A business loan is a type of financing that can be used for virtually any purpose related to your business. You can use the funds to buy inventory, purchase an asset, or pay your employees. Essentially for anything that can help you grow your business.
In this article, we will discuss how business loans work. We will also define the different types of business loans and explain how they can be used.
What is a Business Loan?
The first thing to keep in mind is that the terms “business loan” and “business loan” can be used interchangeably. They mean the same. Both refer to the amounts that financial institutions lend to businesses.
How can you Use a Business Loan?
Most business owners use funds in one or more of the following ways:
To meet your working capital needs
It could be that you don’t have enough cash because you recently bought inventory. Or your accounts payable may have increased. A business loan could be the best solution for a business in need of capital.
To buy property or new machinery
Fixed assets can be expensive. Most business owners do not have enough money to buy expensive equipment or office space with their own funds. A loan can be the perfect solution to buy new machinery.
To buy another business
There are two ways to increase revenue and bottom line for your company.
The first involves organic growth. This method uses the existing infrastructure to constantly increase your sales.
Inorganic growth is faster. You can double the size of your business by acquiring another business. A business loan could be the source of income you need to make the purchase.
To pay for a marketing campaign
Sometimes a marketing campaign can mean a big increase in your profits. You could have many more sales and customers if you increase your geographic reach or your market segment.
But these campaigns can be expensive. A business loan could provide you with the funds to take advantage of marketing.
Different Types of Business Loans
Business loans can be grouped into several categories.
How long does it take to pay them off:
Short term loans
Short-term business loans can provide you with immediate cash. Short-term business loans are generally paid off in 1-5 years.
Some businessmen use credit cards to meet their urgent cash needs. However, short-term loans are a better option, since they have lower interest rates.
Long term loan
Banks and other financial institutions grant term loans. They are for a period that could be extended up to 10 years. Refunds are usually made monthly or quarterly.
These business loans are typically used to purchase expensive equipment. They can also be used for a company’s working capital requirements.
For the amount you receive:
Microloans
This type of commercial loan is aimed at business owners who need a relatively small sum.
Some business owners turn to personal loans or payday loans when they need quick cash. This can be a mistake that will hurt your finances. Microloans are cheaper and better fit the needs of a company.
Small business loan
The size of these loans can be adapted to any of your business needs. These loans are the most used and requested: they offer enough money to finance most business projects and offer enough time to pay them that the monthly payments do not end up being huge.
Bank loans
The loans that can be accessed through banks are among the highest loans: they offer you more cash and with lower interest rates. But the problem is that they are more difficult to obtain than with alternative lenders.
Bank loans typically range from $10,000 to as much as $1 million.
SBA Loans
It might be a good idea to apply for an SBA loan. These are business loans for entrepreneurs that are partially subsidized by the government. The government grant helps lower the interest rate, ergo: you will have a cheaper loan. Your rates can be as low as 7.5% to 9.5%.
Other types:
Loan refinancing
A business loan can also be used to refinance your existing debt. This involves taking out a low-cost loan to pay off your high-cost debt. Refinancing could save you hundreds of dollars a month in interest costs.
Commercial mortgage
This type of business loan involves borrowing against the security of an office building or other business property.
Commercial mortgages are different from residential real estate loans.
A commercial mortgage is generally approved based on the property’s expected operating income. A residential real estate loan, by contrast, is approved after determining the creditworthiness of the borrower.
Cash advances (or MCA)
A cash advance (or Merchant Cash Advance) is a type of loan that is given to you based on your credit and debit card sales. This means that the amount of money that the lender offers you will depend on your regular card sales: if they are low, you receive little; if they are tall, a lot. Then a percentage of every sale you make will go directly to paying your MCA.
While many use MCAs as a quick and easy way to finance, they can be extremely expensive – APRs can be as high as 400%!
Credit lines
Basically, lines of credit are like credit cards: you can spend any amount you want as long as it doesn’t exceed the range you’ve been approved for (your credit limit). Monthly you will pay only the amount you spent, not more. Of course, you also have to pay interest.
These types of loans are great if you have ongoing but fluctuating expenses. But if you need capital for just one business opportunity, we recommend looking for another type of loan.
Business Loan Requirements
Do you plan to get a business loan? Before beginning the process, you should be aware of the important requirements and details involved in business loans.
Endorsement
Many lenders insist on having a guarantee, collateral or guarantee.
Because?
They want to make sure they won’t lose money. If you can’t pay your business loan, the lender might sell the asset you provided as collateral. This could be real estate, inventory, or the machinery you use to make the products you sell.
If you can’t or don’t want to provide collateral, you can opt for an unsecured business loan.
Minimum credit score
It is very possible that you will find financing with very low interest rates. But it is not so easy to get one. You need a good credit score to qualify for these loans.
Each lender has different requirements, so you should research what credit score you need to be approved. Most will ask you for a credit score in the 620 to 680 range.
How long does it take to be Approved for a Commercial Loan?
According to the 2019 Small Business Credit Survey, conducted by a collaboration of the 12 Federal Reserve Banks, traditional lenders can take a long time to approve loans.
The Survey reveals that “those who applied for loans from banks were more dissatisfied with the waiting times for credit decisions.”
When an entrepreneur applies for a business loan, speed is a critical factor. Getting an approval weeks or months after the application was made could mean that the business opportunity has been lost.
On the other hand, online lenders tend to be faster. Some online lenders have an approval period of less than a week, and sometimes you can receive your funds within 2 days of being approved.
Social Security number
You may be asked to provide a social security number. If you don’t have one, your application will be rejected.
Most lenders will need your SSN to approve your loan. They use this number to check your credit score and to prove that you are a US citizen. This is a problem for immigrants who have opened businesses in the United States
Time in operation
A lender may impose additional conditions. For example,
Some financial institutions insist that the business must have been in business for at least 2 years. If your company is recent, you will not qualify.
How can you increase the probability that your loan application will be approved?
Application Process for a Business Loan
Although the process to apply for a business loan is quite simple, some banks or institutions may have additional steps or requirements. This can also make the application process very long, especially when dealing with traditional lenders.
1. Application and pre-approval
You must first file your application with the bank or financial institution. In general, in this step you do not need to send any documentation, just fill out an application with business and personal information.
The lender will review your information and see if you are compatible with their financial product. If so, you will be pre-approved.
2. Sending documentation
Now that you have been approved, you need to submit your documents and business records. The lender may also want to review your bank transactions.
Because?
The bank must make sure that your earnings are enough to pay off the loan: they don’t want you to have a debt that you can’t pay.
3. Approval
In this step, a loan specialist reviews your application and decides whether or not to approve it.
4. Accept the terms of the loan and sign the contract
If your loan is approved, the lender will contact you to send you the terms of the loan. If you agree with them, you will have to sign a contract.
5. Receive the money
Once everything is in order, the lender will send you the funds. Keep in mind that this whole process can be quite long, depending on the lender.