What is a bank loan

A bank loan is the most common form of loan capital for a business.

A bank loan provides medium or long-term finance.  The bank sets the fixed period over which the loan is provided (e.g. 3, 5 or 10 years), the rate of interest and the timing and amount of repayments. 

The bank will usually require that the business provides some security for the loan, although in the case of a start-up this security often comes in the form of personal guarantees provided by the entrepreneur.

Bank loans are good for financing investment in fixed assets (such as plant & machinery, land and buildings).  They are generally charged at a lower rate of interest that a bank overdraft.  The interest rate can be either fixed (e.g. 8% per year on the amount outstanding) or variable (where the interest rate varies depending on the Bank of England base rate).

However, a bank loan provides less flexibility than a bank overdraft. The business commits to meeting the bank loan repayments and interest – which it needs to do whether or not the cash flow position is good. A failure to meet the terms of the bank loan may lead to the bank putting the business into insolvency.

Bank loans tend not to be offered to start-ups or businesses with a track record of poor profitability and cash flow.  Such businesses are perceived as being high-risk by banks that, as a result of the credit crunch, are more cautious about the kind of lending they offer.