Lending systems were available as old as 3000 years before. One of the earlier forms of lending systems was pawnbroking, a system of collecting collateral to offer money in return.
Lending is the process of giving money to the borrower to get it paid back with interest. The interest for the amount availed is pre-defined. The payback methods were also varied.
In some instances, the money is borrowed, and for that equivalent amount of goods is given as a security measure.
In a few cases, the money is borrowed and returned by working for the person on the farm or the field. The period for working is also pre-defined.
With time, when the banking system evolved to its independent structure, it offered loans to individuals and businesses. In return, the individuals and the business owners paid back the amount with interest.
The bank decides the amount of money borrowed upon the customer’s request and the eligibility criteria that the bank has set for the loans.
The bank also decides the payback terms, including the interest rate and the duration within which the loan has to be cleared.
The two crucial banking business terminologies are Loan and EMI. They both are interconnected in the business form. However, there are differences between the two.
Key Takeaways
- A loan is a financial agreement where a lender provides a borrower with a sum of money to be repaid with interest over a specified period, while EMI (Equated Monthly Instalment) is the fixed monthly payment made by the borrower to repay the loan.
- EMIs help borrowers manage their loan repayments by dividing the principal amount and interest into equal monthly installments over the loan tenure.
- The EMI amount depends on the loan amount, interest rate, and loan tenure, with longer tenures resulting in lower monthly payments but a higher overall interest cost.
Loan vs EMI
The difference between the Loan and EMI is the transaction method. A loan is a monetary support offered by the bank to the customer, while EMI is the payback norm to return the funds in a fixed period at a fixed interest rate.
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Comparison Table
| Parameter of Comparison | Loan | EMI |
|---|---|---|
| Meaning | A loan is money given to the customer by the bank for future repayment of the loan value, including the interest. | EMI (Equated Monthly Instalments) is the transactional method to pay back the loan at a fixed period at a fixed rate of interest. |
| Preferred to | The customer avails a loan to purchase high-value items that he may not afford to purchase with his current income. | The customer prefers EMI to repay the loan with proper financial planning in the future. |
| Tax Benefits | There are no tax benefits in getting a loan. | The repayment of loans through EMI has two components, principal amount and interest amount. In various cases of loans, tax benefits can be availed either through the principal amount or interest amount. |
| Deciding factors | The loan is decided on factors like income status, borrower’s age, the value of the collateral (if required), credit status, and much more. | EMI is decided based on the loan amount, interest rate, and term duration. |
| Transaction Functionality | The loan is the transaction where the money is received. | EMI is a transaction where the money is paid back. |
What is Loan?
A loan is money received from a financial institution for personal or business purposes, which must be paid back within a stipulated period with interest.
A loan can be a one-time disbursal or multiple disbursals based on the bank’s limit and the customer’s requirements.
Banks often give loans. However, the other entities that offer loans are corporations, financial institutions, and also governments. Loans naturally allow for the growth of the money supply.
An individual avails a loan to purchase a high-value item which he may not be able to purchase with his regular income. The businesses avail a loan for their expansion or any industrial purchases.
There are different types of loans available. In simple terms, all loans come under two categories: Secured Loans and Unsecured Loans.
Secured loans are the ones offered based on collateral, whereas Unsecured loans are the ones offered by other schemes of the financial institution.
Unsecured loans are the ones people opt for. The eligibility criteria to avail of unsecured loans differ from bank to bank.
Usually, it depends on the borrower’s income status, credit history, and age. Indeed Unsecured loans have higher interest rates than secured loans.
What is EMI?
Equated Monthly Instalments are the transaction method to pay back the loan that is availed. While availing of the loan, certain aspects are decided upon; the interest rate, duration to pay back the loan, and loan amount.
These factors decide the EMI amount for every month. EMI is a transaction that constantly happens on a said date every month until the debt is cleared.
EMI has two components; Principal Amount, Interest Amount. As the EMI is paid every month, a specific part of the EMI clears the principal, and a specific part pays the interest for the loan availed.
Naturally, the amount of money paid through EMI for clearing the debt is more than the amount availed as a loan. EMI has tax benefits for the customer.
Either the principal or interest amount accounts for tax benefits for the customer. It is also observed that the more the duration of the payback period, the more the amount is paid.
EMI facilitates good financial planning for every month. Some banks have different interest types; fixed and floating.
Financial experts advise choosing the fixed rate of interest as it will be clear how much the money is to be paid every month. Instead, floating interest leaves the customer in a bizarre state.
Main Differences Between Loan and EMI
- The main difference between the Loan and EMI is the transaction method. A loan is a monetary support offered by the bank to the customer, while EMI is the payback norm to return the funds in a fixed period at a fixed interest rate.
- The loan does not offer any tax benefits, while EMIs readily have tax benefits that can be filed.
- The loan to be sanctioned is decided on many factors, like credit history, customer age, collateral value, and income status. EMI is decided on three factors; loan amount, rate of interest, and term duration.
- The loan is a transaction method where the funds are received from the bank, while EMI is the funds paid back to the bank.
- The customer prefers a loan to purchase high-value items that the person cannot afford with his current income state. EMI is preferred to gain financial freedom to pay back the loan at his convenience.
- https://www.ifmrlead.org/wp-content/uploads/2015/OWC/Incidence%20of%20Loan%20Default%20in%20Group%20Lending%20Programme.pdf
- https://www.sciencedirect.com/science/article/pii/S0305750X97001216
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Chara Yadav holds MBA in Finance. Her goal is to simplify finance-related topics. She has worked in finance for about 25 years. She has held multiple finance and banking classes for business schools and communities. Read more at her bio page.
