How Loan is Different from Advances? [8 Differences]
Loan and advances are both a bit similar and related to each other. An organization or a take either or both of them to meet the financial needs, that are returnable with interest after a stipulated period of time. The loans are prevalent and usually include a significant amount as debt from banks.
There are specific rules and regulations to take loans from banks. The organization or the individual has to specify the reason for the loans. These loans need to be returned in a fixed period; otherwise, the bank seizes the borrower’s property. The other form of debt is called advances. Some organizations need money for a short while to meet the general expenses of the company. These advances are used to fulfill an organization’s needs.
Our life is based on the flow of money, either to meet the daily needs or to secure the future, money plays the primary role. Same as an organization’s growth and its every day is wholly dependent on making profits that help in keeping the flow of money on going. Sometimes, to set up a new business or when the business is facing a loss, the organization or company needs to outsource the funds.
Banks are the best source have financial aid when needed. Loans and advances are the two setups by which the banks help organizations with finances. Almost every big or small organization applies for a bank loan sooner or later to set up the business or enhance the organization.
Hence, many of us get confused between loans and advances, let us for once and all solve all the confusion. Here is a detailed difference between a loan and an advance.
What are Advances?
Some organizations find it challenging to overcome the daily financial needs due to their restricted budgets. This kind of business organization finds a better solution to borrow money from the bank so that their business can run smoothly. This short-term money need is called an advance. The extra fund provided to a business may deal with the daily needs like, giving salaries to employees, buying the necessary infrastructure, etc. The advance is a straightforward measure to get funds from the banks as compared to the loan. As well as the interest rates for the advance is also meager.
Advances that are facilitated to the companies, come under the following:
In this case, the bank is the priority to be repaid before the other private debt holders of the company. Example – promissory notes, hypothecation of debtors, etc.
This includes the mortgage of an asset such as property, car, machine, etc. of a high value.
This is a loan type given on trust by the partners, directors, promoters, etc.
What is a Loan?
A loan is a prevalent form of getting money from the banks. Even the banks earn the profit only by providing loans to the people and business organizations. So, banks are structured to resolve the money needs of small or big businesses and help their growth related to the country’s development.
A person can get only a certain amount of money from the bank for a valid reason. But the amount of money provided to an established business or a start-up business is good enough to meet the financial needs of a business. The debt provided to the business by the banks is flexible in terms of the period of repayment of the loan.
The loan terms are agreed mutually by both the parties involved in the transaction before exchanging the funds. The contract primarily includes:
– The amount that is lent
– The amount that is to be repaid
– The duration of the repaid of the amount
– Any collateral, if any
Collateral is the security asset that a borrower owns. The collateral has to be of high value, which means that it should be at least of the value of the loan’s amount or higher than that. Collateral is used for the lender’s security purpose to be on a safer side if the borrower ends up defaulting the payment.
The borrower is expected to pay back the loan amount along with interest. The borrower has the room to make the payment either in the form of a lump sum amount or by paying monthly installments. All of these terms are defined clearly in the contract. The funds that the lender gives to the borrowers can be used for multiple purposes such as personal requirements or capital needs. The amount is usually paid back in a few years as these are mainly long-term loans.
Here is the difference between a loan and an advance –
- The money required for running a business is known as the capital, which is the fuel for a business. The businesses need money for the company’s internal expenses, such as providing the infrastructure, providing salary, and purchasing the raw material. These expenses are not too much but usually need the outsourcing of money to give employees’ wages timely instead of waiting for the profit. The other kind of expenses is more significant in size. These expenses are used to enhance the business and buy the business setup, which may be very expensive.
- So, the businessmen go to the banks regarding their need for money and ask for the suggestion that what kind of financial aid they must apply for? Either loan or the advance. The bank has different types of rules and regulations to permit the money credit to the borrower. For example, if a person is into manufacturing automobiles, it involves a considerable amount of money. Sometimes a bank may not approve to give a loan for such a high amount, so the applicant must apply to multiple banks to get the capital. The advances have no role to play in such huge financial credit. The financial aid, in this case, is given in the form of a loan.
- Business loans involve huge transactions from the banks to the businessmen. These loans are further accompanied by a certain amount of interest applied to given money and some other charges meant for providing a significant amount of money to a single business by a bank. It is not easy for business people to get a substantial amount of money from banks. The loan procedure is accompanied by many terms and conditions that need to be followed to get a loan. The return of the loan is not meant to be quick. Only a small amount of the total loan has to be paid every month in installments. And that is why the businessmen’s total amount of loan return may take even ten years and even more. In some cases, many businesses start making enough provide within two to three years that they choose to return the loan money to the bank before their tenure or the last date of return of the loan. But if the amount is not so significant and just needed to fulfill the business’s daily needs, then providing the advances is preferred by the banks.
- The advances are easy to get for business people as compared to the loans. Because the advances involve a low number of transactions from the banks to the businesses. The drawback with the advance is that the advances need to be returned in a shorter period. The interest associated with the advance is very low as compared to the loans. This is the reason that banks earn very low by providing advances to businesses. So, the return of advances by the businesses is scheduled very quickly.
- Banks give advances on the condition that the borrower needs to return the advance quickly so that the banks use the returned money further. The return of advances is sometimes provided only for two months. But once the lender makes the repayment, he may further apply for advances for future needs, and this cycle benefits both the banks and business organizations. Many organizations prefer to take advance from the banks as one can reapply for the advance after returning the prior advance with few additional charges. But another loan can only be sanctioned once the first one is repaid along with full interest which is a lengthy process.
- Loans involve a particular set of guarantees, and security has to be deposited. When the loan amount is huge, it is accompanied by many formalities for providing the loan by the banks. Sometimes the whole process of realizing the funds to businesses in the form of loans may take more than six months. The formalities need strict rules for the repayments, a lookout on the business structure, and the particular businessman’s property.
- Banks also ask for people to be shown as guarantees by the borrower to make it more convenient to get back the bank’s money. Some clearance is also involved in substantial loan amounts. Banks usually don’t give a massive amount of loans to any organization. They first make sure that the organization will profit in the upcoming years and the borrower can return the loan with interest. If the bank does not get the loan back in the stipulated time frame, the bank can seize the business’s property and sell it out later to cover its money. While there is no big guarantee needed while proving the advance. Some banks give the advance on the CEO or Director’s trust and the basis of the organization’s stocks or bills.
The concluding remarks:
Advances and loans are the forms of debt that needed to be returned to the source in the given period. So, one must apply for both of them only when a significant financial crisis or when the organization is sure about its timely return: loan and advance. These are both certain benefits for the borrower and the lender. But there are many risk factors involving if the loan or advance is not returned in full amount to the source in the given time. So, any business organization needs to choose their bank or financial institute to fulfill the credit requirement to get comfortable with the loan or advance credit policies. Simultaneously, it is also mandatory for the banks to have full documentation about providing loans or credit to the applicant.