Bank Loans Basics, a Brief introduction to all the types of loans and how they can help your business
There are many types of loans available through banks. These include term loans and lines of credit.
Term Loans (Long-Term and Short-Term Loans)
Term loans have a fixed interest rate (although some loans offer a variable rate). A personal guarantee from the borrower and/or collateral (business, personal, or both) is usually required to secure the loan. If the loan has collateral attached to it, then it is considered a “secured loan”. If the loan is solely based on the reputation and creditworthiness of the borrower, then it is an “unsecured loan.” (Now you know why your credit score is so important.) These loans carry a monthly or quarterly repayment schedule and have a pre-determined maturity date.
Lines of Credit
With a line of credit, you can make use of monies up to a maximum amount set by the bank. You pay interest only on the amount that you use. The interest rates on these loans are variable. In addition, lines of credit have renewable periods from 90 days to several years; but for extended periods, the lender will ask for annual reviews.
Leasing equipment helps you acquire the latest equipment that otherwise would be unaffordable if purchased. Banks and finance companies may lend you money to lease equipment, or the equipment manufacturer may facilitate the financing directly. The loan term is usually tied to the term of the lease.
Letter of Credit (LOC)
A letter of credit is a guarantee of payment upon proof that the contract terms have been met. This is commonly used in international trade transactions. In a letter of credit, your bank guarantees (for a fee) that it will pay the purchase price on behalf of the buyer upon completion of the contract. In most cases, you should have an established line of credit with your bank.
Other Financing Options
Remember that finance is a flexible term, as the loan terms can be adjusted to match your individual needs. The following are other forms of financing available to you:
Factoring
This term refers to getting a short-term loan based on the financial strength of your accounts receivable. This means that you sell the accounts receivable of your business to the factoring company at a discount in exchange for getting money now. Factoring is useful when you have to meet your business obligations, such as paying your bills, payroll, suppliers, and other business expenses while you wait for your customers’ payment for the products delivered or services supplied.
Purchase Order Financing
This is one of the most expensive and risky forms of financing. In this arrangement, you will assign your purchase orders to a third-party lender. The third party will be in charge of billing and collecting on the purchase orders. Usually this happens in cases where the company requires cash to manufacture orders.
Home Equity Line of Credit and Home Equity Loan
The Home Equity Line of Credit (HELOC) is an open-ended credit line secured by a second deed to your house. This allows you to borrow against the equity of your home. You can take out as much as is allowed on the credit line, which works just like a credit card. You can either pay it down or make the minimum payment; interest is calculated monthly.
A Home Equity Loan is a second mortgage against your house. In contrast with a HELOC, you receive the amount at once and pay interest on the entire amount.
Hi, this is a comment.
To delete a comment, just log in and view the post's comments. There you will have the option to edit or delete them.
Thank you very much for your post. We have included it in our current Carnival of Small Business Issues – “The Canarian” – Edition #25 — Mary S. for fcon21.biz