What Is a Finance Loan

Introduction

A loan, or a finance loan, is a sort of debt. This article will tell you how a finance loan works, about the parties involved, and the different types of loans and the purpose for which they might be given.

History

The mechanism of a finance loan works like this:

The borrower borrows a sum of money, which is called principal, from the lender, and has to repay it over a definite, decided period of time. The payments have to be in installments, and these installments that pay off a finance loan may be monthly, quarterly, yearly, etc. The reason why the lender is willing to give a finance loan is because he earns a sum of money on the principal – this is called interest, and it is a definite percentage of the remaining amount of the loan.

The parties involved in transactions relating to a financial loan are as follows:

Often, in this area, the lender is a bank or a banking institution. More broadly speaking, private individuals can also give out finance loans. The borrower may be an individual, a group of persons, a company, an association of individuals, etc.

Features

A finance loan may be of mainly four types:

Secured finance loan: In this type of loan, the borrower has to pledge something he owns and that is of value, say, a house or a yacht, as collateral. In case the borrower fails to repay the amount stipulated in the loan contract, the lender has a legal right to sell this house, yacht or other possession of the borrower to secure the money he had lent.

Unsecured finance loan: You can intuitively understand that these loans are the type where nothing of value that the borrower possesses is pledged as security against failure to pay. Interest on these loans is higher than it would be for a secured financial loan – this is because the lender is taking a bigger risk here, as in case of failure to pay and bankruptcy, secured lenders will be paid back out of the proceeds of the sale of the estate of the borrower before unsecured ones, and so, he may run a loss.

Demand finance loan: These last for a short duration, typically six months, and they do not have to be paid back in regular installments. The lender can call for their payment at any time, and the borrower will have to comply.

Subsidized finance loan: In this type of finance loan, the interest is reduced. The reduction may be due to governmental policy (say, a government might want to provide incentive to the setting up of self-help women's groups in an area, and they will be provided with loans that have lesser interest rates) or because of the status of the borrower – student loans, for example, come with little or no interest.

Comments

Most Recent Articles