Difference between short term loan and long term loan

Loans are availed for various reasons and repaid through EMIs during a specific tenure. Depending on the reason as to why the loan is availed, the tenure of the loan can be either short-term or long-term. Just to give a simple example, a home loan will by nature be a long term loan as compared to a personal loan for a vacation which will be a short term loan. So how does one decide which is better when it comes to a debate between short-term loans vs long-term loans

Before availing a loan, borrowers must understand how they can repay the loan faster. Hence, it makes sense that the term of the loan should be decided by borrowers themselves. 

Before understanding the difference between a short-term loan and a long-term loan, it is important to understand the concept of a term loan.

Let’s Understand Term Loans

A term loan is defined as the funds borrowed from a bank or a financial institution with a specific borrowing term. When individuals avail a term loan, they agree to repay the lender a decided amount during the repayment period, along with a specified interest rate. This interest rate can either be a fixed or floating interest rate.


Term loans can be used for either short-term financing or long-term financing. While businesses tend to avail a short-term business loan or a long-term business loan, unsecured personal loans and secured loans are also term specific.

A home loan, being a secured loan, can be classified as a long-term loan. Whereas a personal travel loan can be availed as a short-term loan and a long-term loan.

Difference between Short-Term Loan vs Long-Term Loan

It is important to understand the difference between short-term loans vs long-term loans if you are a first-time borrower: 

 

 

Short-term Loan

Long-Term Loan

Tenure

The tenure of short-term loans, generally, is up to 24 months or less. 

Term loans that have a loan tenure of more than 24 months are classified as long-term loans. When it comes to personal loans, the tenure of long-term loans can extend for up to 60 months. 

Interest Rate

Due to the short tenure, the interest rate tends to be higher.

As compared to short-term loans, long-term loans can have a lower interest rate.

Documentation

Minimal documents are required to avail short-term financing. 

Though certain long-term loans require additional documents, this is not the case with personal loans with longer tenure. For instance, to avail a long-term loan from Finnable, borrowers are required to furnish only their PAN card, Aadhar card, salary slip, and bank statement.

Collateral

Short-term loans do not require the borrower to pledge a collateral

Certain long-term financing, like a home loan or a car loan, may entail the borrower to pledge security. While availing a personal loan with a long tenure, borrowers are not required to pledge any asset against the loan amount.

EMI amount

The EMI is slightly higher as the repayment tenure is less than 24 months.

The EMI amount is lower than a short-term loan as the EMI is spread across a longer time frame.

Usage of funds

The borrower can use the funds for any personal expense.

Secured long-term financing can be used for a particular purpose, like a home loan. However, an unsecured personal loan can be used for any purpose or expense.

Method of Interest rate charged

Most lenders typically charge a flat interest rate for short term loans. This means that the interest rate is charged on the entire loan amount throughout the loan tenure.

For a long term loan, lenders typically apply a reducing balance method when it comes to interest rate charges. Basically interest is charged on the outstanding principal amount. This means that after payment of each installment, the principal amount decreases, which in turn reflects on the effective interest to be paid. 

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