What is a Term Loan – Eligibility, Documents and Working

If you need urgent financing to expand your business or buy machinery and equipment for your organisation, you can opt for a term loan. Unlike personal loans, a term loan can be both secured or unsecured loan, meaning you may or may not have to provide collateral or security to avail of the loan.

But how is term loan useful, especially for businesses? Let’s dive in.

What is a Term Loan?

This is a type of loan that is typically used for a specific purpose, such as financing the purchase of a large piece of equipment, or for expanding a business. It is called a “term loan” because it is typically repaid over a fixed period of time, or “term,” which usually varies between 2 and 10 years.

Term loans are typically issued by banks and other financial institutions, and are often secured by collateral, such as real estate, inventory, or other assets. The loan may have a fixed or variable interest rate, and the borrower is typically required to make regular payments on the loan, which may include both principal and interest.

How Does a Term Loan Work?

Given below are the details illustrating how a term loan works:

1. Loan Amount is Fixed

First, borrowers have to meet the eligibility criteria of lenders. The amount gets fixed after the type of term loan is determined. Every term loan comes with a fixed amount. 

2. Tenure of Repayment is Fixed

There is a fixed tenure of repayment, usually 2 to 10 years. The lender decides it when you avail the loan. 

3. Need for Collateral is Decided

You can avail term loans through both secured and unsecured credit. This will, however, depend on the eligibility of the borrower.

4. Floating or Fixed Rate of Interest

The borrower decides whether he wishes to opt for a floating or fixed interest rate. However, term loans usually have fixed interest rates.

5. Repayment Schedule 

You need to pay EMIs as per the repayment schedule. For example, every term loan has a fixed repayment schedule. You can calculate their EMIs with the help of an online EMI calculator.

Types of Term Loans

Given below are the types of term loans: 

1. Short-term Loan

Banks and NBFCs provide short-term loans to companies that are not eligible for a long tenure of credit and are generally provided for 24 months.

2. Long-term Loan

Financial institutions and NBFCs provide long-term loans to companies that provide their assets as collateral. The tenure ranges from 5 years to 10 years. The repayment schedule depends on the business’s profit and cash flow. It can be either monthly or quarterly. 

3. Intermediate Term loan

Newly established companies avail of intermediate term loans where the tenure ranges from 2 years to 5 years. These loans play an important role in maintaining the cash flow of a business.

Also Read

19 Different Types of Loans Available in India

Apply for Short Term Loans in India: Eligibility Criteria and Steps to Apply

Features of a Term Loan

The features of term loans are as follows: 

• Lender and borrower negotiate the interest rate at the time of distribution of the loan
• Borrowers can repay in instalments if the loan tenure ranges from 5 to 10 years
• The borrower needs to repay the loan as per the fixed schedule
• If the business is going through financially rough times, the lender should be aware of it. In such situations, financial institutions can reschedule the tenure
• Interest rate is higher for unsecured term loans
• As per applicable terms and conditions, term loans get converted into equity holding
• In case of defaults, the lender will levy penalties
• Lender charges a commitment fee on the loan amount that one has not utilised

Advantages of a Term Loan

The advantages of term loans are as follows:

1. Low Cost

Term loans are a popular option for short-term and medium-term financing because they are least expensive. 

2. Negotiability

You can easily negotiate the conditions of term loans. Moreover, the terms and conditions are flexible as well. 

3. Hassle-free Procedure

You can easily avail these loans without going through much hassle. The application process is easy

4. Control

Term loans stand for debt financing, i.e. equity shareholders don’t lose their interest. They don’t even have to face dilution of equities. 

5. Tax Benefits

As per the Income Tax Act rules, borrowers can avail of many tax benefits on the interest they pay.

How to Apply for a Term Loan?

Given below are the procedures for applying for a term loan online: 

Step 1: Visit the official website or app of the financial institution

Step 2: Select term loan from the available loans

Step 3: Enter your details and apply

Step 4: Attach and submit the necessary documents like age/income/address/identity proof

Step 5: Wait for the lender to scrutinise your application and sanction the loan

Interest Rate of Term Loans 

Term loans can have two types of interest rates–floating and fixed rates of interest. Let us look at their details: 

1. Floating Rate

Term loans or personal loans at a floating rate of interest undergo regular changes depending on changes in repo rates or other benchmarks that the lenders use. Interest rate changes also depend upon the reset date set by borrowers.

2. Fixed Rate

When interest rates remain fixed throughout the loan’s tenure, irrespective of the changes in the repo rate, it is known as fixed interest rates. Fixed interest rates tend to be higher than floating rates but carry a benefit for the borrowers. People find it easier to formulate financial plans as their monthly obligations are not affected by interest rate changes. 

Calculate EMI of Term Loan 

You can use an online EMI calculator to calculate how much you have to pay as EMIs accurately. All you have to do is enter the loan amount, interest rate and tenure. It eliminates the need for lengthy manual calculations and helps borrowers plan their finances. 

Calculate Your Term Loan EMI

Documents Required for Applying for a Term Loan

Given below is the list of documents that an applicant would need for applying for a term loan:

• Proof of the business
• Bank statements for the previous 12 months
• KYC documents – Identity, Age, Address proof
• Filled up application form with passport size photograph

Eligibility Criteria for Applying for a Term Loan

Given below are the eligibility criteria for availing of a term loan:

• Minimum age of the applicant has to be 18, and maximum age has to be 65
• The borrower needs to have a CIBIL score of 750 or above
• The applicant needs to have a good repayment history and creditworthiness
• Applicants shouldn’t have any history of default with any lender
• Applicants need to have a regular source of income

The criteria will, however, vary from lender to lender. 

Final Word

To sum up, business owners can avail for a term loan to fulfil their business requirements. They can choose short-term, long-term or intermediate-term loans based on their requirements. Term loans have many advantages that you, as a borrower, can benefit from. 

FAQs