Whether you are a small, medium, or big-sized company, you know you require adequate finances to fund your business needs and goals. While using the revenue you earn is possible, it might not always be enough or provide the stability you need to maximize your company’s growth. Plus, it may eat away at whatever profits or savings you have. At some point in your entrepreneurial journey, you might have taken a short-term or long-term business loan. A business loan, whether short-term or long-term, gives your business the fuel it needs to expand in size and profits. It also gives you the flexibility to make repayments within a specified time frame. But knowing what type of business loan is ideal requires you to look at your financial capacity, the purpose of the loan, and what your capital needs are. If you think a long-term loan will be right for your company, it would be wise to consider the pros and cons of it in detail before you make a decision.
Pros of a long-term business loan
Lower interest rates
One of the biggest benefits of a long-term business loan is the low-interest rates you can get. Because the duration of the long-term loans can extend up to 10, 15, and even 20 to 30 years, the interest rates of long-term loans get spread over this period. The longer the tenure, the more time you have to repay the loan and the smaller the payments get. You can make easy EMI payments every month without repayment taking over a chunk of your financial reserve.
Higher loan funding
Applying for a long-term loan means you will likely get a high loan amount. When lenders or financial institutions approve of a long-term loan, it usually means you pass their strict eligibility criteria with flying colours. They trust your ability to repay the loan within the given window and consequently disburse a high loan amount. You can use this high sum to fulfil your immediate or future goals. However, long-term business loans are ideal for ticking off goals earmarked for the long-term, like building infrastructure, expanding into new locations, installation of equipment, business acquisitions, and more.
While long-term business goals make repayment convenient, they can also improve your credit score and creditworthiness. But this is subject to certain conditions like paying your EMIs on time and not defaulting on payments. Consistent payments show lenders that you can honour your financial commitments and clear your debt smoothly. It can then influence how they view your credibility and make it easier for you to avail of a business loan the next time.
Cons of a long-term business loan
Stricter eligibility criteria
Securing a long-term business loan requires clearing the lender’s eligibility criteria for business loan. Compared to short-term business loans, availing of a long-term loan requires passing a stricter, more thorough screening process. Lenders might ask for several financial documents, including your bank statements, income tax returns, annual revenue, business history, and fiscal projections. They might also verify your credit (CIBIL) score, outstanding debts, and your business plans and visions, among other financial metrics. These performance metrics indicate your financial capacity and boost the lender's confidence.
Mandatory collateral required
Because lenders put their trust in your company’s abilities and fund a high amount in a long-term loan, they often require a practical backup – something they can turn to in case you default in making repayments. The collateral can be your home or any other real estate, jewellery, gold, your car, life insurance policy, or other assets as per the lender’s discretion. While this might seem harsh, the requirement of collateral in exchange for the loan amount minimizes the lender’s risk.
Stress on cash flows
While it is true that a long-term business loan gives you a long repayment tenure, the same benefit can work against you during unpredictable times or unfavourable market conditions. For instance, the onset of the COVID-19 pandemic saw several businesses shut down or hardly make any revenue. Having a long-term loan during such a time can feel like a bane instead of a boon as you will require constant cash flows to make repayments. As these loans get fixed once and for all, you can find yourself in distress when profits are tight.
The bottom line:
Like a coin has two sides, a long-term business loan has its dual sides as well. Before you opt for a long-term loan, you need to take a close look at your financial situation. If you are sure that you will have consistent cash flows over the long run - and are confident you can pay off the balance on time, a long-term loan can be the right choice. But if you have an unpredictable cash flow or are a small to medium enterprise, a short-term loan might be the right way for you.
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