Financial Management has become part of the point of interest of people, businesses, companies, institutions, and governments in their daily operations. This is due to the growing trend of the financial needs of these sectors.
Furthermore, prioritizing your financial needs is also an important factor in the efficient use of your financial resources. That resistance, growth, and development are at the same time a necessity to ensure a continuous competitive advantage in its activities.
In addition, your current income or available funds are, in most cases, insufficient to fully meet your financial needs. Therefore, they are stuck at the crossroads of what to meet, when to do it, and with what resources.
Hence, the need for financial loans is triggered to expand its financial muscle capacity. This indebtedness is made in the form of loans from financial institutions. There are different types of loans, and our focus is on Short and Long Term Loans.
The main difference between short-term and long-term loans is the amount of time required to repay the borrowed funds.
This means that Short Term Loans are issued and repaid within a short period, usually within a year, while Long Term Loans are repaid over years when borrowed. The period varies from more than one year to even 30 years, depending on the type of loan.
Comparison table Difference Between Short Term and Long Term Loans
Comparative parameter Short-term loan Long-term loans
|refund period||Short-term loans offer a period of one year after the loan to be repaid||Long-term loans are distributed in equal installments that are paid over the years.|
|warranty requirement||For these loans, no documents such as log books or title deeds are needed to act as collateral in the event of a loan default.||These loans require borrowers to prove ownership of assets worth the amount borrowed to protect lenders in the event of default.|
|Ease of acquisition||Short-term loans involve a simple application process even on mobile phones and the funds are quickly used within 24 hours||Long-term loans involve a lot of scrutiny to determine the creditworthiness and ability of the borrowers to repay the loans which involves a lengthy process before obtaining funds.|
|borrowed amount||In most cases, these loans are taken to meet urgent liquidity requirements, which means that the amount required is not very high.||In most cases, the borrowed amounts are intended for long-term development projects or capital-intensive needs, thus needing a large amount of funds.|
|Interest rates||Short-term loans attract high interest rates because they are borrowed for short periods and lower amounts compared to long-term loans.||Long-term loans have lower interest rates because they are repaid over many years and involve very large amounts of money than short-term loans.|
What is a short term loan?
A short-term loan is a form of credit or type of loan. The principal amount lent, accrued interest, and additional loan charges accrued are repaid over a specified maturity period, primarily within one year after the loan.
These loans are characterized by short repayment periods of one year or less; they are unsecured loans, meaning no collateral is required against the loan.
They revolve around reduced borrowing amounts as they seek to set immediate liquidity requirements. Plus, they attract high annual percentage rates (APRs). This is a percentage expression of the actual annual cost of borrowed funds.
APR refers to the interest charged on a loan plus any additional charges on loan, such as service fees. Borrowers are charged, and investors are issued.
Short-term loans exist in different types, such as LOC (Lines of Credit), which acts more like a business credit card. A bank or financial institution predetermines your creditworthiness and sets a maximum amount that you cannot exceed during the loan.
Short-term bank loans are another type of short-term loan. They have a rescission period within which they are reimbursed. After repayment, if more loans need to be taken out, you should apply again instead of renewing the old loan.
Bank overdrafts are a form of short-term loan linked to the borrower’s account. The bank sets a fixed amount in advance, so the account owners can still access the funds to run their errands when the account does not have enough funds.
The other type of short-term loan is Merchant Cash Advances. It applies to merchants whose customers use credit cards instead of cash during purchases.
Banks or financial institutions provide funds to merchants in the form of a loan, and to repay, the bank takes a certain daily percentage of the borrowers’ daily sales.
Invoice financing is a common short-term loan also called accounts receivable financing. Borrowers seek financing using bills owed by their customers, and once debtors pay, banks get their money back with an additional service fee.
The final type of short-term loan is a payday loan, where the amount borrowed is determined by the borrower’s earnings, and repayment is made when the borrower receives their next income or paycheck.
Short-term loans benefit the borrower by providing funds easily and quickly without many requirements, thus meeting their immediate financial needs without delay.
However, the downside of these loans is that you can only borrow a small amount, and they are not economical for long-term projects as the interest rates are quite high, so they are only appropriate for short-term projects.
What is a long-term loan?
Long-term loans are a type of debt in which the principal amount borrowed, accrued interest, and additional loan charges accrued are repaid over an extended period. Most of the time, for one year to even 25 years or more, depending on the type of loan.
There are common features with these types of loans: high loan amounts are issued to borrowers, interest charges on loans are low, and collateral is required during loan application.
Also, the reimbursable amounts are called installments and are distributed equally throughout the payment period. Finally, some loans, such as home loans, are tax-exempt because they are classified as basic need loans.
Long-term loans come in different types, including but not limited to education loans, home loans, and auto loans. Personal loans that are repaid over three years or more are counted as part of this category.
Small business loans and long-term payday loans are lumped together as long-term loans, especially if they need to be repaid over a long period.
The benefits of long-term loans are the ability to borrow a large number of funds, low-interest rates charged on loans, and affordable repayment schedules that are flexible to the borrower’s financial situation.
The demerits of these loans are not left out, as the long repayment period results in overpaying amounts that would have been saved for other purposes. In addition, the required collateral can act as a barrier for individuals or companies that do not have any, blocking them from eligibility to obtain funds. Sometimes, for whatever reason, a borrower cannot repay the loan, which can result in stress or depression.
Main Differences Difference Between Short Term and Long Term Loans
- Short-term loans are repaid within a year after the loan, while long-term loans take years to repay the borrowed amount.
- Unlike long-term loans, short-term loans can be borrowed and granted without any collateral, which is a must for long-term loans.
- Long-term loans are borrowed to compensate long-term businesses. On the other hand, short-term loans are taken to solve urgent liquidity problems.
- In most cases, short-term loans may not require supporting documentation such as ID cards, pay stubs, etc. As for long-term loan identification proof documents, proof of payment documents are a must.
- Long-term loans are associated with large loan amounts, as opposed to short-term loans, where the borrowed funds are of small amounts.
Both short-term and long-term loans have different benefits and are meant to meet different needs. When considering which loan to take, consider the amount needed, how fast or long the loan needs to be, and financial strength and ability to repay.
With that in mind, choose a loan that favors you as a borrower based on what you want it for. There is no general rule to determine which is the best loan. It all depends on what your needs are.
In a situation you need urgent finances and you are sure of a plan to pay in a short period, short-term loans would be your perfect match.
Finally, long-term loans would be the best option when you need a longer period to pay off your loan in small installments.
Word cloud to Difference Between Short Term and Long Term Loans
The following is a compilation of the most used terms in this article on Difference Between Short Term and Long Term Loans. This should help you remember related terms as used in this article at a later stage.