A loan is a type
of debt. Like all debts, a loan involves the re-allocation of money
over a period of time between the borrower and the lender. The borrower
initially receives an amount of money from the lender. This money is
paid back either in full or in regular installments (with interest of
course).
Acting as a provider of loans is one
of the principal task for financial institutions such as a bank. For
banks, loans are generally funded by deposits. That's how banks usually
earn. Their deposits are loaned out and when the borrowers pay with
interest, voila! Earnings for the bank.
Other types of debt include mortgages,
credit card debt, bonds, and lines of credit. A mortgage is a very
common type of debt used by many individuals to purchase housing. In
this arrangement, the money is used to purchase the property. The bank,
however, is given the title to the house until the mortgage is paid off
in full. If the borrower is unable to pay, the bank can repossess the
house and sell it, to get their money back.
The abuse in the granting of loans is
known as predatory lending. It usually involves granting a loan in
order to put the borrower in a position that one can gain advantage
over him or her.
When applying for a loan, you must
prepare a written loan proposal. Make your best presentation in the
initial loan proposal and application. You may not get a second
opportunity.
Always begin your proposal with a
cover letter or executive summary. Clearly and briefly explain who you
are. Include all there is to know about you. Your business background,
the nature of your business, the amount and purpose of your loan
request, your requested terms of repayment, how the funds will benefit
your business, and how you will repay the loan. Keep this cover page
simple and direct.
Many different loan proposal formats
are possible. You may want to contact your commercial lender to
determine which format is best for you. When writing your proposal,
don't assume the reader is familiar with your industry or your
individual business. Always include industry-specific details so your
reader can understand how your particular business is run and what
industry trends affect it.
Loan Repayment: Provide a brief
written statement indicating how the loan will be repaid, including
repayment sources and time requirements. Cash-flow schedules, budgets,
and other appropriate information should support this statement.
Existing Business: Provide financial
statements for at least the last three years, plus a current dated
statement including balance sheets, profit & loss statements, and a
reconciliation of net worth. Aging of accounts payable and accounts
receivables should be included, as well as a schedule of term debt.
Other balance sheet items of significant value contained in the most
recent statement should be explained.
Projections: Show how your operations
will make money. Include earnings, expenses, and reasoning for these
estimates. The projections should be in profit & loss format.
Explain assumptions used if different from trend or industry standards
and support your projected figures with clear, documentable
explanations.
Collateral: List real property and
other assets to be held as collateral. Basically, collateral is the
bank's way of ensuring that they will get something back from if you're
unable to pay back the loan. Few financial institutions will provide
non-collateral based loans. All loans should have at least two
identifiable sources of repayment. The first source is ordinarily cash
flow generated from profitable operations of the business. The second
source is usually collateral pledged to secure the loan.
Your bank is in business to make
money. Consequently, when a bank lends money it wants to ensure that it
will be paid back. The bank considers the 5 "C's" of Credit each time
it makes a loan.
Capacity to repay is the most critical
of the five factors. Capital is the money you personally have invested
in the business and is an indication of how much you will lose should
the business fail.
Collateral or guarantees are
additional forms of security you can provide the lender. If the
business cannot repay its loan, the bank wants to know there is a
second source of repayment. Conditions focus on the intended purpose of
the loan. Character is the personal impression you make on the
potential lender or investor.
