Term loans are defined as long-term loans suitable for funding significant monetary needs of a business. Working capital loans, on the other hand, are predominantly borrowings to offset the short-term operational expenses.
While working capital loans can be utilised to meet short-term obligations, long-term loans are mostly availed when there is a need of expansion. As working capital loans are unsecured in nature, the credit score of the applicant holds the strongest weightage in the process of loan approval. With a clear repayment history, you can easily avail such loans and boost your working capital within a very short time. Documents required for sanctioning are also less compared to term loans.
There are various grounds on which one can differentiate between these two loans, namely term loan and working capital loan.
As mentioned above, term loan is a long-term loan with smaller monthly instalments courtesy their lengthier repayment tenors. This kind of loan is generally applied to diversify the existing project or to expand the project scale. Therefore, the term loan is also regarded as project finance loan.
The working capital loan, on the other hand, is short-term finance by the financial institutions to pay daily operational expenses. This loan caters to the need of SME groups and further helps them boost their financial stability and foster their growth.
- End use:
Term loan – It is granted for purposes like business expansion, buying income generating assets like machines, inventories, etc.
Working capital loan – This loan is disbursed for operating daily expenses like paying wages or managing cash crunch. It enables easy cash flow and eases businesses from the financial set-backs. The borrower can only use this loan amount in procuring current assets or paying current liabilities.
The tenor of term loan generally lasts up to 10 years, but for few specific cases, it can extend up to 30 years.
Working capital loans are short term business loans for making short-term payments only. Therefore, duration of this loan lasts up to a maximum of 3 years.
Under term loan, there is a repayment schedule in the form of EMI, all inclusive of the principal loan amount and interest thereupon. While in case of working capital, one can make the repayment in short span and flexible repayment options like bullet payment, balloon payment, EMI, etc.
Term loans are secured loans since assets are kept as collateral, and based on the market valuation of the asset, the loan is disbursed. However, in case of working capital loan, a new trend has started where collateral or security is not demanded.
Many NBFCs like Bajaj Finserv offer unsecured loans after checking the respective company’s financial accounts to ensure operational steadiness. Strong financial standing allows the firms not to pledge their financial assets against the loan, but it is important to note that loans which involve high risk require some sort of guarantee or assurance to back the financial institution from the bad debts or future insolvency of the borrower.
- Rate of interest:
Term loans incur lower rate of interest compared to working capital loans. It is so because working capital loans are collateral-free.
In case of term loans, EMI value is equally distributed throughout the tenor with fixed rate of interest. In case of floating interest rates, the EMI varies. As such, opt for the type of loan that suits your repayment capabilities perfectly.
Negative cash flow can not only hamper the output capacity of a firm but can also cease its growth and market credibility. In the interest of the borrowers, these loans are easily available in the market by various financial institutions. The correct appetite of the loan requirement has to be analysed by the business units and accordingly look out for appropriate loan option, i.e. whether the need is for survival or expansion. Post-assessment, one should avail these corporate debt loans to capitalise on an opportunity.