Merits and limitations of LT finance

Notes

Merits and limitations of LT finance

Advantages of an overdraft over a loan

  1. The customer only pays interest when he is overdrawn.

  2. The bank has the flexibility to review the customer's overdraft facility periodically, and perhaps agree to additional facilities, or insist on a reduction in the facility.

  3. An overdraft can do the same job as a medium-term loan: a facility can simply be renewed every time it comes up for review.

Don't forget that overdrafts are normally repayable on demand.

Advantages of a loan for longer term lending

  1. Both the customer and the bank know exactly what the repayments of the loan will be and how much interest is payable, and when. 

    This makes planning (budgeting) simpler.

  2. The customer does not have to worry about the bank deciding to reduce or withdraw an overdraft facility before he is in a position to repay what is owed. 

    There is an element of 'security' or 'peace of mind' in being able to arrange a loan for an agreed term.

However, a mix of overdrafts and loans might be suggested in some cases.

Consider a case where a business asks for a loan, perhaps to purchase a factory with a warehouse of goods included.

The banker might wish to suggest a loan to help with the purchase of the warehouse, but that goods ought to be financed by an overdraft facility.

The offer of part-loan part-overdraft is an option that might be well worth considering.

Notes