Short-term loan occurs when a bank lends money for a small period of time. It’s a common practice for banking institutions to provide a short-term loan for a period up to one year. Some commercial banks increase the term to two years.
The size of the short-term loan
Credit institution makes a decision about a different amount of money to be given to individuals and legal entities. The bank considers the borrower’s eligibility for a loan in each particular case. The following factors are taken into account: the inflation level, borrower’s own funds, his debts and the ability to repay the entire amount of the loan on time.
Peculiarities of short-term loans
Short-term loan can be spent on a variety of needs, for instance, to pay for a purchase, training or treatment, to buy necessary goods for a business. In other words it is useful in a situation when the borrower urgently needs cash.
The borrower’s personal property, real estate, equipment, finished goods, etc. can secure the loan.
A warranty of third persons is not required to arrange a short-term loan but is allowed as an additional guarantee of loan repayment.
Banking fees for the administration of on credit accounts may reach 1%, but some banks are charge no fees at all.
The interest rate on short-term credits is 10-15% on average and depends upon the credit institution, the amount and terms of the loan repayment.
Loan repayment is carried out by means of monthly payments in equal shares according to the individual schedule agreed with the borrower. The repayment period usually varies from 1 month to 1-2 years.
The advantages of short-term loans comparing to long-term lending are as follows:
1. The bank makes a decision on the loan within 3 calendar days.
2. To receive a short term loan you need a minimal set of documents, namely passport and a personal identification number.
3. Concluding a contract there is no need to provide an income statement, warrantors and collateral.
4. The bank does not impose penalties on individuals and legal entities for the premature loan repayment. You can pay in cash the entire credit amount or only a part of it in the bank department that issued the loan at any time of the prescribed term.
5. Lending to enterprises has several advantages: flexible terms – from 1 day up to 12-18 months; various amounts of the loan, a lower interest rate and more flexible terms of the loan security.
Underwater rocks of short-term loans
The main pitfall is the higher interest rate. Some borrowers believe they will pay less for the short-term loan because the repayment period is not long. But to lend money for a low interest rate is unprofitable for the bank since it did not end up with a significant benefit. Besides, the bank is forced to raise interest rates in order to reduce the risk of debt non-repayment by other borrowers. Therefore, the interest payments on short-term loans are not smaller compared to the long-term lending but even higher sometimes.
Taking into consideration a growing inflation in recent years, it is preferable for the borrower to take a long-term loan and repay it gradually.
For example, today you borrowed $20,000 for 10 years. Adjusted for inflation, the sum of today’s $20,000 will be very different in 10 years. Given any overpayment of interest, it is better to get the money for necessary needs right now than hoard it for 10 years.
Receiving a short-term loan of $20,000 now, you’ll have to return a 2-3 times greater amount in a year. But it’s clear that in 1 year inflation rate cannot exceed 200-300%.
Types of short-term loans
Each type of short-term loans has its own peculiarities.
This type of loan is available to customers on a basis of the bilateral agreement with the bank aimed at opening an account for replenishing operating capital and elimination of cash shortages in borrower’s payments. But to reach such agreement the client should guarantee a regular inflow of funds to his account. Typically, the first inflow money after the overdraft is spent to repay the short-term loan. If the overdraft repayment is made during 30 days, the bank may release the borrower from paying interest in accordance with the credit terms.
A loan amount is transferred to the personal banking account of the individual or legal entity. Debt repayment is made deducting from the wages of the organization’s employees. Overdraft scheme is often used by small businesses to purchase raw materials, to pay rent, to pay salaries, etc. If a company co;;aborates with the bank for a long time and has a reputation of a reliable payer, the bank can significantly reduce the interest rate on short-term loan repayment. However, interest rate is usually overstated for a beginning entrepreneur.
2. Urgent loan
This kind of short-term loans (as well as overdraft) is also used to cover the gaps in borrower’s payments. Urgent loan is granted for a short period, usually for 1-2 months and the contract specifies the exact date of full loan repayment.
If the bank’s working capital is not enough to provide a loan it can attract additional funds on the interbank resource market. The terms of attracting these funds usually determine the interest rate for the borrower. To make a final decision the bank conducts the analysis of the borrower’s business performance for the last six months to assess lending risks.
If the target short-term loan is given the bank has the right to control the target use of funds.
3. Credit line.
This kind of short-term loan is less beneficial to the borrower because it is granted at higher interest rates. Usually a credit line is available to large companies for the purchase of raw materials, equipment, components or paying salaries. The borrower uses the loan money freely, i.e, manages the funds independently and that’s why the high interest is charged.
Concluding we can say that it is beneficial to apply for a short-term loan only in case you urgently need cash. It’s more advantageous to take medium and long term loans. Although credit terms improve each year and vary according to the needs of borrowers.
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