Loan definition

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What is a Loan?

A loan is an arrangement under which a lender allows another party the use of funds in exchange for an interest payment and the return of the funds at the end of the lending arrangement. Loans provide liquidity to businesses and individuals, and as such are a necessary part of the financial system.

Loan Terminology

The terms associated with a loan are contained within a promissory note. These terms may include the following:

  • The interest rate to be paid by the borrower, which may be a variable or fixed rate

  • The maturity date of the loan

  • The size and dates of the payments to be made to the lender

  • The amount of any collateral to be posted against the note

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Types of Loans

There are a number of loan types, including the following ones:

  • Demand loan. A loan that can be called by the lender is a demand loan.

  • Guaranteed loan. When a third party guarantees the payment of a loan, it is called a guaranteed loan. For example, the corporate parent of a subsidiary could guarantee a loan entered into by the subsidiary.

  • Installment loan. If a loan is to be repaid over time in accordance with a fixed schedule, it is called an installment loan.

  • Line of credit. A loan that can be drawn down and repaid multiple times is called a line of credit.

  • Secured loan. A secured loan has collateral associated with it, which the lender can seize if the borrower cannot repay the loan.

  • Unsecured loan. An unsecured loan does not have any collateral associated with it, and so represents a greater risk of loss for the lender; it may charge a higher interest rate, given the greater risk.