Small
Business Loans: A Little Lesson on Loans
The
opportunity to spend money is everywhere. There is no shortage of places
that will take your cash. In fact, to keep the money flowing out of your
wallet, banks and merchants continually come up with easier ways for you
to spend it.
But when
it comes to borrowing money, suddenly the cash pipeline doesn't operate so
smoothly. Money becomes a more complex issue with documents and
terminology that practically require you to have both an MBA and Law
degree to fully understand.
Before
you get dazed by the paperwork and lost in the legalese of loan products,
here is a quick lesson on loans.
1) The
Basics
When you
get a loan, you are borrowing money with a promise to pay back the
original amount (principal) plus an extra amount as a fee (interest) for
the privilege of borrowing. The amount you pay in interest is normally a
percentage of the loan amount -- the interest rate.
Example:
If you borrow $100 with an interest rate of 10%, you will pay back $110.
That consists of the $100 principal plus $10 interest.
2) Loan
Categories
From a
broad perspective, loans fall under one of two categories: a) Installment
loans and b) Revolving Credit loans.
a.
Installment loan:
The
installment loan is probably what most people think of when talking about
a loan. Money is borrowed from the bank in one lump sum and normally paid
back in installments, or increments, over a set period of time. The sum
paid back can include both the principal plus interest or the payments may
contain interest only with the principal being paid all at once in the
last loan installment, known as a balloon payment.
Loans
that fall under this category include mortgages, personal loans, and auto
loans.
b.
Revolving Credit loan:
Revolving Credit (also called Revolving Line of Credit or Credit Line) is
a loan where a lender allows someone to borrow money up to a specific
limit, called the credit limit, whenever money is needed. The borrower
draws down the credit limit every time an amount is borrowed. The borrower
can use as much of the credit as he or she wants. When a repayment is
made, the available credit rises by the paid amount.
Example:
Borrower gets a credit limit of $1000. $100 of the credit is used to buy
merchandise. The credit limit now decreases by $100 to $900. A day later,
the borrower decides to borrow another $100 decreasing the credit limit to
$800. Next month, borrower pays back the $200 plus interest and the credit
limit goes back to the full $1000.
Loans
that fall under this category include credit cards, home equity line of
credit (HELOC), and business lines of credit.
3) Rates
As you
already learned, the interest that you pay is calculated as a percentage
of the principal amount. Some loans have a fixed interest rate while
others have an adjustable rate of interest.
A loan
with a fixed interest rate means that the interest you pay stays the same
throughout the life of the loan.
The
adjustable rate loan, on the other hand, has an interest rate that can
fluctuate from period to period. That means a borrower can expect to pay
more or less interest as the rate fluctuates. The rate's movement is tied
to indexes that track a basket of interest bearing investments. As the
interest rates of the index moves up or down, the interest rate on your
loan is adjusted accordingly.
There
you have it. You just completed your lesson on loans. Now that you have a
grasp of the basics of loans, you will be better prepared to understand
the minute details of the loan that you need.
Andy MacDonald may be contacted at
http://www.swiftmediauk.co.uk
links@swiftmediauk.co.uk
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MacDonald's articles.
Andy MacDonald owns and runs his own
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called
Swift Media UK which also
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