A discount loan is a loan arrangement where the interest and any other related charges are calculated at the time the loan is granted. At the same time, the total of the interest and other charges are subtracted from the face amount of the discounted loan. Instead of receiving the face value of the loan, the borrower receives the reduced amount, but is still responsible for repaying the full face value of the loan.
Discount loans are often issued when the borrower desires nothing more than a short-term loan. Because the interest and charges are already accounted for up front, setting up the schedule of payments with a discount loan requires nothing more than dividing the face value by the number of installment payments to be made. This approach makes it possible for the borrower to begin paying on the principle immediately, without any of the installment payments going to cover interest charges.
For the lender, the discount loan is also beneficial, in that this type of loan does not usually allow for breaks on the interest charges applicable to the loan. Since the applicable interest and related charges are accounted for up front, there is no need for the lender to have to apply penalties for early payoff or to recalculate the rate of interest if the borrower pays off the loan ahead of schedule. This keeps the accounting required to keep the details of the loan in order relatively simple.
Discount loans are normally written as short-term loans. The idea is that the borrower needs resources quickly to cover expenses in the near future, and will be able to repay the face value of the loan within a period of anywhere between three months to one calendar year. It is not unusual for the actual rate of interest applied to these types of loans to be slightly higher than loans of longer duration, although that is not necessarily the case. Borrowers who have a solid credit rating and have done business with the institution in the past may qualify for interest rates that are slightly more competitive.
As a simple solution to a temporary situation, a discount loan can be an idea option. Borrowers receive what they need to meet the immediate need, and lenders have the assurance that the loan can reasonably be expected to be repaid in full in a short period of time. With benefits to both parties, the discount loan represents a viable financing option for both small and large businesses.