When your business needs funding, you might be tempted to get it from the fastest possible source. That approach is understandable, but it can backfire, as fast funding routes are often more expensive. Instead, you should take some time to explore all your options and decide which loan type is best for you. This guide to how to choose a small business loan can help you do exactly that.
Choosing the right loan for your business can be a long process. That said, each individual step is generally pretty straightforward. Below are some tips to help you properly evaluate your options.
If you need more money to hire more employees, your funding options might be different than if you’re looking to upgrade your equipment. That’s why saying “I need more money” isn’t quite enough when searching for the right loan.
Instead, you need to say, “I need more money because I need to hire more people to keep up with demand.” This way, when you speak with a small business lending expert, they can point you toward loans approved for funding new hires.
Let’s say you need to buy machinery that costs hundreds of thousands of dollars. In that case, a $50,000 microloan might not get you over the line. When you determine how much money you need, you can eliminate certain loan categories right off the bat. That means no spending time applying for loans that ultimately won’t fit the bill.
Applying for loans if your business is brand new can be challenging. That’s because some types of loans are unavailable to small business owners with companies that haven’t existed for a certain amount of time. Your age, credit score, citizenship status, and bankruptcy history could also affect your eligibility. Find the qualification requirements for any loans you’re interested in to be sure.
Taking out loans means repaying them monthly. Your monthly payments will comprise more than just the loan amount – they’ll also include interest and fees. Use the percentages or flat amounts for these additional payments to determine whether your total monthly payment will fall within your budget. Keep in mind that some loans are amortized, meaning that the interest you pay on them decreases over time.
Some small business loans will require you to put up certain assets as collateral. These loans, known as secured loans, give the lender a backup plan if you can’t repay what you’ve borrowed. In that case, the borrower can seize and sell your collateral to recoup their costs. This arrangement merits the question: Are you willing to take out a loan that could result in you losing your assets? If so, which assets will you put up? Answer these questions before proceeding.
After you’ve worked through the above considerations, you should have everything you need to eliminate certain loan options from your list. For example, let’s say you decide you need $500,000 to buy commercial real estate for a second storefront. In that case, your list of possible loans will comprise only funding you can use for commercial real estate and that can fund your requirements.
Applying for loans is a notoriously paperwork-heavy process. You might need to present documents ranging from tax returns to business plans. Look up the paperwork requirements for several loan options available to you, then gather all the pertinent forms. Once you’ve gathered all this paperwork, you’ll know the loans for which you do (or don’t) have the right documents to apply. Consider consulting with a professional for assistance with paperwork if necessary.
Since the loan application process can be lengthy, you should consider initially applying for just one loan. If the lender doesn’t approve you, then you can apply to other loans instead. Don’t be discouraged if you’re denied the first go-round – plenty of other loans exist, and you can likely try your hand at those.
There are six key types of business loans you should know about. Some of these loans are best for borrowers with bad credit, whereas others are only available to borrowers with good credit. Other loans may be available to borrowers with a decent, but not quite great, credit report. Below is everything you should know about these loans and the types of credit scores for which they’re best.
Small Business Administration (SBA) loans are well-regarded among the many types of business funding options. In fact, SBA 7(a) loans are often seen as the best among all loans offered to small businesses. More information about 7(a) loans and the other two primary types of SBA loans is below.
Notably, the SBA backs all the above loans, and this government backing incentivizes approved SBA lenders to offer these loans. It also introduces a hefty amount of paperwork on your end to ensure you won’t default or need government assistance paying for your loan.
If you don’t qualify for SBA loans, bank term loans can be a viable alternative. These loans typically have fixed interest rates of 6.99% to 26.99% and repayment terms of one to five years. Their amounts range from $30,000 to $500,000.
As the name “bank term loan” suggests, banks offer these small business loans. That said, credit unions, online lenders, and alternative lenders offer term loans too. You can use these loans to buy working capital or consolidate debt.
Since bank term loans lack SBA backing, they don’t require as much paperwork from their applicants, so funding can sometimes be faster. Their fixed interest rates lead to consistent monthly payments that can help new entrepreneurs further bolster their business credit score. That said, fixed interest rates ultimately lead to more expensive loans since variable-rate, amortized loans result in lower payments down the line.
Business lines of credit are similar to credit cards, but they expire after you use their balance. You’re not required to use the full credit line, and you’ll only pay interest on the portion you do use. Small business owners often use them to fund payroll, inventory and equipment purchases, and marketing campaigns.
Business credit lines often have high interest rates, which can make them disadvantageous. Their rates typically increase as your credit score decreases. That said, they can be easier to qualify for than SBA or bank term loans.
Equipment financing can be a reliable loan option if your credit score is in the 600 to 675 range. You’ll use equipment loans, as their name suggests, to buy new equipment or update old machinery. Once your loan term ends – often after five years – you can buy the equipment. If you fail to repay the loan, the lender will likely seize the equipment as collateral. This arrangement can put your business back at square one, but it does protect your other assets.
If your credit score is low, merchant cash advances (MCAs) can help you maintain your cash flow. For starters, many MCA providers won’t ask for your credit score. MCAs are also convenient: You’ll receive a loan, and then every day, you’ll funnel a portion of your credit card revenue to the lender. This arrangement is an especially passive form of loan repayment.
MCA providers check your credit card processing statements to determine your eligibility. If your transaction volume is high enough, you’ll likely qualify. However, your loan will probably come with extremely high interest rates and fees. You also can’t take out a merchant cash advance if your business doesn’t accept credit card payments.
Like merchant cash advances, your access to invoice factoring services is mostly independent of your credit score. Notice the word “services” there: Invoice factoring isn’t a loan in the traditional sense. Instead, an invoice factoring service buys any invoices that your clients or customers haven’t paid. The company will lend you the total invoice amount, charge you a fee, and interact directly with the client or customer for payment.
If clients sitting on unpaid invoices is your main obstacle to cash flow, invoice factoring can be a reliable funding option. That said, you’ll pay a weekly fee until your client repays, though the invoice factoring service often refunds some of this fee.
A business loan is important because it helps your company get funding, but there’s more value to it than that. Namely, a business loan is often a better option than other funding routes. Below are three reasons why business loans often prove superior.
Any loan you choose should be eligible for use in ways that suit your needs. It should also come with eligibility requirements that you can easily fit. You should also seek low interest rates and long repayment terms to make your payment installments smaller. Just as importantly, you should borrow from a lender that makes its team readily available to you whenever you need help.
On that front, SmartBiz® is a great option. You can apply for SBA 7(a) loans, bank term loans, and custom financing with easy access to a dedicated support team. We’ll match you with the bank whose loans check all your boxes, and you’ll get the capital your business needs.