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Wednesday, September 7, 2016

Collateral-Free Loans for Small Businesses

Startups, micro and small enterprises usually do not find much favor with banks. To break this pattern in India, the Government has come up with various schemes that ensure small business loans at relatively easier terms. Most schemes are backed by credit guarantee and refinance for the lending institution. It helps the borrowers by doing away with the requirement of collateral or third-party guarantee. It protects the lenders’ interest in case of a default, making them more willing to sanction loans to micro and small players. It is important to note that banks may insist on personal guarantee by proprietor/partners, which is not considered a third-party guarantee. This is because in case of proprietorship or partnership, the owners have unlimited liability.

Another important factor to consider is that primary security requirements still apply. It is a charge on the assets (fixed and current) created out of the credit being extended or already employed directly in the business being financed.

Eurion Constellation helps businesses in finding the right credit program and securing the credit as required. We see you through all stages from documentation to loan sanction. Please visit our website for details about our full line of services or write to us.

We have compiled the list of most popular options for raising debt finance of up to INR 10 cr. The application process followed in most cases is similar to other business loans. The different types of credit guarantee schemes specify different categories of eligible borrowers.

Prime Minister’s Mudra Yojna (PMMY)

Under PMMY, the Micro Units Development and Refinance Agency Ltd. (MUDRA) provides refinance to Banks/MFIs for micro segment lending of up to INR 10 lac. The borrowers fall in three categories:
  • Shishu: requirement up to 50,000/-
  • Kishor: requirement above 50,000/- and up to 5,00,000/-
  • Tarun: requirement above 5,00,000/- and up to 10,00,000/-
The collateral-free MUDRA Loans are extended for a variety of purposes, primarily aimed at income generation and employment creation. The loans are extended mainly for:

  • Business loan for vendors, traders, shopkeepers, food product manufacturers, textile sector, and other service sector activities
  • Working capital loan through MUDRA Cards
  • Equipment Finance for micro units
  • Transport vehicle loans
The loan is structured as term loans and/or working capital credit. The amount of credit is limited to 75% of the requirement in Kishor and Tarun categories, i.e. the borrower must contribute 25%. The processing charges of 0.5% apply only for the Tarun category. There is no cap on the interest rate, which will depend upon the base rate and internal evaluation of the MLI. The interest rate on an average ranges between 10-12% for loans up to INR 1 lac, while it starts with 14% for higher amounts. The maximum repayment period for the term loan is 7 years. PAN card is not compulsory to avail PMMY loans. However, the borrowing entity may have to satisfy the KYC requirements of the financing institutions.

The cash credit limit for working capital is administered through the MUDRA Card, which is a debit card issued against the loan account. A borrower can use it in for cash withdrawals from any ATM / micro ATM across the country and also for making payments through ‘Point of Sale’ machines just like a regular debit card. MUDRA Card has an added advantage of helping create credit history for the borrower as all the transactions are routed through banking channels.

Standup India Loan

The Government started this scheme specifically for SC/ST and women entrepreneurs. Enterprises where the controlling stake is held by business persons from these segments are also eligible. The loan amount ranges between INR 10 lac and INR 1 cr. Each bank branch is mandated to sanction loans to at least one SC/ST and at least one women borrower. Green field (first time venture for the entrepreneur) entities engaged in manufacturing, service, and trading businesses can avail the benefits.

The loan amount will be limited to 75% of the requirement, where the borrower needs to arrange for the remaining 25%. In cases, where the entrepreneur is unable to arrange for the margin money or requires additional training or handholding, they can register their business for the Standup India scheme as a trainee borrower. However, minimum 10% margin money still has to be arranged by the business. The office of the Lead District Manager oversees the training (paid), mentoring, networking, and utilities need through SIDBI and NABARD branches. While this support system is open to all participants, it is more geared towards weaker sections and rural businesses.

Stipulated time frame for processing of loan applications:

  • Up to INR 5 lac: 2 weeks
  • INR 5-25 lac: 3 weeks
  • Above INR 25 lac: 6 weeks
The credit is provided in the form of term loan (repayable in 7 years; maximum moratorium of 1.5 years) and working capital credit. Working capital limit of up to INR 10 lac may be sanctioned as an overdraft, while above INR 10 lac it will be structured as a cash credit limit. For overdrafts, a Rupay debit card (similar to Mudra loans) is issued.

