Know the Different Types of Loans: From Personal to Small Business
Before delving into the various types of loans available in the financial market, we’d like to clear up the perennial misunderstanding between the terms credit and loan. Despite being used interchangeably in colloquial language, these two terms refer to different financial products.
In a loan, the client (borrower) receives the amount of money that he/she requested previously. The loan amount and the accrued interest must be repaid within the time frame previously agreed upon with the financial institution (lender). The loan payment is usually made in regular installments (monthly, quarterly, semi-annually, etc.).
In the case of credit, the client does not need to request the funds; the bank makes them available to him. The client only pays for what he has available to him. Typically, the interest rate is greater than the loan amount.
Loan classification
Loan types are not classified in a unified manner. We can organize them based on various criteria, such as the destination, the guarantee, the loan recipient, the lender, the time of concession, the amount granted, the guarantee, or the required requirements, and so on. In this article, we will concentrate on the two most common classifications: types of loans based on maturity terms and types of loans based on the purpose of the money.
Loan classifications based on the maturity date
- Short-term loans: Loans with a maximum term of one year.
- Medium-term loans: Loans with maturities ranging from one to three years.
- Long-term financing: Loans with a repayment term of more than three years.
Loan classifications based on destination or purpose
- Loans for individuals
These loans are used to fund specific needs at a particular time. They are typically small sums used to cover unexpected expenses such as travel, repairs, weddings, and so on.
- Personal loans
Consumer loans are used to finance long-term purchases such as automobiles, furniture, and appliances.
Personal loans and consumer loans are typically smaller loans with a short repayment term.
- Loans for students
These loans are prevalent in the United Kingdom and the United States, but their use is spreading worldwide. These are loans used to pay for university tuition, postgraduate studies, or master’s degrees. Student loan interest rates are lower than personal loan interest rates.
- Mortgage loans
In these loans, an entity leaves money based on a genuine guarantee, which is a real estate mortgage (home, garage, storage room, premises, plot, etc.). These are medium-term to long-term loans (between 15 and 30 years). Various mortgage loans are available, depending on the interest rate (fixed, variable, or mixed), the type of installment we pay, or the currency in which the loan is disbursed (normal or in foreign currency).
- Loans for Businesses
Business loans are one of the forms used by companies to obtain financing, either for production, investment in fixed assets for expansion, or implementation of various projects. At present, we can find financing alternatives such as crowdlending or crowdfunding, new models that, after the financial crisis, represent for many small and medium-sized companies the only way to obtain financing.
Short-term loans for companies, for example, are aimed at companies that need specific financing for production campaigns, companies with incoming and outgoing cash flows that do not correspond and have liquidity problems or companies that are going to make investments amortized in a short time.
On the other hand, medium and long-term loans for companies are indicated to companies that have just been created and need external capital. This money is often used for investments in equipment and technical facilities or intangible assets.