What is a Small Business Loan?
It’s common to feel that good financing is only available to large, established business and corporation, but the truth is that small business owners have more financing options available today than at almost any time in the recent past. Small Business Loans, in all their many forms, are designed to do one thing: help your small business grow.
Small businesses, generally understood to be those with fewer than 500 employees and annual revenue of under $7M, will typically need to have been in business for at least one year and have some established credit and a solid business plan before traditional financing can be sought. There are different kinds of loans to meet the varying needs of different businesses.
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Small business loan interest rates vary depending on a businesses credit score, the loan amount and the type of small business loan they are applying for.
For example, the current rates for a SBA 7(a) loan range between a minimum of 7% and a maximum of 11.75%. Because interest rates are calculated on an individual basis, it is important to clearly understand the rate offered to you by your lender before accepting any loan.
Credit requirements vary based on the types of loans you’re applying for and the institutions you are from which you are borrowing. The credit requirements are typically more lenient for online lenders than they are for traditional banks or SBAs. While other factors are taken into consideration the most important aspect is typically some form of credit score. The most common type of credit score to assess loans of under one million dollars is the FICO SBSS.
Lenders base the score on both your personal and your business credit history. The higher the score, the lower risk you are assessed to be. Factors which come into play include your payment history, the amount of debt you have, and the length of your credit history.
For Bad Credit
Having bad credit can be a significant barrier to acquiring funds for your business. Alternative lenders are more flexible than traditional lenders about accepting borrowers with a less than perfect credit history. However, even alternative lenders almost always require some minimum credit score. If you do qualify, having a lower credit score will likely cost you in the form of higher rates. It’s not all bad news, though. You can get a bad credit score by having acquired too much debt, by having failed to make payments in the past, or just by having too short of a credit history, all of which are fixable. By correcting errors in your credit report, paying back outstanding loans, and using loans and credit cards responsibly over time, you can get your credit score right where you want it.
As with anything related to financing, it’s best to have your act together before you seek financing, but if you’re in a tough spot just remember that the best time to start repairing your credit is today. If you’re fortunate enough to have an excellent personal credit rating, but your business credit history is limited, you may be able to qualify for a business credit card on the strength of your personal credit, the use of which will help you to build up a solid business credit history.
A merchant cash advance is another option for those with bad credit. Merchant cash advances operate by taking a percentage of future credit card sales in exchange for a lump sum today, so credit scores and histories are seen as irrelevant to a business’s perceived ability to repay the advance. This flexibility comes at a price, however, in the form of high interest rates and undesirable terms.
No Credit Check
Among traditional lenders, there are very few options for people looking for financing without a credit check. Lately, though, some alternatives have surfaced for just such occasions These include invoice financing, merchant cash advances, and micro-loans. Most of these alternatives have advantages for those without good credit or those who need short-term cash flow, but they do tend to have significantly higher fees and rates than traditional loans. Invoice financing works as follows: a financial institute gives you an advance based on outstanding invoices owed to your business. This advance gives you a short-term cash flow while you are waiting for the money owed to you to come in. When you do receive payment on your invoices, you pay back the financier, plus a fee.
A merchant cash advance works similarly, but instead of invoices being used as collateral, you use future credit card sales as leverage to get a lump sum today. The financier takes a percentage of your sales until the advance is paid off, plus a fee for their services. Finally, some loans, such as micro-loans and SBA loans, are designed to help finance businesses owned by people from disadvantaged backgrounds. Non-profits often fund these loans to help create a more equitable society, so they often do not require credit checks.
Unsecured vs Secured
A secured loan is a loan where you offer some form of collateral, which can be collected if you fail to repay. Common collateral includes real estate or equipment. An unsecured loan, conversely, is a loan made without any collateral. Since a lender could recoup the costs of its loan by collecting the collateral put up, secured loans are considered to be a much lower risk than unsecured loans. As such, secured loans are easier to qualify for and tend to have significantly lower rates than unsecured loans.
Your business will sometimes have a short-term cash flow problem despite being set up for long-term success. This can occur when your company is new, during a period of rapid expansion, or during seasonal dips in revenue. Your business can use working capital loans during these lean periods to pay for the day-to-day operational costs that might otherwise go unpaid. Working capital loans come in a variety of forms, including business lines of credit, short-term loans, accounts receivable loans and invoice factoring.
How to Apply
When applying for a loan, the first thing you should do is decide what you need the loan for and how much money you will need. Knowing how much you need is crucial to avoid saddling yourself with more debt than necessary. You will want to get your credit checked. Knowing your credit score will help you get a sense of what kinds of loans you may qualify for. Having your credit checked in advance can also potentially lead to correcting an error in your credit, which could raise your score immediately.
You should then identify what your borrowing options are. Consider both large and small banks, as well as online and alternative financing options.
Once you’ve chosen the institutions you wish to apply to, prepare a business plan, and make sure your plan includes how you intend to use your loan. Finally, gather together all the necessary documentation and make an appointment with one or several financial institutions to field your options. Be prepared to be persuasive in your meeting. No small business can operate for long without secure, steady financing. Reach your business’s full potential by taking financing by the horns.