligibility and choice, Term Loans are available as both secured and unsecured credits. While personal loans, business loans, etc., are unsecured forms of Term Loans, advances like home loans qualify as secured Term Loans sanctioned against collateral.
  • Fixed or floating interest rate
    Term Loans are available at both fixed and floating rates of interest. It is up to the borrower to decide which type of interest to opt for.
  • Fixed repayment schedule
    Every Term Loan comes with a repayment schedule, and a borrower must pay EMIs based on this schedule. The EMI comprises the principal and interest components calculated per the Term Loan interest rates applicable, thus enabling the borrower to repay quickly. You can determine the EMI amount before availing of the loan using an online business loan EMI calculator.

What are the common attributes of term loans?

Term loans, a popular form of financing, share several common attributes that distinguish them in the lending landscape. Firstly, borrowers receive a predetermined sum of money upfront, known as the fixed loan amount. This initial amount remains constant throughout the loan term. Additionally, term loans have a specific duration, typically ranging from one to ten years, providing borrowers with a defined repayment timeline. Regular payments are a key feature of term loans, with borrowers required to repay the loan in installments, usually on a monthly or quarterly basis. Furthermore, term loans often come with fixed interest rates, ensuring predictability in repayment amounts over the loan term. Lastly, term loans may require collateral to secure the loan, such as property or equipment, providing lenders with added security.

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Frequently asked questions

What are the 3 types of Term Loan?

The 3 types of Term Loan are:

  1. Short-term loans: A loan with a tenure of up to 18 months, usually for working capital needs.
  2. Intermediate-term loan: A loan with a tenure of 1 to 3 years, usually for business expansion or equipment purchase.
  3. Long-term loan: A loan with a tenure of more than 3 years, usually for large-scale projects or capital expenditure.
What is a Term Loan and its types?

A Term Loan is a type of loan that provides a lump sum of cash to the borrower for a fixed period of time and interest rate. Term Loans are mostly used by businesses to finance their capital expenditure and expansion needs. Term Loans can be secured or unsecured, depending on whether they require collateral or not.

How is EMI calculated for Term Loan?

The EMI (equated monthly instalments) is the amount that the borrower has to pay every month to repay the loan. It consists of the principal and interest components. The EMI is calculated using the formula:

EMI = P x r x (1 + r) ^ n / [(1 + r) ^ n - 1]

P = principal or the loan amount r = Term Loan interest rate per month n = Loan tenure in months.