November 12, 2020

What Is a Debenture? All You Need to Know

The UK has over 300 banks and for the longest time, London has often been termed as the financial capital of the world. Most banks and other lenders give loans to people who’re qualified and eligible. When lending, lenders in the United Kingdom use an instrument called a debenture.

This blog will provide you with the information you need to know about a debenture and the pros and cons of the lender and the borrower.

What is a debenture?

A debenture is an instrument that a lender uses when giving finances to individuals or companies. With this instrument, the lender can repossess the borrower’s assets in a case where they default to pay. In the debenture, the following terms are specified.

  • The amount of money the borrower has been loaned.
  • The interest rate on the debenture loan
  • Any other charges attached to the loan
  • The time of repayment and the total amount to be repaid

Debentures come with different charges. They can grant you a fixed charge or a floating charge.

What is a fixed charge?

For a fixed charge, the lender can take control of the borrower’s assets and trade them if they default to pay. A fixed charge deals with tangible assets like machinery, buildings, and cars. With this one, the borrower cannot sell the property without the lender’s consent until they pay off the loan.

A floating charge

On the contrary, with a floating charge, the borrower is not tied to their assets. They can sell them without the lender’s consent. This charge is fixed to assets like shares and raw materials. These kinds of investments are not permanent, and they can change with time.

Like any other property, debentures have their advantages and disadvantages to both the lender and the borrower.

Pros for the borrower

With a debenture, the borrower is assured of getting a loan from the lender without restricting the amount they can borrow. This is an advantage they don’t get with regular loan options.

Pros for the lender

Debentures are meant to protect the lender. So, if the borrower fails to honor their agreement on the loan repayment, the lender is not placed in the hierarchy of creditor payment.

Another advantage is that debentures pay more interest than bonds and other investments, meaning the lenders will get more.

To sum it all, a debenture is an essential tool for the bank because they can exchange it with another financier. So, if they are not interested in your debenture, they don’t have to hold onto it.

Cons to the borrower

The indenture states that, among other losses, the bank can repossess the borrower’s asset if they fail to repay the loan. This puts the borrower at risk of losing the assets in that case. Also, with a debenture, the borrower has to pay the interest rates, making them have very little financial flexibility.

Cons to the lender

Some of the risks that the debenture carries are interest rate risk. Debentures are repaid on a fixed interest basis. This means that if interest rates rise, the lender may incur losses.