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What is a Term Loan? Definition, Types and Benefits

What is a Term Loan? Definition, Types and Benefits

As a small business owner, you know the challenges of securing funds to invest in new growth opportunities. From acquiring fixed assets to managing day-to-day operating costs, from expanding your facility to meeting an emergency situation at business – obtaining funds for your small business is easier said than done. Fortunately, many banks and lending institutions have term loan programs that are designed for businesses to help meet their capital expenditure and expansion goals.

In this blog, we will understand what a term loan is, the different types of term loans available, eligibility, features and benefits. So let’s dive in.

What is a Term Loan?

A term loan is usually granted to small businesses wherein a bank or lending institution provides you with a one-time lump sum upfront payment to help meet your financial goals – purchase a new establishment to fuel your production process or get equipment or other assets to keep your business running. You can also use the cash to meet your month-to-month working capital needs.

The loan is extended for a fixed tenure, and you must repay it in equated monthly instalments. The repayment amount includes the principal and an interest rate, which may be fixed or variable depending on the type of loan you take. A term loan is generally given for a longer tenure, say one to twenty years. Minimal eligibility requirements, flexibility of repayment, and quick fund disbursal are some of the key benefits of term loans.   

Types of Term Loan

If you are considering getting a term loan, you typically have three options: short-term loan, intermediate loan and long-term loan.

1. Short-Term Loan

As the name suggests, short-term loans are taken out for a shorter repayment tenure, usually 12–18 months. It is ideal to help meet your temporary financial requirements, such as a working capital crunch, business expansion, or operating costs. The principal loan amount is less and is determined based on your eligibility. The interest rates are generally higher for short-term loans because of their shorter repayment period.

This type of term loan can be unsecured or secured. To obtain secured loans, you have to provide some form of collateral, and hence, the interest rates are typically lower. On the other hand, lenders provide unsecured loans based on your creditworthiness. The interest rates are often higher for these types of loans.

Some common examples of short-term loans are salary loans, credit cards, gold loans, overdraft facilities, demand loans, etc.

2. Intermediate Loan

These are medium-term loans that are granted for a period of around 2–5 years. You can obtain an intermediate loan for equipment or asset purchases, business expansion, repairing or renovating manufacturing plants and buildings, etc. The loan amount may vary from anywhere between ₹25 lakhs and ₹5 crores. These are ideal for MSMEs or businesses that have a turnover of ₹1 crore to ₹250 crore.

The interest rate on an intermediate-term loan is often lower compared to short-term loans because it is charged annually. This type of loan is generally unsecured, and the maximum principal amount you can borrow depends on your business’s creditworthiness, your eligibility, and the lender’s policies.

3. Long-Term Loan

Long-term loans are available at attractive interest rates and come with an extended repayment tenure of up to 25–30 years. When you need lump-sum funding for your business or personal needs, this is the best option. The loan amount is huge and spreads across monthly/quarterly instalments over the repayment tenure. The interest rates are also lower than for short-term and intermediate loans.

Since this involves a lump-sum loan amount, long-term loans are mostly secured in nature. The borrower must fully own the pledged collateral, and it should be free of all litigation and mortgages. You may also find long-term loans that offer tax benefits for individuals and businesses. Some common examples of this type of loan are home loans, business loans, auto loans, etc. 

Understanding the Pros & Cons of Term Loan

Not all types of loans are ideal for your business or personal needs. Therefore, it is crucial to thoroughly assess the pros and cons of a term loan to determine if it is a good option for you. 

Pros of Term Loan:

  • Lower rates of interest: Get attractive interest rates on your term loan which is typically lower than personal loans, mortgages, or other types of business loans.
  • Flexible repayment terms: You can easily repay the lump sum amount over a long period of time without being a financial burden for you or your business.
  • Variable uses: Ideal for meeting your short-term as well as long-term financing needs, including business expansion.
  • Structured and consistent payments: With fixed interest rates and structured repayment plans, you know how much you have to repay and when. Your monthly payment amount remains consistent, so you can efficiently plan your finances.
  • Tax benefits: The interest that you pay on your term loan is often subject to tax deductions.
  • Improved flexibility: You have the flexibility to take out any loan amount you need for your business or individual purposes. Depending on the type of term loan you apply for, you can also choose your preferred tenure so you have budget-friendly EMIs.
  • Quick disbursal: Many lending institutions offer online loan application procedures, so you do not require physical paperwork or branch visits. Short and medium-term loans often require limited documentation, speeding up the loan approval process. 

