Terms of Credit
Every loan agreement specifies an interest rate which the borrower must pay to the lender along with the repayment of the principal, this is called the terms of credit.
In addition to the interest , lenders may demand collateral (security) against loans. Collateral is an asset that the borrower owns (such as land, building, vehicle, livestocks, deposits with banks) and uses this as a guarantee to a lender until the loan is repaid.
If the borrower fails to repay the loan, the lender has the right to sell the asset or collateral to obtain payment. Property such as land titles, deposits with banks, livestock are some common examples of collateral used for borrowing.
Let us see the terms of credit for a bank loan taken by Megha:
i) Megha has taken a loan of Rs 5 lakhs from the bank to purchase a house.
ii) The annual interest rate on the loan is 12 per cent.
iii) The loan is to be repaid in 10 years in monthly installments.
iv) The bank will retained as collateral the papers of the new house.
v) The papers of the new house will be returned to Megha only.
when she repays the entire loan with interest.
Interest rate, collateral and documentation requirement, and the mode of repayment together comprise what is called the terms of credit.