Working Capital Loan

If you are wondering what is working capital loan is, it is a credit facility offered by various banks and NBFCs to startups, self-employed professionals, business owners, MSMEs, and other businesses to manage their day-to-day business operations, thus enhancing business cash flow. These short-term business loans help businesses to meet their urgent cash requirements. You can conveniently repay them within 12 months. Working capital loans are offered as secured and unsecured loans, as well as in the form of an Overdraft facility, Letter of Credit, and Merchant Cash Advance

Now that you understand the working capital loan meaning, here are some key benefits of these loans:

• Short tenure ensures fast repayment: The repayment period of working capital loans can range from 9 to 12 months making it easy to repay them in a short period. Borrowers do not have to pay EMIs for longer periods if they avail of this loan.
• Manages financial crisis easily: Even if your business is profitable and has many fixed assets, it may still witness a financial crisis at times. In such situations, a working capital loan can be a boon. Even under the best circumstances, poor working capital may lead to financial pressure on your company and result in increased borrowing and late payments to vendors/creditors. These factors can impact your credit rating negatively. A lower credit score may result in a higher interest rate on loans.
• No collateral needed for unsecured working capital loans: Unsecured business loans do not require you to pledge any security or collateral to get funds from a bank or NBFC. Borrowers with a good credit history may become eligible for unsecured working capital loans. Lenders will check your credit history and upon successful verification, will offer you a loan.
• Provides financial support to seasonal businesses: Running a seasonal business can be difficult as they witness high sales during a particular season only. You may face various challenges in maintaining your annual revenues. A working capital loan can be of great help during the off-season by helping you overcome the financial blows due to the lack of adequate spending money.
• Spend when you want: Working capital loans do not have any restrictions on how and when the funds can be used. However, you must use the funds for valid needs to ensure that your business can thrive independent of credit to manage expenses.

There are multiple varieties of working capital loans available in India as described below:

• Short-term Loans: A short-term loan is a a full-fledged loan that involves a fixed interest rate and repayment period. It is important to pay the loan back along with interest on time. The tenure of a loan is set by the lender depending on the borrower’s repayment capacity and requirements. This working capital loan type is usually secured and is best suited to cater to any unexpected expenses. If your business has a good credit record or you have a long healthy relationship with the lender, you may also get a short-term loan without any collateral.
• Cash Credit: These are the widely used types of working capital loans for small businesses. This credit facility is offered by commercial banks where the borrower gets approved for a specific credit limit that can be used for meeting various business needs. The main benefit of availing of this loan is that the cash credit acts like a credit card where the borrower pays interest only on the amount utilised.
• Overdraft: Overdraft is a common credit facility availed of by most businesses. Under this loan type, the purchaser obtains a specific amount for paying operating payments. The interest rate and line of credit depend on the enterprise’s relationship with the lender. The businesses are required to pay the interest only on the amount utilized, instead of the entire loan amount. It is a cost-efficient solution as the borrower keeps on depositing the surplus amount as and when they can, to save the interest cost.
• Letter of Credit: This working capital finance is similar to the Bank Guarantee, obtained by a borrower. The key difference in both types of loans is that in the Letter of Credit, whenever the opposite party delivers as per the defined terms the lender will pay for it. Hence, the borrower will purchase a Letter of Credit which will be sent to the seller with terms and conditions written on it. The seller will get the money from the bank as it performs the services according to the agreement. The purchaser will pay their dues to the lender.
• Accounts Receivables: Accounts receivable financing needs financing for a sales order received by the business and needs to make payments for providing the deliverables. This financing is only for the confirmed sales orders, where the firm is unable to gather the required funds to pay for them. However, to get this loan, businesses must have an excellent credit record.
• Bill Discounting: Bill Discounting, also known as Invoice Discounting is most availed of credit by businesses for generating bills on sales. The statements or verified documents produced in front of debtors by a firm are the proof of getting the required funds the debtors owe them. Lenders extend this facility to the firms by offering them a loan amount after adding a discount on the amount of the concerned bill on the bank interest rates. The leftover amount will be repaid to the seller. When the bill matures, the lender will collect that discounted money from the debtor.

Below is the working capital loan interest rates comparison of various lenders:

A Term Loan may seem a bit similar like a Working Capital Loan, yet there are some differences between these to types of financing. Know these differences in the table below to finalize a loan for your business:

• The age of the applicant should be 21 to 65 years.
• Annual Turnover, Business Vintage, and Profitability must be as defined by the lender.
• Applicant/enterprise must have a good credit score, repayment history, and financial stability.
• There should be no previous loan default with any lender.

You will be required to submit the following documents to obtain a working capital loan:

• Duly filled loan application form along with passport-sized photographs
• KYC documents of the applicant as well as co-applicants (if any) including Passport, Aadhar Card, PAN Card, Voter ID Card, Driving License, or Utility Bills (anyone)
• Bank statement of last 1 year
• Certificate of Company Registration & Incorporation
• Partnership deed (if applicable)
• Any other document asked by the lender