Complete Guide to Loans for Small Businesses
What Is A Business Loan?
Business loans have long been a useful option for maintaining operations. Business owners utilize them for a variety of reasons, including a short-term increase in your cash flow or to pay for expensive and functional equipment. Business loans can also be utilized to finance expansion or pay off high-interest debt.
You'll likely require money to support your business objectives, whether you're just starting or expanding. Many small business owners look towards small business loans for funding without sacrificing their equity or stake in the company. Rather than personal loans, small company loans help entrepreneurs get their businesses off the ground while maintaining control.
What is the definition of a business loan, then? A business loan is a loan that is primarily meant for two business needs: working capital and fixed assets. Short-term debt is commonly used to fund fixed assets. Long-term debt is commonly used to fund working capital, which refers to loans that cover day-to-day expenses like payroll.
- Table Of Contents
- What Key Terms Should You Understand Regarding Business Loans?
- Business Loan Sizing
- Importance of a Business Loan
- What Are The Different Types of Business Loans?
- How to Use a Loan to Grow Your Small Business
- What Do You Need to Apply For a Business Loan?
- Questions to Consider Before Choosing a Business Loan
Now that the basics have been settled let's jump to this complete guide on how to get loans for small businesses. Are you ready? Let's start!
What Key Terms Should You Understand Regarding Business Loans?
Assets
Assets are valuable items that the borrower or their company has. For a business loan, lenders like banks and credit unions frequently want "collateral" of some kind. Your company's assets may consist of stock, machinery, vehicles, and buildings.
Cash flow
Cash flow is the net amount of money entering and leaving a business utilized for ongoing operating costs. A corporation can settle debts, reinvest in its operations, return money to shareholders, pay expenses, and create a safety net against upcoming financial difficulties if it has positive cash flow.
In contrast to revenue, cash flow is not accrued. Instead, cash flow keeps track of the company's actual cash on hand as well as the cash that comes in and goes out. As a corporation must always have enough cash on hand to cover short-term financial obligations, cash flow is crucial to the operation of the organization.
Closing costs
Some loan types may have charges and expenses related to the loan's actual security. In order to prevent surprises for borrowers, lenders disclose all fees that are included; however, you should make sure to inquire. The origination fee, title insurance, loan packaging fee, commercial real estate appraisal, survey fees, environmental site assessments, tax monitoring fees, certificate of good standing, filing and recording fees, flood certification, and other expenditures may be included in your closing costs.
Business Loan Sizing
What does business loan sizing mean? Business loan sizing is basically the size or monetary amount of a business loan, which can be influenced by several factors, including the debt-to-income ratio, credit score, and others. A lender assesses the loan size that they may offer a borrower, but this can be a difficult procedure because borrowers may expect a greater loan than they are qualified for.
Next are the types of loans you can get, and which one may be a better option for your business goals:
Type of Loan and Average Loan Terms
Understanding what distinguishes one company loan from another will aid you in determining which is the greatest fit for your financial requirements. If you need money immediately, some of the following solutions are preferable to others.
What is Refinancing?
Like most other types of loans, small business loans may frequently be refinanced, which means you can acquire a new, and ideally better, loan to replace your old one. By refinancing, you could help yourself save money by lowering your monthly payment or by freeing up any additional working capital in your budget.
Refinancing a company loan is similar to refinancing a mortgage or a student loan in terms of mechanics. The procedure is obtaining a new loan to pay off your old one. You then begin making payments on the new debt. The new loan should, in theory, have better terms.
Fixed-rate vs. Variable Rate Small Business Loans
You may get a small business loan with a fixed interest rate if you want to borrow money at a fixed rate at the time of the loan. Even if the base interest rate rises or falls, that interest rate is unlikely to change throughout the duration of the loan. The overall cost of your loan will not change if interest rates rise. Fixed rates allow you to control your cash flow better and protect your organization.
A variable-rate loan allows your small business to borrow money at a rate that fluctuates over time. For example, let's say the base rate increases by 0.5 percent, then your loan rate will increase from 8% to 8.5 percent. You might save if rates decrease, but there’s a risk that they rise instead.
On the other hand, fixed-rate loans typically have higher interest rates than variable-rate loans. But if the base rate falls, your lender is likely to lower your small business loan rate, reducing the total amount payable and monthly payments.
Fixed-rate vs. Variable Rate Small Business Loans
Because secured small company loans are guaranteed by particular security and assets, borrowers can expect lower interest rates and conditions. Unsecured small business loans have more restrictions and are typically riskier; thus, interest rates will be higher and other requirements may be more difficult.
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Importance of a Business Loan
Now, what is the importance of a business loan? Next are three main reasons why you should consider getting a business loan:
You have full control of your business.
Your bank or any alternative lender will not force you to use the cash or tell you how to spend if you take out a business loan. Although bank loans come with interest and penalties, you aren't giving up a stake in your company, a share of the earnings, or any operational management. At the end of the day, you still have complete control over your company.
