Term loans provide businesses and individuals with funding for specific purposes, offering structured repayment plans and competitive interest rates. Explore the advantages of term loans for your financial needs.
Term Loan
TL full form is term loan. A term loan, also known as a demand loan, is a form of funding a bank provides. The borrower is required to repay the loan amount according to an Equated Monthly Instalment (EMI) schedule. The interest rate can be fixed or floating, based on the borrower’s preference. Term loans can be obtained for various purposes, such as starting a business, covering working capital expenses, purchasing equipment, or conducting plant and machinery overhauls.
A term loan can range from 1 to 10 years, with the possibility of extending it up to 30 years on a case-by-case basis. Additionally, shorter-term credits may be available for companies that require funds but need to meet the criteria for longer-term credit. Term loans are offered for both greenfield (new) and brownfield (existing) projects.
Features of Term Loan
- Secured and Unsecured Nature of Term Loans: Term loans can be classified as either secured or unsecured. In the case of secured term loans, the asset being purchased serves as collateral for the lender. On the other hand, unsecured term loans do not require collateral but often come with higher interest rates.
- Fixed Term Repayment Obligation: Regardless of the borrower’s financial situation, term loans must be repaid within a predetermined fixed term. This ensures that the loan is fully repaid by the end of the specified duration.
- Evaluation of Credit Risk and Loan Parameters: When considering a term loan proposal, factors such as credit risk, loan amount, and tenure are carefully evaluated. Based on these assessments, the lender determines the appropriate interest rate for the loan. The interest rate is typically negotiated between the lender and borrower at the time of loan distribution.
- Tenure and Rescheduling Flexibility: Term loans typically have a tenure ranging from 5 to 10 years. Repayment is made in regular instalments over this period. However, if the borrower faces financial distress, there may be an option to reschedule the tenure based on the circumstances.
- Conversion into Equity: Under certain conditions, term loans can be converted into equity holdings. This allows the lender to acquire a stake in the borrower’s business, providing potential benefits to both parties.
- Penalties for Default and Commitment Fees: Defaulting on term loan payments may result in penalties imposed by the lender. Additionally, a commitment fee is charged on the portion of the loan amount that remains unused, ensuring that the borrower pays only for the utilised funds.
- Repayment Structure and Principal Amount: Repayment of term loans follows a structured instalment schedule. During the initial grace period of 1 to 2 years, only interest payments are typically required. As the tenure progresses, the instalments are likely to consist of a higher principal amount and a lower interest amount, leading to the gradual reduction of the loan balance over time.
Types of Term Loans
1. Short-term Loans
These loans have a repayment period of one year or less and are often used for immediate financing needs or working capital.
2. Medium-term Loans
Medium-term loans have a repayment period typically ranging from one to five years. They are commonly used for business expansions, equipment purchases, or project financing.
3. Long-term Loans
Long-term loans have an extended repayment period, usually ranging from five to thirty years. They are often utilised for large-scale investments such as real estate purchases or infrastructure development.
4. Fixed-rate Loans
These loans have a fixed interest rate throughout the loan term, providing borrowers with stability and predictable payments.
5. Variable-rate Loans
Variable-rate loans have interest rates that can fluctuate based on market conditions. The interest rate may be tied to an external benchmark and can change periodically.
6. Instalment Loans
Instalment loans require borrowers to repay the loan amount and interest through regular fixed payments over the loan term.
7. Balloon Loans
Balloon loans involve smaller regular payments over the term, with a larger final payment called a ‘balloon payment’ due at the end of the loan.
8. Secured Loans
Secured term loans require collateral, such as property or assets, to secure the loan. This provides a level of protection for the lender.
9. Unsecured Loans
Unsecured term loans do not require collateral but may have higher interest rates or stricter eligibility criteria.
10. Equipment Financing
This type of term loan is specifically designed for purchasing business equipment. The equipment itself serves as collateral for the loan.
Pros and Cons of Availing Term Loan
Pros of Availing a Term Loan:
- Access to Funds: Term loans provide borrowers with a lump sum of money upfront, allowing them to fund their immediate needs or investments.
- Fixed Repayment Schedule: The structured repayment schedule of term loans helps borrowers plan their finances and budget accordingly.
- Lower Interest Rates: Compared to certain other types of financing options, term loans often offer lower interest rates, especially for borrowers with good credit.
- Flexibility: Term loans can be used for various purposes, such as business expansion, equipment purchase, or debt consolidation, providing borrowers with flexibility in how they utilise the funds.
