Types of debt
There are
different types of debt that exist today, some of which are basic loans,
bonds, syndicated loans and promissory notes. Debt, especially when the
sums of money
involved are large, can be secured
through a mortgage or other kinds of security interest over some of the
debtor's property; in this case the creditor usually has certain rights
over that property in the event that the debtor becomes unable to repay
the debt and defaults on the loan, for some reason.
A basic loan is the
simplest form of debt and this consists of an agreement to lend a
principal sum of money for a fixed period of time, which is to be repaid
by a certain date. In commercial loans as a norm, the interest is
calculated as a percentage of the principal sum per annum, and will also
have to be paid to the creditor by the same date. It is usually paid back
monthly, or half yearly, in equal payments over the period of the loan. It
can also sometimes be paid back all at once at a later date in which case
it is called a balloon payment.
A bond is a debt
security which can only be issued by certain institutions, such as certain
companies and government bodies. A bond entitles the holder to repayments
in terms of interest as well as principal. When such an institution wishes
to borrow money it resorts to selling bonds in the marketplace to
investors. They will usually have a fixed lifetime ranging from 3 to 50
years, long term bonds tend to be less common though; and at the end of
that period the money will be repaid in full. During the period the
borrower will be required to pay an interest known as a coupon for bonds
at regular intervals. Bonds are usually traded in the bond markets, and
are widely used as relatively safe investments as compared to
shares.
A syndicated loan is
one that is granted to companies that wish to borrow more money than what
any single lender might be prepared to risk in a single loan, the
requirement for this usually arises when the amount runs into many
millions of a particular currency. A syndicate of banks is created, and
each bank agrees to put forward a portion of the principal sum.
A promissory note is
usually a contract detailing the terms of a promise by one party, who is
the maker, to pay a sum of money to the other who is the payee. The
obligation may arise from the repayment of a loan or from any other form
of debt. For instance, in the sale of a business, the purchase price might
be a combination of an immediate cash payment and one or more promissory
notes for the balance that is yet to be paid at a later date. The terms of
a note typically include the principal amount, the interest rate if any,
and the maturity date. A promissory note differs from an IOU in sense that
the latter is a simple acknowledgement of the existence of a debt owed,
whereas a promissory note, as its name implies, contains a more
affirmative undertaking to repay the amount stated to be
borrowed.
