8 Essential Types of Business Loans in India

1. Term Loans

A term loan is a loan in which you receive a specific amount of money for a set period, and you repay it in regular installments with interest. They can be secured or unsecured. The loans are categorized based on duration:

1. Short-Term Loan: Up to 1 year.
2. Intermediate-Term Loan: 1 to 3 years
3. Long-Term Loan: Over 3 years.

Long-term loans often require collateral, like real estate or equipment, to secure the loan.

Pros of Term Loans:

1. Predictable monthly payments make budgeting easy
2. Can be secured or unsecured, offering flexibility.
3. Long-term loans generally have lower interest rates due to collateral.

Cons of Term Loans:

1. Requires solid credit history for approval.
2. Long-term loans may involve significant collateral.
3. Early repayment penalties may apply.

2. Working Capital Loan

A working capital loan is a short-term loan that helps businesses fund their day-to-day operations, from paying employee wages and covering rent to managing cash flow fluctuations and purchasing inventory.

For businesses seeking funding without collateral, unsecured business loans are a valuable option. These loans provide flexible financing solutions for immediate needs, allowing companies to access the funds they require without pledging assets.

Pros of Working Capital Loan:

1. Quick access to funds for operational needs.
2. Typically unsecured, no collateral required.
3. Flexible use of funds.

Cons of Working Capital Loan:

1. Higher interest rates compared to long-term loans.
2. Short repayment periods may put pressure on businesses to repay quickly.
3. Repeated borrowing can lead to dependency on loans.

3. Equipment Finance

Equipment finance loans allow businesses to purchase or upgrade machinery by using the equipment as collateral. This loan type supports cash flow management while enabling businesses to expand their operational capacity.

Pros of Equipment Finance:

1. Keeps cash flow stable while upgrading essential tools.
2. The equipment purchased acts as collateral, minimizing other asset risks.
3. Tax benefits may apply through depreciation.

Cons of Equipment Finance:

1. May require a down payment.
2. Higher risk if equipment depreciates quickly.
3. Could have higher interest rates than traditional term loans.

4. Business Loan Against Property

A business loan against property allows businesses to use commercial or residential property as collateral to secure a significant loan. These loans generally have lower interest rates due to the secured nature of the loan.

With lower interest rates and substantial loan amounts, a secured business loan could be the ideal financing solution to drive your business goals forward.

Pros of Business Loan Against Property:

1. Access to large funds for expansion or investment.
2. Lower interest rates compared to unsecured loans.
3. Flexible repayment terms.

Cons of Business Loan Against Property:

1. Property is at risk if loan repayment fails.
2. Approval process may take more time due to property evaluation.
3. More paperwork and legal formalities as compared to collateral-free loans.

5. Cash Credit

Cash credit is a working capital loan allowing businesses to withdraw funds up to a set limit, with interest charged only on the amount used. It requires collateral and is ideal for managing seasonal or fluctuating income.

Pros of Cash Credit:

1. Interest is charged only on the amount utilized.
2. Ideal for businesses with fluctuating cash flow.
3. Provides a flexible funding solution.

Cons of Cash Credit:

1. Requires collateral like raw materials or fixed assets.
2. Higher interest rates on utilized amounts.
3. Strict eligibility criteria.

6. Overdraft Facility

An overdraft facility lets a business withdraw more money than it has in its bank account, up to a set limit. This can help cover sudden expenses or cash flow gaps when funds are low.

Pros of Overdraft Facility:

1. Immediate access to funds.
2. Interest charged only on the utilized amount.
3. No fixed repayment schedule.

Cons of Overdraft Facility:

1. Higher interest rates compared to traditional loans.
2. Limited to a predefined limit.
3. Risk of overspending and higher fees.

Example:Imagine Raj has a small textile shop and needs ₹50,000 to buy materials for a large order, but he only has ₹20,000 in his account. With an overdraft facility, Raj can still access the extra ₹30,000 needed, which he'll repay later when his cash flow improves.