You get the funding fast
It can take up to a year or more to raise funding from venture capitalists or other investors. If you borrow money from banks, credit unions, or online lenders, it would be significantly faster. Some lenders will process your application in minutes if you apply online.
Loans have lower interest rates.
Between credit cards and business loans, the latter usually comes out on top in terms of borrowing costs. According to Experian, business loan interest rates range from 2% to 13% for business owners with the best credit scores. The rate range for corporate credit cards is 13.9 percent and higher. You should keep in mind that your credit score has a significant impact on the cost of borrowing and whether or not you'll be approved for a loan.
What Are The Different Types of Business Loans?
Here are some details on each loan:
Bank Term Loans
Borrowers who take out a bank term loan receive a large sum of money upfront in exchange for certain borrowing terms. Borrowers agree to pay a certain sum to their lenders over a set period of time, whether with a fixed rate or fluctuating interest rate.
Working Capital Loan
Working capital loans help businesses raise funds in a fast, easy and trusted way. Commonly used for immediate needs or opportunities such as buying stock, expansion plans, refurbishment, and general working capital needs. Working capital loans are generally considered less risky than long-term financing, meaning you are more likely to receive an approval.
A Line of Credit
A business line of credit (LOC) is a type of account that allows you to borrow money when you most need it, up to a predetermined borrowing limit, by writing checks or making purchases or cash withdrawals with a bank card. Lines of credit are available from several banks and credit unions and are sometimes referred to as personal lines of credit—or bank lines. This small business financing option also allows the borrower—the small business owner, in this case—to only pay interest on the funds they draw.
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Online Invoice Financing
Invoice finance is a type of short-term loan in which your company borrows money against the amount owed on invoices sent to clients. The trade receivables are subsequently put up as security.
Merchant Cash Advances
A merchant cash advance is a company financing that allows firms to get the cash they need quickly and easily. The lender gives the company a cash advance, which it repays using a percentage of its customers' card payments processed through a card terminal.
SBA Loans
SBA loans are small-business loans that are granted by participating lenders —primarily banks,—and are partially insured by the US Small Business Administration. SBA loans have stringent lending requirements, but their flexible terms and low-interest rates make them one of the most cost-effective methods to fund a firm.
Types of SBA Loans
7(a) Loan Program
The SBA's primary program that provides financial assistance to small businesses is called the 7(a) loan program. The terms and conditions of a loan, such as a guaranty percentage and loan amount, may differ depending on the loan type.
Microloan Program
The Microloan program offers loans up to $50,000 to help small enterprises and non-profit childcare centers get started and grow.
Real Estate and Equipment Loans
This lending option allows you to finance large fixed assets like equipment or real estate.
Disaster Loans
The Small Business Administration (SBA) offers loans of up to $200,000 to businesses, nonprofits, homeowners, and even renters, whose principal residence requires repair or replacement due to a declared disaster. Renters and homeowners alike can borrow up to $40,000 to cover personal property losses in the event of a calamity.
How to Use a Loan to Grow Your Small Business
Small company loans can be used to expand an already established small business and to launch new small businesses. A small business loan can support the development and growth of your company in a variety of ways.
Easy Cash Flow
Businesses need money, and small, developing businesses frequently require assistance with their financial flow. You may even out your cash flow with small business loans, which can help your company become more stable as it expands.
Establish a New Location
A small business loan is an excellent approach to make that happen if your small business is expanding and you want to build a second location. The new site is obtainable with money.
Invest in Equipment
Instead of purchasing inexpensive equipment that you will need to replace the following year, it pays to invest in quality equipment that will last a few years. However, what should you do if you lack the funds to purchase equipment? You can use small business loans to get the tools your company needs to expand and succeed. In order to help a small business with this, there are also loans for business equipment.
Purchasing Stock
If your company sells products, you'll probably need to manage inventory to sell to your clients. A loan might help things go more smoothly and enable you to purchase the merchandise for your company if cash flow is a problem when you need to resupply your stores or supply chain delays have driven up the purchase prices.
Expand Products or Services
Adding more goods or services is a simple method to expand your company. This frequently calls for purchasing additional inventory, hiring new personnel, or marketing your most recent goods and services. All of these expenses are covered through business financing.
What Do You Need to Apply For a Business Loan?
When it comes to applying for a small business loan, you should do it well ahead of time. However, you must be prepared for your loan application meeting—many business owners are unable to meet business loan standards when they are in desperate need of funds because they have not prepared.
Before you walk into a bank, gather the documentation and other information you'll need to qualify for a business loan. Before you need money, you need to at least know what the lender's precise requirements are.
Business Loan Eligibility
When deciding whether or not an application is eligible for a loan, lenders look at a few factors. One approach to help your case when seeking business credit and loans is to have a solid company credit score. Each lender has its own set of minimum standards and qualifications that determine whether or not an applicant qualifies.
