Flat vs reducing rate in one line each
- Reducing balance rate. Interest each month is charged only on the principal still outstanding. As you repay, the interest part of each EMI shrinks.
- Flat rate. Interest is worked out once on the full loan amount for the full term, then spread evenly over the EMIs. You keep paying interest on money you have already repaid.
- APR (annual percentage rate). The yearly cost of the loan including interest and all other charges (RBI notification). It is the number to compare.
Most bank and NBFC business term loans quote a reducing rate. IDFC FIRST Bank, for example, says its business loan rates are calculated on a monthly reducing balance (IDFC FIRST Bank). When a quote does not say which method it uses, ask.
How each is calculated
Reducing balance. The EMI comes from the standard annuity formula: EMI = P × r × (1 + r)^n ÷ ((1 + r)^n − 1), where P is the loan, r the monthly rate and n the number of months (Standard loan EMI formula). Each month, interest is the monthly rate times the balance still owed. The rest of the EMI repays principal.
Flat. Total interest = loan × annual rate × years. The EMI is (loan + total interest) ÷ months.
A worked example: ₹10,00,000 over 36 months at 10%
| Reducing balance at 10% | Flat at 10% | Source | |
|---|---|---|---|
| EMI | ₹32,267 | ₹36,111 | Standard loan EMI formula |
| Total interest over 36 months | ₹1,61,619 | ₹3,00,000 | Standard loan EMI formula |
| Equivalent reducing-balance rate | 10% | About 17.92% | Standard loan EMI formula |
The same "10%" costs nearly twice as much in interest when it is flat. In this example, a 10% flat rate is the same cost as a reducing rate of about 17.92% (Standard loan EMI formula). Our business loan EMI calculator works on the reducing balance.
Why the gap opens: the repayment schedule
The schedule shows where each EMI goes. On the reducing loan, interest falls every month because the balance falls. On the flat loan, interest stays the same to the end.
| Month | Reducing: interest | Reducing: principal | Reducing: balance after EMI | Flat: interest | Source |
|---|---|---|---|---|---|
| 1 | ₹8,333 | ₹23,934 | ₹9,76,066 | ₹8,333 | Capnix worked example |
| 12 | ₹6,046 | ₹26,222 | ₹6,99,258 | ₹8,333 | Capnix worked example |
| 24 | ₹3,300 | ₹28,967 | ₹3,67,023 | ₹8,333 | Capnix worked example |
| 36 | ₹267 | ₹32,001 | Nil | ₹8,333 | Capnix worked example |
In month 36 the flat borrower still pays ₹8,333 of interest on a loan that is almost repaid. The reducing borrower pays ₹267 (Capnix worked example). The KFS must include this kind of repayment schedule, so you can check the method yourself (RBI notification).
What APR adds on top of the rate
Even a reducing rate leaves out fees. A processing fee, documentation charge or insurance premium raises your cost without changing the EMI. APR captures all of them in one yearly figure.
RBI has made APR the comparison number:
- Every RBI-regulated lender must give a Key Facts Statement (KFS) for new retail and MSME term loans sanctioned on or after 01-Oct-2024 (RBI notification, 15-Apr-2024).
- The KFS includes an APR computation sheet and the repayment schedule. The APR includes every charge the lender levies (RBI notification).
- Charges the lender collects for third parties at actuals, such as insurance and legal fees, are also part of the APR and shown separately (RBI notification).
- A fee not in the KFS cannot be charged later without your explicit consent (RBI notification).
Worked example: how fees lift the APR
| Item | Amount | Source |
|---|---|---|
| Loan sanctioned | ₹10,00,000 | HDFC Bank |
| Interest rate (reducing) | 14% a year | HDFC Bank |
| Processing fee at 2%, deducted at disbursal | ₹20,000 | HDFC Bank |
| Documentation, deducted at disbursal | ₹3,500 | HDFC Bank |
| Amount you actually receive | ₹9,76,500 | HDFC Bank |
| EMI for 36 months | ₹34,178 | HDFC Bank |
| APR (before GST on fees) | About 15.68% | HDFC Bank |
You pay the EMI on ₹10,00,000 but receive only ₹9,76,500. Working out the yearly rate on what you received gives the APR. The gap between 14% and about 15.68% is the cost of the fees.
Monthly rate quotes
Some lenders quote a monthly rate. FlexiLoans, for example, writes "12% per annum (1% per month)" (FlexiLoans). A monthly rate times 12 gives the yearly rate on the same basis. It does not tell you whether the rate is flat or reducing, and it leaves out fees. Ask for the APR.
How to compare two loan quotes
- Ask each lender for the KFS. It must stay valid for at least three working days on loans of seven days or more, so you have time to compare (RBI notification).
- Check whether each quote is flat or reducing.
- Put the APRs side by side, not the headline rates.
- Read the pre-payment and penal charges, which the APR does not include because they depend on what you do later. See business loan charges and fees.
- For digital loans, note the cooling-off period, at least one day, in which you can exit by paying the principal and the proportionate APR without penalty (RBI notification, 08-May-2025).
Want lenders to quote you smaller numbers? The free loan readiness check shows what lenders are likely to see in your file first.
Frequently asked questions
A flat rate, at the same headline number. On ₹10,00,000 over 36 months at 10%, the flat rate costs ₹3,00,000 in interest against ₹1,61,619 on a reducing balance (Standard loan EMI formula).
APR is the annual cost of credit to the borrower, including the interest rate and all other charges on the loan (RBI notification).
RBI wants borrowers to compare loans on their full cost. Since 01-Oct-2024, lenders must give a KFS with an APR computation sheet for new retail and MSME term loans (RBI notification, 15-Apr-2024, RBI notification).
No. The APR is higher whenever the loan carries fees. In our example, a 14% loan with ₹23,500 of upfront fees has an APR of about 15.68% (HDFC Bank).
Find the reducing rate that gives the same EMI over the same term. For 36 months, a 10% flat rate equals about 17.92% reducing (Standard loan EMI formula). The equivalent changes with the term, so work it out for each quote, or ask the lender for the APR.
Only if you compare it with a reducing-balance EMI. At 10% over 36 months on ₹10,00,000, a reducing EMI is ₹32,267 and a flat EMI is ₹36,111 (Standard loan EMI formula).
No. Those depend on future events, so they are listed separately in the KFS and the loan agreement.
Sources
- RBI circular on the Key Facts Statement, 15-Apr-2024 , checked 02-Oct-2026
- RBI (Digital Lending) Directions, 2025 , checked 02-Oct-2026
- IDFC FIRST Bank business loan interest rates , checked 02-Oct-2026
- FlexiLoans business loan , checked 02-Oct-2026