5 Types of Business Loans an Entrepreneur Must Learn About in 2024

Updated on: 28 Dec 2023 // 5 min read // Business Loans
Author :(534 posts)

As a business owner, you may face multiple occasions when the cash flow is lower than expected, and you have numerous financial obligations to meet nonetheless. It is during such occasions that you are left with a little choice than to opt for a Business Loan. After all, no matter what comes through, your business ought to stand tall.

Fortunately, there are as many as 5 different types of Business Loans that you can choose from based on your needs and preferences. Each of these loan types is listed below in detail for you to assess and pick from.

Types of Business Loans in India

1. Working Capital Business Loan

As the name suggests, WC Business Loan is specially designed for businesses that need cash flow to meet their working capital needs. This is essentially a secured loan, wherein you need to pledge an asset. Hence, it shouldn’t come as a surprise that the Business Loan Interest Rate, in this case is relatively low.

When you apply for a working capital loan, the bank assesses your current finances, as well as your credit history, and on the basis of the same sets a loan limit for you. You can then withdraw the requisite amount as and when needed. Since working capital is usually required in multiple chunks, instead of the traditional lump-sum amounts, the interest is levied only on the amount utilised and not on the entire approved limit.

You must understand that when you take a Working Capital Loan, the bank can and will ensure that the amount is used for the sole purpose of the business operations, and to no other end. Moreover, you must be prepared to hand over the control of monitoring your order books, cash flow, inventories, and more to the bank. In this type of loan, if you fail to abide by the regulations set by the lender, the lender may revoke the loan.

The high level of control that banks exercise ensures lower risk proposition, which is also a contributing factor to the low-interest rates on this loan type.

2. Term Loan

A Term Loan is essentially a loan that is procured for a specific amount of time. Such a loan can be secured or unsecured, Short Term or Long Term, depending on the terms set by the bank, and your preference as a borrower.  Term Loans are usually meant for businesses that are looking forward to purchasing fixed assets such as land, building, equipment, machinery, vehicle, or infrastructure. Such a loan can also be used towards any construction, renovation, or capital infusion needs.

The interest levied on such loans varies depending on a host of factors such as the loan amount, tenure, and credit history of the business.  A Term Business Loan ought to be paid in instalments, which can be monthly, quarterly, half-yearly, or yearly, based on the terms of the loan agreement.

3. Loan Against Securities

This type of loan is essentially a secured loan, wherein you can pledge any of your financial securities such as Shares, Mutual Funds, Insurance Policies, Saving Bonds, Gold Bonds, etc. for the loan amount. However, you must note that most banks only accept those securities as collateral, which are approved by them. Hence, you may need to check the same with your chosen lender, and only then proceed with the loan application.

A Loan Against Securities come with the much-desired benefit of freedom of end-use, implying that you are free to use the loan amount for any need of your business, without any restrictions from the lender.

4. Cash Credit Facility & Overdraft Facility

Cash Credit Facility and Overdraft Facility are similar in the way that both of these loan types are offered as an overdraft against the assets pledged by you. That being said, there are some differences in these loan types.

With Cash Credit Loans, you can procure funds up to 70-80% of the value of the assets pledged. As is the case with the working capital loan, even in this loan type, you can withdraw the amount you require, that is within your drawing power. You must understand that in this case, your lender will always make sure of the fact that your balance outstanding is always lower than the margin fixed by the bank.

On the other hand, an Overdraft Facility enables you to debit the current account of your business below zero. The bank sets the limit to which you can debit, subject to the securities or assets pledged, and the repayment ability. Even in the case of Overdrafts, you will be required to pay the interest on the amount you use, and not on the overall permitted limit.

5. Letter of Credit Facility

This is yet another type of credit facility, wherein the lender offers a letter to a seller on behalf of the buyer (who is also the borrower), stating that the seller will receive the payment for the goods/services sold in full.

In this case, if the borrower is unable to make the requisite payment, the lender covers the payment, albeit on certain conditions which are as follows:

  • The borrower pledges inventory or capital asset for the Letter of Credit
  • The payment is within 60-80% of the value of the assets pledged against this Credit facility
  • The tenure is fixed on the basis of the credit amount, and the borrower’s ability to repay the same. Moreover, the tenure may be renewed every 12 months

This facility offers the much-needed insurance for the buyers and sellers against, any delayed payments, losses or damages and is therefore exceedingly popular in case of domestic and international trade transactions when the buyer and seller are unknown to each other.

We hope that you now have a clear idea pertaining to the different types of Business Loans that you can procure, and how these loans can help tread difficult waters in case of a financial crunch. Now that you know which loan type you will need for your particular set of problems, you can approach your bank or NBFC with complete clarity.