7. Letter of Credit

A Letter of Credit is a guarantee from a buyer's bank to pay the seller once specific shipping documents are presented. Commonly used in international trade, it reduces payment risks for exporters, ensuring secure transactions when goods are shipped and verified.

Pros of Letter of Credit:

1. Reduces payment risk in international transactions.
2. Boosts business credibility.
3. Secures payment and delivery terms.

Cons of Letter of Credit:

1. Bank charges a fee.
2. Involves detailed paperwork.
3. Limited flexibility in contract terms

8. Loans Under Government Schemes

Government-backed loans schemes and funding options are designed to help small and medium enterprises (SMEs) and startups in India by providing favorable terms like less stringent collateral requirements and lower interest rates.

Pradhan Mantri Mudra Yojana (PMMY) - This scheme offers Mudra Loans specifically designed to support micro-enterprises. The loans are provided by various banks and financial institutions.

These loans are categorized into three types based on business needs:

1. Shishu - loans up to ₹50,000
2. Kishore - loans from ₹50,001 to ₹5 lakh
3. Tarun - loans from ₹5 lakh to ₹10 lakh

Credit Guarantee Fund Trust for Micro and Small Enterprises (CGTMSE)- Under this scheme, the CGTMSE offers credit guarantees to lending institutions, allowing them to extend collateral-free loans up to ₹2 crore to eligible MSMEs.

You can also explore more such schemes and options like Stand-Up India, PSB Loans in 59 Minutes, and subsidies from the National Small Industries Corporation (NSIC) , each catering to specific business needs and sectors.

Pros of Government Scheme Loans:

1. Lower interest rates due to government support
2. Minimal collateral requirements.
3. Encourages startups and small businesses.

Cons of Government Scheme Loans:

1. Limited funding based on specific criteria.
2. Application process may be lengthy.
3. Often subject to political or economic shifts.

Final Take

We have covered the major types of business loans available in India, along with their key advantages and potential drawbacks. By now, you should have a clear sense of which loan types might best suit your business needs. From versatile options like term loans to specialized government schemes, we've provided a comprehensive overview to help you make an informed decision and choose the financing that aligns with your growth goals.

FAQs

What is the difference between a term loan and a normal loan?

A term loan is repaid over a fixed period with set installments, typically for large purchases, while a normal loan may refer to any type of loan, including short-term or revolving credit, without specific repayment schedules.

What is a term loan and CC loan?

A term loan is a lump-sum loan repaid over a specific period, while a CC (Cash Credit) loan provides a borrowing limit against collateral, allowing businesses to draw funds as needed up to that limit.

What is the limit of a working capital loan?

The limit for a working capital loan depends on factors like business turnover, creditworthiness, and lender policies, typically ranging from 20% to 25% of the annual turnover.

What is the difference between a term loan and a working capital term loan?

A term loan is for long-term investments, like buying equipment, while a working capital term loan is short-term, aimed at covering daily operational costs with regular repayments.

Can I get a business loan against property?

Yes, you can secure a business loan against property, using commercial or residential property as collateral to access larger loan amounts with lower interest rates.

How much loan can I get against property?

The loan amount against property generally ranges from 50% to 70% of the property's market value, depending on the lender's terms and the property's valuation. To see how much you may qualify for, check your eligibility and discover the secured amount you can access using our secured business loan eligibility calculator.

What is CC and OD in banking?

CC (Cash Credit) allows businesses to borrow against inventory or receivables up to a limit, while OD (Overdraft) permits withdrawing beyond the account balance, up to a set limit, for short-term needs

Is an overdraft loan good or bad?

An overdraft loan is helpful for managing short-term cash flow gaps but can be costly if used frequently, as it usually has higher interest rates.

What is the difference between LC and BG?

An LC (Letter of Credit) guarantees payment to a seller upon meeting conditions, typically in trade. A BG (Bank Guarantee) assures that the bank will cover losses if the borrower defaults on contractual obligations