Classification Of Loans

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Loans granted by commercial banks may be classified in a number of ways. However, the kinds listed hereunder are not in any way mutually exclusive. Rather, they are so made in order to provide a basis for discussion of the loan policy which commercial banks may choose to adopt.

According to maturity

Classified according to maturity, loans are either:
1. Demand loans
2. Time loans

A loan that has no fixed maturity date, but which is payable upon demand of the bank granting the loan is termed as demand loan. Interest accruing on a demand loan is earned before it is paid by the borrower, who is billed by the bank either on a monthly or quarterly basis for the interest earned and therefore due to the bank. Doubtless to say, demand loans can be called by the bank at any time the bank desires payment of the loan obligation. Hence, it is invariably termed at times as call loans.

As a passing observation, demand loans are oftentimes allowed to run indefinitely for as long as the borrowers condition, that is, his capacity to pay, remains unchanged. In a number of instances, when the borrower does not have any more need for the borrowed funds and moreover is already in a position to pay his obligation, the borrower usually terminates such loan. As such, he avoids the necessity of having to pay interest on the loans which otherwise would be the case for as long as it has not been discharged by the borrower.

A time loan is made for a specified period of time, with the maturity date varying from 30 days to as many as 90 days, subject to further extension. Interest is usually collected in advance, at the time the loan is made in the form of discount. As may thus be observed, this type of loan may be differentiated from a demand loan in that the creditor bank cannot demand payment at any time prior to maturity date. Rather, the borrower has the change to pay at the time of its maturity or at any time earlier depending upon his convenience and purpose.

According To Security
Based upon security, loans may be either:
1. Secured Loan
2. Unsecured Loan

A secured loan is one in which a specific property is pledged to secure payment of the loan. The collateral may consist of personal property or stocks and bonds or documents giving legal ownership to or covering some article, as for instance, a warehouse receipt. Or the collateral may consist of real estate property. As a standard operating procedure, the value of the property pledged to secure that loan must be at least 30% if not 40% higher than the amount of the loan. This is termed in banking practice as margin.
Briefly, described, margin is the value of collateral in excess of the amount of the loan for which the collateral is pledged as security. In other words, it represents the lenders margin of safety. This margin is intended to protect the bank against any loss that may arise as a result of the possible decline in the value of the property pledged as security to the bank.

A number of loans granted by commercial banks are extended solely on the basis of the good credit standing of the borrower and as such is evidenced merely by the use of a negotiable promissory note. This type of loan is called as unsecured note that is the borrower has not pledged any specific property to secure payment to the bank when the note becomes due and mature.

However, in the case of indorsed notes, while they are at times classified by some as unsecured loans, the mere fact that the bank relies on the signature of the endorser as its primary protection for the payment for the loan makes it fall within the category or secured loan.

As a matter of fact, when a borrower has no specific property to pledge to the bank, his application for a loan may be considered favorably if one or more persons other than the maker assume responsibility for the repayment of the loan.

By indorsing the note, the party making the endorsement assumes the liability. Thus, the loan is really a secured loan even though no specific asset is pledged to the bank since the bank lends on the basis of the security afforded to it by the signature of the endorser.
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