What Comes Into Play When Asking For A Loan?
Do you want to know how to qualify for a business loan? The documentation and information listed below must be on hand.
Credit
Most lenders assume that the past performance of a business predicts its future outcomes, and they get this data from personal and commercial credit scores. In addition, one of the first conditions for a business loan is that both the company and the owner have excellent credit scores. According to the lender, the lower the credit score, the larger the perceived risk.
Time in Business
Lenders want to know how you will spend the loan funds and how the business intends to expand. You should adequately discuss your company's age and stability in its industry. Prepare to present an up-to-date copy of your business plan, which contains expected financial statements and a repayment strategy.
Don't forget to add the resumes of your company's key managers and how they will contribute.
Collateral
When making a loan, every lending source wants to minimize its risk. Loan sources achieve this in a variety of methods, including obtaining more financial collateral to secure the loan in the event your company defaults on its payments. This is typically done by using a company's accounts receivable, equipment, or other easily sold assets.
One of the additional requirements for a business loan may be that the owner of the firm offers a personal guarantee or pledge additional collateral, such as personal assets, real estate or other financial assets.
The four cornerstones of most business loan applications are credit ratings, annual income, a company plan, and collateral.
Cash Flow
A comprehensive picture of your organization's patterns—particularly how sales and cash flow have increased—is one of a lender’s most requested business loan conditions.
Make sure you have the most recent two years' worth of precise monthly financial statements on hand. They'll look at specific measures like the current ratio, which is the ratio of existing assets to current liabilities.
Debt Load
The total amount of money you owe is referred to as your debt load. Calculate your debt/income ratio by comparing the amount you owe to the amount you earn to see if your debt load is too much for you to handle.
Industry
In which industry does your company operate? An industry is a collection of enterprises that have a common primary activity, such as manufacturing automobiles or selling groceries. Smaller industries—such as vehicle manufacturing— can be grouped together into bigger industry sectors, for example, the manufacturing sector in general.
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Questions To Consider Before Choosing a Business Loan
Take some time to evaluate your existing needs before diving into the details of the many types of loans available and which loan makes the most sense for your company. Here are some useful first questions to ask yourself so that you can set clear goals before you begin your study. Next are some facts to consider before choosing a business loan.
The Amount of Money You Need
How much of the total cost of your project is your lender willing to fund? This will determine the size of the investment required and whether it is necessary to diversify your loan relationships with a second bank.
How Long It Will Take You To Pay It Back
The best-laid plans sometimes go astray due to unplanned circumstances, and as a businessperson, you know this. As a borrower, you must be open and honest with your banker regarding the consequences of missing loan payments. For example, it is possible to suspend principal payments with your bank temporarily. It's far better to know this in advance than to discover the truth in the middle of a crisis.
How Long You Have Been In Business
Have you been in business long enough? Are you willing to take the next step? Getting a bank loan means you're prepared to pay it back and that it wouldn't be a problem in the long run. Also, do you want your business to really grow? These basic questions will help with the decision of getting a small business loan.
The Financial State of Your Business
What financial and reporting requirements does the bank have? Most loan agreements include financial reporting responsibilities that require annual financial statements and reports to be submitted to the bank. The reporting requirements for smaller loans are usually less stringent.
A covenant is a contract between a bank and a borrower in which the borrower commits to a set of terms in exchange for a loan. If a covenant is broken, the loan terms are violated, and the bank may demand repayment of the entire amount.
How Much, If Any, Collateral You Will Put Up
What guarantees are you being asked to provide in the event of a default? If you don't pay your debt, the bank can take you to court to get the right to sell your collateral. Because everyone loses in the process, this is always a last resort.
Accounts receivable, pledges and liens (equipment and other fixed assets), inventories, real estate, personal guarantees, and third-party guarantees are all examples of collateral. The type of collateral you supply is determined by the nature of your business, the bank's terms and conditions, and the amount of negotiation room you have.
Your Credit Score
Business loan providers consider a credit score in the range of 640 to 700 to be good—but not great. For SBA and term loans, a credit score of roughly 680 is usually required.
If You Have Any More Outstanding Loans
Do you have other small business financing options that may be the best fit for your situation? Consider all the possibilities and always put what's best for you and your business first.
Is Your Loan Going to Be Short Term or Long Term
What is the maximum loan period that the lender is ready to offer? Longer periods involve greater borrowing costs; however, this may be an expense worth incurring to avoid cash flow issues.
We know that the loan world is not easy to wander, less when you have a business to run. We hope this guide has given you an idea of how to approach small business loans and take advantage of them. The Quick Capital Funding team is always available to answer all your questions and help you get best small business loans with competitive interest rates you're looking for.
Quick Capital Funding is willing to guide you in the right direction of getting the loan you deserve.
