What is Short Term Loans?
A short term loan is a type of loan that is obtained to support a temporary personal or business capital.
It can be used to increase value across a wide range of categories, such as financial, need.
Short Term Loans In South Africa?
Why would you need a short term loan?
A short term loan is an unsecured loan that can be taken out by anyone. The loan term could be between a few months to a few years, meaning that you would need to repay the loan sooner than a normal personal loan. This type of loan is used for unexpected car or home repairs, managing monthly payments if your income is late, emergency medical bills or if you have no emergency fund.
How does a short term loan work?
A short term loan works much like many other personal loans, however, the main difference is the time frame. It needs to be repaid within a year or a few months, even a few weeks, depending on your type of short term loan. Once you’ve applied for the loan, the lender does a credit check to review your financial history. If your application is accepted, you could receive a loan offer within the hour. This is unlike other loans, where the approval/rejection process takes longer. When you agree to the loan offer, the money would be transferred during the next 24 hours.
Advantages and disadvantages of short term loans
Advantages:
- Quick money – Get access to cash fast to help you take care of unexpected needs.
- Unsecured – Short term loans do not need any collateral to be used as security when you apply.
- Good credit is not always required – Some short term loans can be granted even without a good credit score. Making them easier to acquire.
- Short-term commitment – Because of the short term loan term, you don’t need to worry about paying back over more than a few years. This means paying interest over a shorter amount of time.
- Flexible agreements – A few short term loans offer flexible loan agreement terms depending on your specific needs.
Disadvantages:
- Higher interest rates – These types of loans have higher interest rates than normal personal loans. This means that you could end up paying higher monthly payments along with a larger total loan amount.
- Short-term solution – If you’re needing a loan to solve a long-term financial hardship, it might add to your debts and make it a little more difficult to recover from.
How short term loan can affect credit
Like any other loan, a short term loan has some effect on your credit score. Lenders will conduct a hard inquiry check on your credit, which will cause your credit score to drop by a few points. Late or missed payments has the same consequences on short term loans as other loans, by negatively impacting your credit score and adding to your debt-to-income ratio. Payday loans can be used to help build credit as it is not reported to credit bureaus. Other types of short term loans, however, are reported to credit bureaus so make sure you stay on top of your payment schedule.
Types of Short-Term Loans
Let us discuss some of the types in detail.
#1 – Line of Credit (LOC)
A line of credit is a kind of loan wherein a bank or financial institution sets a maximum loan amount that an individual is allowed to borrow. The borrower has the flexibility to withdraw the loan amount in a lump sum or instalments. Borrowers cannot withdraw beyond the permitted limit, which is determined based on their creditworthiness.
In return, the bank charges only on the withdrawn amount and not the remaining available balance of the loan. When it’s the time to pay the dues, the borrower will not be able to withdraw until the due principal and interests are paid. After paying the dues, the borrower can resume using the line of credit service. LOC works best when one requires a regular supply of credit.
#2 – Short-Term Bank Loans
Unlike a LOC, loans terminate at the end of a fixed tenure. Therefore, if the borrower wishes to borrow once again, they may have to apply for a fresh loan. An example is a personal loan to finance a wedding.
#3 – Bank Overdraft
A bank overdraft is one of the most common types of credit facility. Under this service, if bank account holders have insufficient money in their account than the amount they are trying to withdraw, the bank will provide the rest. In return, the bank charges interest with some setting exorbitant rates.
Businesses have innumerable transactions every day, leading to a fast-falling bank balance. A bank overdraft service avoids operational interruption due to rejected payments on account of a low balance. However, customers need to exercise caution when using bank overdrafts. Some reputed providers have charged unaccrued interests from their customers. Often, these banks have paid millions in fines for such illegalities.
#4 – Merchant Cash Advances
They are suited to businesses with large credit card/debit card sales instead of cash sales, i.e., their customers make card payments during purchases. Under this facility, a financial institution agrees to advance a lump sum amount to the borrower. The lender subsequently recovers this amount as a percentage of the borrower’s daily sales.
#5 – Invoice Financing (Receivables Financing)
Under this facility, a company borrows money from a bank or financial institution against the money due from its customers, i.e., account receivables. When customers take time to pay bills, a company can borrow in the meantime to meet its liquidity requirements. Lenders charge a fee for invoice financing, which they deduct from the lent sum. Receivables can be used as collateral, so if the borrower defaults, the bank can rely on them.
#6 – Payday Loans
With payday loans, the borrowing amount is determined based on the borrowers’ earnings, mostly as a specific percentage of their income. Repayment is to be made upon the receipt of the next paycheck/income. Payday loans come with unreasonably high interest rates and can be acquired either online or from stores.
Why you should avoid short-term loans
Short-term loans should be used only as a last resort to cover expenses that must be paid where you have no other alternatives.
Interest rates and fees
The interest rates on these loans are often very high. For just a few thousand dollars (most lenders won’t offer much more than R159116.58 or R238674.88 at most), the borrower could be on the hook for an APR approaching 400 percent or more.
Lenders expect their money to be paid back quickly—certainly within a year, usually in just a month or two weeks. You need to make sure you have a solid plan to pay it back within the terms of the loan because the consequences can cost you even more. If you are unable to repay the principal within the allotted terms, sizable late fees begin to accrue.
Credit score penalties
These loans may also affect your credit score, both positively and negatively. Some companies make what is called a hard inquiry on your credit, and your credit will take a slight hit for that. Additionally, if you miss a payment or don’t pay off the loan in time, your credit will also be negatively affected.
Potentially hazardous cycle
The biggest drawback to short-term loans is that often they do not adequately solve the underlying problems that cause you to need a short-term loan. In fact, with their high interest rates and fees, they often make the problem worse.
You have to pay the interest and fees to get the short-term loan, so you have less money next month, which makes it even more likely you’ll need another loan. It’s a vicious cycle that’s difficult to escape.
Alternatives to short-term loans
There are short-term loan alternatives that may work for you. While these alternatives may not work for everyone, you might consider one or more of the following:
- Asking friends and family: If you do borrow money from friends and family, make sure that both of you are clear on if and how the money should be repaid — otherwise the loan can damage your relationship.
- Borrowing from the equity in your home: If you have a larger emergency or one that is not urgent, and own your home, you may be able to tap into your home’s equity with a home equity loan or line of credit. These alternatives usually take a few weeks.
- Taking out a personal loan: Personal loans can be an alternative to short-term loans as well. The terms and rates that you get with a personal loan vary depending on your credit, but they’re usually much better than those of most short-term loans. Personal loans typically have a fixed repayment period over the course of a couple of years.
- Using a credit card: If your emergency can be paid with a credit card, it may be a better and cheaper option than taking out a short-term loan.
Which loan is best for short term?
5 types of short-term loans in India
Trade credit. This is possibly one of the most affordable sources of obtaining interest-free funds. …
Bridge loans. A bridge loan will help to tide you over until you get another loan, usually of a bigger value, approved.
Demand loans.
Bank overdraft.
Personal loans.