Short-Term Business Loan With Invoice Discounting

Funds are essential for any business, irrespective of its size. The easiest and most cost-effective way to fund a self-started business is to use personal savings. But since the money required to keep a business afloat is on the higher side of the spectrum, depleting personal resources may not be wise. Hence, it is important to choose the right financing option to support a business. A good alternative to fulfill these credit needs is to opt for a business loan.

Business credit taken from banks and NBFCs is of different forms depending upon the duration and the quantum of credit required as well as the purpose for which it is availed. For those who are in dire need of money but at the same time do not wish to get entangled in a debt-trap, a short-term loan can be ideal.

What Is A Short-Term Loan?

Short-term loans, as the name suggests, do not have a longer duration. Most of these must be returned to the lender within one-two years. Short-term loans can be taken to support a temporary requirement. Such loans include working capital loans, which can be used to keep the business running, hire and pay staff, and restocking inventory.

The proceeds of the loan amount must be returned to the lender with interest in installments within a predetermined repayment tenure. Most short-term loans are unsecured and thus, have a high interest rate, meaning higher EMI due to a limited tenure.

There are different types of short-term loans for small-to-medium sized businesses to choose from. And this is where invoice discounting comes in.

What Is Invoice Discounting?

Invoice discounting is a special type of a short-term loan in which a business pledges its invoices to a third party, usually a financing company, to borrow a certain percentage of the value of the invoices. Through this form of credit, business entities instead of waiting for customers to clear the payment, leverage their unpaid invoices to raise funds. After the customers pay off the dues, the borrower repays the loan.

The loan is offered by the lender only after verifying the validity of the invoices. The financing company lends a value of the invoices after excluding a small percentage as fees to cover costs and risks. The fee is usually between 1% and 3% of the total.

In these types of loans, the invoices are used as security, helping lenders to reduce the risk of non-payment. Usually, the rate of interest for such loans is based on the value of the invoices and the business’s creditworthiness.

Invoice discounting is usually availed by companies to improve their working capital and cash flow position. There are a few types of invoice discounting for businesses to support short-term working capital requirements. While a whole turnover invoice discounting allows funding against every invoice that a business generates, in selective invoice discounting single invoices are used to raise capital.

Other Short-Term Loans

Apart from invoice discounting, some other short-term loans available for small and medium sized businesses are invoice factoring and vendor financing. What separates invoice discounting from invoice factoring is that in invoice factoring the finance company buys the unpaid invoices at a discount, meaning the lender deals directly with the customers for payment. So unlike invoice discounting, there is no level of confidentiality involved in invoice factoring.

Vendor financing helps businesses to secure funds from their suppliers and use the money to buy the vendor's products. Another common short-term business loan is a line of credit in which business entities with an exceptional credit history can borrow from commercial lenders at favourable terms.

Conclusion

The biggest advantage of invoice discounting is that it helps to maintain cash flow in a business. The money obtained through invoice discounting can be used to buy new equipment or stock, to ramp up operations during the peak season or to survive during the lean period.

The discount rates offered by lenders depend on factors like invoice value, financial history, business tenure, and business stability. The rate usually varies from bank to bank. Hence, it is important to choose a reputed lender.

IIFL Finance, a reputed financial services company in India, offers many types of short- and long-term business loans to help businesses survive and maintain operations. The loans are easy to avail against a few basic requirements.

The loan products are offered at attractive interest rates to assist every small business in achieving its goals. IIFL Finance also customizes the repayment terms for borrowers based on the financial situation of the business.