- Longer Repayment Period: Depending on the loan term, borrowers may have an extended period to repay the loan, which can result in lower monthly instalments and reduced financial strain.
Cons of Availing a Term Loan:
- Collateral Requirement: Some term loans may require collateral, such as property or assets, which can put the borrower’s assets at risk if they default on the loan.
- Eligibility Criteria: Meeting the eligibility criteria for term loans, such as credit score and financial stability, can be challenging for some borrowers.
- Prepayment Penalties: Some term loans may have prepayment penalties if the borrower decides to pay off the loan earlier than the agreed-upon term, limiting flexibility.
- Interest Accumulation: Over the loan term, the borrower may end up paying a significant amount in interest, depending on the loan amount and interest rate.
- Impact on Cash Flow: The monthly repayments can put a strain on the borrower’s cash flow, affecting their ability to meet other financial obligations or invest in new opportunities.
Factors that Determine the Term Loan Eligibility
Promoters’ Background: The credibility of the promoters is assessed, and a higher credit score improves chances of favourable negotiation.
Business Plan: The viability and repayment capacity of the business plan are evaluated to determine the loan amount and interest rate.
Operational Performance: Existing businesses’ efficiency and operational profit are evaluated before loan approval.
Infrastructure: The business’s infrastructure is assessed to ensure it can cover the loan in case of default, even if collateral is provided.
Collateral Security: Term loans may require collateral, such as assets or equipment, which are evaluated for eligibility.
Credit Repayment Track Record: The business entity’s track record of repaying credit is considered, influencing the loan terms.
Financial Performance: The present financial performance of the business is assessed, along with projected financials for the next 3 to 5 years.
Advantages and Disadvantages of Term Loans
| Advantages of Term Loans | Disadvantages of Term Loans |
| 1. Provides upfront access to funds. | 1. Collateral requirement, risking borrower’s assets. |
| 2. Structured repayment schedule for better financial planning. | 2. Stringent eligibility criteria, including credit score and financial stability. |
| 3. Lower interest rates compared to other financing options. | 3. Possible prepayment penalties for early loan repayment. |
| 4. Flexibility in usage, such as business expansion or equipment purchase. | 4. Accrued interest over the loan term can increase overall repayment. |
| 5. Longer repayment period for lower monthly instalments. | 5. Potential impact on cash flow due to monthly repayment obligations. |
Term Loans Offered in India
IDBI Bank Term Loan
- IDBI Bank provides term loans for project loans, allowing for the establishment of new units or expansion of existing units.
- The loan amount can be utilised for purchasing plants, machinery, buildings, and other relevant assets.
- The interest rate is usually floating and depends on factors like creditworthiness, credit rating, loan tenure, and associated risks.
Union Bank of India Term Loan
- Union Bank of India offers term loans for acquiring capital goods or creating assets for businesses on a long-term basis.
- It provides an opportunity to swap high-cost debts from other lenders.
- The loan can be availed under the Deferred Payment Guarantee basis, with a maximum tenure of up to 84 months. Foreign currency options are also available.
- United Bank of India offers term loans to fund capital expenditures, including setting up new units, expanding existing units, and modernising projects.
HDFC Bank Term Loan
- HDFC Bank provides term loans for business purposes, with a tenure of 5 years, to support business expansion, capital expenditure, and acquisition of fixed assets.
- Short-term finance options are available to cater to individual borrower needs.
- Repayment schedules are designed to match the borrower’s cash flow available
FAQs:
1. What is the full form of TL loan?
The full form of TL loan is Term Loan.
2. What is the difference between TL and CC?
TL (Term Loan) is a fixed loan with a specific repayment term, while CC (Cash Credit) is a revolving credit facility with a fluctuating balance based on withdrawals and repayments.
3. What is the difference between TLA and TLB?
TLA (Term Loan A) and TLB (Term Loan B) are different tranches or portions of a term loan with varying terms, such as interest rates, repayment schedules, or priority of repayment.
4. What is the meaning of a TL account?
TL account refers to a Term Loan account, which represents the loan agreement, repayment terms, and related financial transactions.
5. What is TLA used for?
TLA (Term Loan A) is a specific portion of a term loan that may be used for a particular purpose, such as refinancing existing debt, capital investment, or project financing.
6. What is TLB in accounting?
TLB (Term Loan B) is a specific portion of a term loan that often has different terms, such as higher interest rates or subordinate repayment priority, compared to other tranches of the loan.
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