Any amount of money or material you borrow which you agree to return within a short period of time can be called a “short term loan”. But in Financing parlance, Short Term Loan[1) refers to:
- A type of financial assistance granted by a legitimate lending company like a bank or a finance company which is payable within 1 to 2 years; few lenders grant 2-year short term loans and considerations before taking one.
- The loan amount is usually less than the amount granted under medium and long term loans. Most short term loans do not exceed the average monthly pay of employed borrowers or the maximum monthly receivables of businessmen borrowers.
Lenders use your debt-to-income ratio’, which equals your total monthly debt payments divided by your gross monthly income to determine your loan entitlement amount.
- Short Term loans bear Higher Annual Percentage Rate (APR), usually this is allowed by law because such loans aren’t guaranteed by hard collateral like real estate properties or chattel.
- Short Term loans are called Unsecured Loans’ because borrowers’ credit limits are not based on collaterals but on credit worthiness and income. This is one main reason why the repayment period is relatively short and done in installments.
- The principal and the interest on the loan must be repaid in full within the term of the loan in accordance with the amortization schedule usually weekly/monthly or on the due date.
- Most lenders set high eligibility criteria when evaluating first-time applicants. They evaluate your:
- Credit score-You are entitled to a free Score from government-endorsed credit bureaus.
- Current income and Expenses-To be discussed with lender’s Loan Processor,
- Employment/Business history-You prepare it.
- Equated monthly installment-The lender determines this.
- Repayment history. To be checked by Loan Officer.
- But lenders usually are lenient on valued businessmen-regular clients who require limited operating capital to replace delayed collections and employees who could present lenders’ valued clients as guarantors or co-makers.
Short term loans must be distinguished according to the purpose to identify application requirements. The 2 categories according to purpose are:
- Business Loan-Loans to support existing business operations like emergency purchases, payment of related bills fall under this category.
- Personal Loan- This includes all loans to finance the acquisition of materials or implementation of activities not related to business.
To apply for a short term loan, you must be of legal age, not a subject of imminent legal or physical disability and be able to submit the applicable requirements :
- Business Loan- 1 to 6
- Personal Loan- 1 to 4
- Proof of identity of the loan applicant (Passport. Voter’s ID or Driver’s License) and 2 passport size photos
- Proof of Residence (Passport, iRation card, telephone bill, electricity bill)
- Bank Account Passbook or bank statement
- Most Recent Income Tax Returns
- Balance Sheet and Profit and Loss Statement-certified by a Chartered Accountant
- Current Trade licenses/Establishment/Sales Tax Certificate for the Proof of Continuation of his profession
Here are 6 Types of Short Term Loans:
- The Credit Line – This is for merchants with brisk commodity turn-over.. The bank grants you a credit limit which you can request to be given in one full release and have it be deposited in your savings-checking account; you withdraw only every time you need cash. You can also apply for a staggered release where you can withdraw only when you need cash. The drawback of full release is that you pay interest on the full loan principal part of which you don’t utilize; but you can take it out anytime without applying for release.
- Fixed-Term Bank Loans-This is a single release loan that you will pay at the fixed due date. The interest may either be discounted upon release or added on the principal at the due date. You may renew this loan before its due date to make it current should you wish to delay extend your use of the loan.
- The Bank Overdraft facility is a type of credit line that banks give to valued clients. This is linked to your existing Checking Account. In the event that you issue a check not fully covered by funds, the bank automatically cover the insufficiency and charge interest according to the loan agreement
- Merchant Cash Advances is for wholesalers who accept credit card/debit card payments. The bank advances a lump sum amount to the merchant. This cash advance is subsequently paid by the merchant daily to the bank from the proceeds of his receivables. The bank requires the merchant to link the bank to PayPal or Visa to have access to the merchant’s collections.
- Invoice Financing or Receivables Financing is similar to merchant cash advance financing. Here, the merchant pledges his receivables-as shown by invoices of goods sold on credit- as a guarantee for a short term loan.
- Payday Loans is for people who rely on fixed and regular income from employment or small business. Repayment here is guaranteed because the lenders are much more willing to renew defaulting borrowers until the loans are fully paid.
Generally, the short term loans seem to be advantageous to borrowers because:
- The release of loan proceeds is fast.
- The requirements are lenient compared to medium or long term loans.
- Renewing defaulting loans is allowed thereby giving borrowers breathing space to pay their obligations and maintain a good credit score.
- The amount granted is small thereby giving small borrowers a chance to obtain cash for emergency purposes.
But short term loans are more advantageous to lenders because:
- Due to the short duration of a payment schedule, lenders’ capital turn-over is fast thereby giving them a chance to earn more.
- The borrowers virtually come under the lenders’ control once they default in payment; the lenders would be continuously earning at the expense of the borrowers. Unless defaulting borrowers go absolutely bankrupt or permanently disappear, lenders can resort to court remedies to collect
Short term loans have advantages and disadvantages depending on where you are in relation to them.