SME Loans – Explained

Overview

Small and Medium enterprises (SMEs) are a crucial segment of the Indian economy making up for about forty percent of the total exports in the country. Growing from the smallest unit to becoming a giant corporation, the SME industry has aimed at economic growth and generating employment opportunities for its population. However, despite all this, these SMEs struggle with financial hardships to continue their business operations or grow their business over time. To alleviate this problem, the Government of India has introduced several measures to make more credit facilities accessible in a quick manner. Read further to discover more about SME loans, their purpose and types, SME benefits, eligibility, and the process of making an application. 

SME Loans: Meaning and Purpose

SME loans are credit facilities that serve micro, small, and medium businesses to offer financial assistance encompassing a wide range of purposes specifically tailored to fulfill their business requirements. Banks, Non-Banking Financial companies, and other private lending institutions offer a range of various credit facilities like seed capital, working capital, assets, equipment loans, term loans, etc. as credit facilities in India.

Here’s a brief on how micro, small, and medium businesses can utilize the loan:

• Seed Capital to start new ventures, making it smooth for entrepreneurs to establish their businesses.
• Fund the purchase or upgrade of essential business assets, such as machinery, equipment, and real estate, which are needed for expansion and growth.
• Loans specifically intended for acquiring or leasing equipment to build up production capabilities.
• Loans to meet the operational requirements of the day to day business like inventory, salaries, utilities, etc. This is called working capital loan and needs to be met immediately for smooth operations. 

These loans are designed to improve cash flow and facilitate operational efficiency, enabling SMEs to run successfully. They often come with tailored terms and conditions to cater to the unique challenges and needs of different business sectors.

Features of SME Loans

1. Loan Amount – Every SME business is eligible for up to a certain sum that can be availed contingent upon the classification of the business, i.e., micro, small, and medium enterprises as defined under the MSME Act 2006.
2. Loan Objective – Further, lending institutions provide credit facilities on the basis of certain terms for various objectives like setting up the business, hiring manpower, purchase of specific equipment or pieces of machinery, meeting day-to-day expenses, etc. among others. 
3. Rate of Interest – The rate of interest charged by the lending institution is reliant upon factors like the type of loan, credit history and financial health of the business, and lastly the interest rates prescribed by the RBI. 
4. Duration – The duration of an SME loan may be for as little as twelve months to extending to five years contingent upon the loan category and objective. 
5. Repayment Schedule – Unlike other business loans, SME loans can be easily adjusted as per the business cash flow allowing businesses to function smoothly without any stress. 
6. Tax Incentives – SME loans could also bring the benefit of tax incentives for the borrower allowing interest payment deductions on meeting eligibility criteria. 
7. Collateral-related Terms – On the basis of the fulfillment of certain eligibility criteria or its policies, the lenders may or may not offer collateral-free loans. 
8. Credit Assessment – Before granting SME loans to smaller business units, lenders evaluate the creditworthiness of the applicant. Their creditworthiness comprises a review of the borrower’s credit history, repayment ability, and the financial health of the enterprise.
9. Government Support – Various SME loans are available to small businesses under the aegis of supportive government schemes and policies like Pradhan Mantri Mudra Yojana, Stand Up India, and Start-up India, etc. which offers collateral-free and a partial repayment guarantee from the Government. SMEs meeting the eligibility conditions may avail of such a scheme.
10. Payment obligation on Borrower – To enable guarantee of repayment from the borrower towards the business loan, lenders may impose an obligation on the borrower to pay a pre-determined sum towards the business cost of the project.

SME Loans Advantages

Simplified Application Process 

With access to better technology and e-banking procedures, lending institutions like banks and NBFCs offer extension of credit facilities to SMEs in India. These facilities include credit facilities for business setup, development, maintenance and expansion through online application bringing ease and convenience for SMEs.

Easier Repayments

Lending institutions these days have a deeper understanding of the struggles faced by SME businesses to maintain and grow their business. Thus, lending institutions provide flexible terms of repayment for businesses and even flexible EMI schedules contingent upon the financial condition of the business. 

Low Rates & Charges

The rates of interest and related charges have been reduced significantly under the government-backed credit facility schemes for SME loans. For which a wide range of factors such as borrower credentials, business plans, and financial statements of a company are considered, and when approved, only nominal one-time costs are levied. 

Business Development and Growth

SME loans can be availed for a variety of purposes like setting up business units, hiring manpower, upgrading technology, undertaking business promotion, etc. the SME loans could enable the required business cash flow to expand the business. 

Collateral-Free

Generally, traditional financing organizations require collateral against the amount of loans availed by businesses. Since, likely, micro and small businesses may not have enough assets or equipment to pledge them against loans, thus SME loans offered by lenders do not have the requirement of collaterals, which makes it a convenient option for businesses to receive funding.

How to Apply for SME Loans?

• Find lending institutions offering credit facilities as per your business requirements and seek a list of requisite documents for the application process;
• Get mandatory documents like proof of business registration, tax returns, business models and plans, estimated costs, etc.
• Fill out the loan application form and submit it with the necessary attachments. 
• Once an application is received, the application will be verified to find out whether the applicant’s business is financially sound and the business is viable. 
• If the lending institution is content regarding the genuineness of the application, it will communicate regarding the approval and disburse the loan amount to the SME. 

SME Loans Documents Required 

• Financial Statements of the business;
• Income tax returns for the last year;
• Bank statements;
• Business plan;
• Registered business address and identity proof of the business owner or proprietor;
• Collateral or guarantee documents (where applicable).

Eligibility for SME Loans 

• The loan applicant must possess knowledge and experience in the concerned area of business (at least three years is preferred);
• The age of the primary applicant should be between 25 and 55 years of age.
• Applicants must hold a credit score of 750 or more. 
• The applicant should not have an adverse credit history but a strong repayment ability to be eligible.
• The purpose of which loan has been applied, i.e., to start a business, to buy assets and equipment, working capital, promotional business activities, growing business, expansion of the workforce, etc. 
• The number of years the business has been operating, stability, and financial record of the business.
• Factors like business turnover, profit margins, and debt-related liabilities of the business;
• Where the applicant wishes to benefit under any specific government schemes or policies, the applicant should fulfill the eligibility criteria under the scheme based on SME size and type.

Conclusion

Essential rules for SME loans vary among lending institutions, and to increase the chances of securing SME loans, applicant businesses need to take care of the specific eligibility criteria. Since the terms and conditions of the lender may differ less or more, it is necessary to refer to the lender-specific criteria before making an application to reduce the chances of rejection. We at BankKeeping are fully equipped to help you in your banking journey. Hence, SME loans in India have helped smaller businesses opt for loans and fulfill their business requirements rather than shutting down their businesses and extending their operations.