Navigating the world of business financing can be overwhelming, especially for small and medium-sized enterprise (SME) owners who are new to lending. Whether you're applying for your first loan or exploring alternative financing options, understanding key lending terms is essential to making informed decisions and avoiding costly mistakes. In this article, we break down the most common lending terms every SME owner in Singapore and Southeast Asia should know.
1. Principal
The principal is the original amount of money borrowed from a lender. For example, if you take out a loan of S$100,000, that amount is your principal.Â
2. Interest Rate
The interest rate is the cost of borrowing money, expressed as a percentage of the principal. In Singapore, licensed moneylenders charge a fixed rate — it does not fluctuate with market conditions. The key distinction lies in how the rate is calculated:
- Simple Interest: Based only on the original loan principal.
- Effective Interest Rate (EIR): Reflects the true cost of borrowing by including fees and charges, giving a more accurate picture of the loan’s total cost.
💡 Tip: The effective interest rate (EIR) includes fees and gives a more accurate picture of the loan’s true cost.
3. Tenure (Loan Term)
The tenure refers to the length of time you have to repay the loan. It can range from a few months to several years. Shorter tenures usually mean higher monthly payments but lower total interest paid.
4. Collateral
Collateral is an asset pledged to secure a loan. If the borrower defaults, the lender can seize the collateral to recover losses. Common examples include property, equipment, or receivables.
Some loans are secured (require collateral), while others are unsecured (based on creditworthiness).
5. Credit Line (Revolving Credit)
A credit line is a flexible loan that allows you to borrow up to a certain limit and repay as needed. Interest is only charged on the amount used. It’s ideal for managing cash flow or covering short-term expenses.
6. Drawdown
Drawdown refers to the act of accessing funds from a loan or credit facility. For example, if you have a S$200,000 credit line and withdraw S$50,000, that’s a drawdown against the credit line
7. Amortization
Amortization is the process of gradually repaying a loan through scheduled payments that cover both principal and interest. An amortization schedule shows how much of each payment goes toward interest versus principal.
8. Default
A default occurs when a borrower fails to meet the repayment terms of a loan. This can lead to penalties, legal action, or damage to your credit score. Always communicate with your lender early if you anticipate repayment issues.
9. Prepayment Penalty
Some lenders charge a prepayment penalty if you repay your loan early. This compensates them for the interest they would have earned. Always check if your loan has this clause before making early payments.
10. Loan-to-Value Ratio (LTV)
The LTV ratio measures the loan amount against the value of the collateral. For example, if you borrow S$80,000 against an asset worth S$100,000, the LTV is 80%. Lower LTVs are generally seen as less risky by lenders.
Conclusion: Knowledge is Financial Power
Understanding these lending terms empowers SME owners to negotiate better loan terms, avoid hidden costs, and choose the right financing for their business needs. As the lending landscape in Singapore and Southeast Asia continues to evolve, with more digital and alternative lenders entering the market, being financially literate is more important than ever.