Cons of Term Loan:

  • Requires collateral security: Some banks and lending institutions require you to put down any form of business collateral to secure a term loan. If you fail to repay your loan, the lender holds the right to seize your business asset that you put down as collateral.
  • Restrictive covenants: Some lenders may impose certain types of restrictive covenants when you take a term loan. Examples are maintaining the required asset base, closing your existing business loans, not taking other loans, etc. Such covenants may affect your business’s functioning.

Understanding the pros and cons of a term loan can help you make an informed choice and fulfil your financial obligations.

Key Features of a Term Loan

Wondering how does a term loan works? Discussed here are the key features of various types of term loans.

Loan Amount

With term loans, you get a fixed lump sum amount, which typically varies based on your eligibility and the type of loan you take.

Loan Category

Term loans can be both secured and unsecured in nature. For secured loans, you need to put down your business asset as collateral, whereas unsecured term loans do not require any collateral – however, the interest rates are much higher.

Repayment Period

This type of loan has a specific repayment tenure – short, medium, and long-term. You have the flexibility to choose your preferred repayment tenure depending on your loan requirement. You can repay the loan in monthly, quarterly and half-yearly instalments based on the type of loan.

Interest Rate

In general, term loans have fixed interest rates, so your scheduled repayment amount remains the same throughout the loan tenure. Your lender will decide the rate of interest based on your creditworthiness and eligibility. However, some term loans also come with floating interest rates.


If you are purchasing a fixed asset, equipment, or business establishment, the lending institution will only provide up to 75% of the value. You are required to arrange the remaining margin amount. This margin depends on your eligibility and is often, negotiable. 

What are the Eligibility Criteria to Get a Term Loan?

The eligibility criteria for term loans may vary from one lender to another. However, there are a few basic standards that most lenders require you to fulfil. These include:

  • You must be an Indian, aged between 21 and 65 years to obtain a term loan.
  • If you are an individual, you must have a net salary of a minimum ₹20,000. For businesses, the minimum annual turnover should be ₹6 lakh.
  • You must have a good credit score of above 700. Any score higher than 750 is more favourable.
  • The current business should be in existence for at least three years. As a business owner, you should have at least 5 years of business experience.
  • You must produce proof of a consistent income source or monthly salary.

As proof of your eligibility, you must produce various documents as required by the bank or lending institution:

  • KYC (Know Your Customer) documents that include your Aadhaar Card, valid Passport, Driving License, Voter’s ID, NREGA Job Card, or Letter from NPR.
  • Proof of business ownership
  • PAN card
  • Address proof of your business, such as utility bills, etc.
  • Financial documents such as your last 6 months' bank statement, IT returns, etc.

The documents mentioned above are only indicative. Your lender may require you to submit additional documents when applying for the loan.

How to Apply for a Term Loan?

Want to apply for a term loan? Discussed here are the steps that will make the entire process hassle-free for you.

Research banks and lending institutions

Clearly determine the purpose of taking a term loan – whether it is for personal use, equipment purchase, or business expansion. Once you have assessed your needs, explore different banks, financial institutions, and online lenders that offer term loans. Compare them based on their interest rates, eligibility criteria, terms, repayment schedule, etc.

Gather necessary documents

Check if you fulfil the eligibility criteria set by your preferred lender. Likewise, arrange all necessary documents, such as identity proof, bank statement, income proof, and other documents as required by the lender.

Complete the application form

Fill out the loan application form with up-to-date and accurate information. This should include the purpose of the loan, personal and business details, and the desired amount.

Review the terms and conditions

Once you submit the application, the lender will review your creditworthiness and financial standing. If the loan application gets approved, you must review the terms & conditions carefully. This includes information about their repayment schedule, interest rates, additional fees, etc. Based on your understanding, you can decide whether to take the loan or not.

Factors Influencing Your Term Loan Eligibility

There are various factors that may affect the eligibility of your term loan. These include:

  • Your income stability
  • Credit score
  • Purpose of the loan
  • Debt-to-income ratio
  • Loan-to-value ratio
  • Collateral security
  • Your track record of credit repayment
  • Business infrastructure


Whether you are an individual or a business owner, you can obtain a term loan for various purposes, such as expanding your business, purchasing fixed assets, or refinancing your existing debt. The payment structure, interest rates, and fees are often stable and will minimally affect your financial management. However, you should delve deeper into the pros and cons of a term loan before making a decision. 

Presently, many lending institutions provide a 100% digital loan process with instant approval and disbursal, provided you fulfil all eligibility requirements. This ensures you have a seamless experience taking a term loan. 

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