Other than the primary security, the banks may require a collateral security/third-party guarantee or the loan may be secured by Credit Guarantee Fund Scheme for Stand-Up India Loans (CGFSIL). In the second case, the lending institution has to pay an Annual Guarantee Fee (AGF) of 0.84% to the National Credit Guarantee Trustee Company (NCGTC). Half of this fee (0.42%) is passed on to the borrower. The interest rate is to be fixed at lowest applicable rate of the bank for that rating category. The maximum allowable rate is MCLR+3%+Tenure Premium. The processing fee is decided by the Member Lending Institutions (MLI).

Credit Guarantee Trust for Micro and Small Enterprises (CGTMSE) Scheme

The Member Lending Institutions (MLI) under this scheme offer loans to micro and small businesses up to INR 1 cr without any collateral or third-party guarantee. The MLI will have a primary charge on assets. The ceiling of 1 cr applies to each borrower, whether the loan is obtained by one or separately/jointly by more than one MLI.

The borrower can avail term loan or working capital loan or non-fund based limit. The interest rate is restricted to a maximum of PLR+3%. The lender is also required to pay a guarantee fee (@1.5% or 0.75% in case of North Eastern Region) and annual fee (@0.75%) to the Trust. The lender passes only a part of part of this fee on to the borrower.

Following businesses are eligible under this scheme:

  • Manufacturing units
  • Service oriented businesses covered under RBI's guidelines on 'Lending to Priority Sector' and MSMED Act, 2006
  • Small Road Transport Operators
Following types of businesses are excluded (inclusive list):

  • Retail Trade
  • Educational Institutions
  • Agriculture
  • Self Help Groups (SHGs)
  • Training Institutions
If you do not have PAN and your loan requirement is less than INR 10 lac, you can still apply for loan under CGTMSE. However, it is mandatory to quote PAN in all tax and loan related documents and therefore, you will need to apply before or after the loan sanction. Eurion Constellation recommends all business owners to apply for PAN irrespective of your constitution.

SIDBI Revolving Fund for Technology Innovation (SRIJAN)

For tech startups, SIDBI has a revolver credit scheme, which takes the form of early stage “debt” funding on softer terms for development, demonstration and commercialization of innovative processes/products/services in the emerging technological areas or un-proven technologies which have not been successfully commercialized so far.

The maximum allowed assistance is up to 80% of the project cost or INR 1 cr., whichever is lower. The promoters will need to contribute at least 20%. The Project Approval Committee (PAC) and Technology Information Forecasting, and Assessment Council (TIFAC) will technically evaluate the project for technical/financial viability. Interest rate will be decided by PAC and will be capped at 5%. Upfront fee of not more than 5% of the sanctioned amount + service tax will apply.

The assistance covers capital expenditures, IP, R&D, technology transfer, licensing, marketing, branding, working capital, pre-operative expenses, operating, costs and contingencies. The repayment period, including moratorium, is 6 years. The lender will have a charge on the assets of the unit and the promoters will need to furnish personal guarantees.

MSMEs seeking financial assistance from the Fund for technology innovation projects may send detailed project proposal either to TIFAC or SIDBI.

Loan Against Property (LAP)

This option is unlike any other one discussed above. It is not covered by any Government scheme. For small businesses, loans against property allow higher credit with greater flexibility and better interest rates. If you own a residential or commercial property, you can raise loans on attractive terms. Such loans can be utilized for business, professional, or personal use (education, medical emergency, purchase of another property, and so on). Anyone with an unencumbered property and repayment capacity can avail these loans. However, some banks have age, turnover, past performance or other criteria.

The maximum loan amount ranges between 40%-65% of the property value for different banks. Generally, residential properties command higher percentage than commercial ones. LAPs can take the form of term loans against property value or rent receivables or overdraft against property. The interest rates lie between 11%-15% for different lenders. For most banks, loan processing charges are ~1% of the loan amount. Another advantage of LAPs is the loan tenure than can be up to 12-15 years or even higher.

In addition to these alternatives, there are a number of other Government-backed credit schemes for specific sectors, such as food processing, leather, paper, chemical, plastics, textiles, auto components, engineering, gems & jewelry, ITeS, electrical & electronics, and pharmaceuticals. Let us know your requirements.

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