Every small business needs some capital in order to get up and running. As an entrepreneur, you may need to hire staff, rent a storefront or office space, or invest in equipment or technology necessary for managing day-to-day operations. So how do you get enough money to get your small business off the ground?
Securing a small business loan is one way to build a company or help an already existing one grow. These loans are especially crucial now that so many small businesses are struggling as a result of the COVID-19 pandemic. In this article we’ll go over:
- What is a Small Business Loan?
- SBA 7(a) Loans
- Benefits of Small Business Loans
- Other Types of Small Business Financing
- Support for Small Businesses Affected by COVID-19
What is a Small Business Loan?
Small business loans are financing options that lenders can provide small business owners in order to help them achieve their goals. It’s an umbrella term that encompasses a wide variety of different loans, many of them designed specifically for small businesses who want to access capital and grow.
When you apply for a small business loan, lenders decide whether or not to approve it by conducting a review of your company’s credit, which is determined by factors such as total revenue, credit score, and the amount of time the company has been in business. If you’re currently trying to build your company’s credit, then check out our other articles on business credit tips.
Before filling out a small business loan application, you’ll also have to determine whether you want to take out a secured or unsecured loan. Secured loans are backed by collateral, or something of value that you as a business owner would forfeit to the lender in case you default. Unsecured loans, on the other hand, don’t require you to put up any collateral, creating more risk for the lender.
Due to the higher level of risk, lenders will examine an application for an unsecured loan with a greater amount of scrutiny than they would a secured loan. Additionally, unsecured loans generally carry higher interest rates, shorter repayment terms, and lower principal amounts. So consider your business’s needs and determine whether a secured or unsecured loan is best for you before filling out a loan application.
Types of Small Business Loans
Included below are a number of common small business loans that can take anywhere from a few weeks to a few months to be processed and approved.
Business term loans are one of the most common types of loans for small business owners to take out. It’s a pretty straightforward type of loan where a business borrows a lump sum from a lender and then pays it back with interest in installments over a number of years.
Small Business Administration (SBA) loans are government-backed loans issued by banks and other lenders. These types of loans are known for having incredibly low interest rates and long repayment terms, both of which are beneficial for small business owners.
Commercial mortgages provide financing for commercial properties such as physical shops, restaurants, and office spaces. You can also use a commercial mortgage to remodel or expand one of your existing commercial properties.
Business acquisition loans can help individuals purchase an existing business or franchise.
Business lines of credit provide entrepreneurs with a flexible form of financing. You’re free to use it when you need it, and then only pay interest on money you use.
Equipment financing can be used by small business owners to purchase necessary tools and equipment for their company.
Startup loans are issued to companies that have just entered the market and are attempting to grow (check out our tips for starting a small business). The rate and terms of this type of loan are dependent upon the entrepreneur’s personal credit rather than the creditworthiness of the business.
Loans That Can Provide Financing in Days
In the cases where your small business’s finances can’t wait weeks or months for an influx of money, short term financing can get you the loan you need in just a matter of days. Short term loans are typically taken out when a business expects to make a quick return on their investment. That’s because repayment periods for short term loans usually range from six to 18 months—a sharp contrast to the repayment periods of more conventional loans, which can often be ten years or longer. Here are a few examples of short term loans:
Merchant cash advances allow you to borrow against future earnings in order to secure quick financing.
Accounts receivable (A/R) financing allows you to borrow against unpaid invoices.
Small business credit cards act as a line of credit, help your business build its creditworthiness, and make it easier for you as a business owner to separate your personal and professional finances.
SBA 7(a) Loans
SBA loans are small business bank loans that are backed by the US Small Business Administration (SBA), and, in general, offer low interest rates, affordable fees, and beneficial repayment terms. The SBA guarantees as much as 50% to 85% repayment of these types of loans in case the borrower defaults, and this makes lenders feel more secure in offering low interest rates and good loan terms.
Through an SBA 7(a) loan, you can secure as much as $5 million, with loan repayment terms that can last up to seven years for working capital, 10 years for equipment, and 25 years for real estate. The required down payment is generally between 10% and 20%, which is low when compared to most other types of loans that can require as much as 30% down. SBA loans also come with access to SBA-sponsored training and mentorship resources designed to help you successfully manage and grow your small business.
Due to their low interest rates and flexible terms, SBA 7(a) are quite competitive, and securing this type of financing can be a challenge. Applying also requires a lot of paperwork and it can often take a long time before you get approved.
To qualify for an SBA 7(a) loan, you’ll generally need a few things according to sba.gov:
- A for-profit business
- Business operations that take place in the US
- A demonstrated effort to secure other sources of financing first
- Proof that you’ve invested a significant amount of your own time, money, and effort into your small business
Additionally, some of the paperwork that needs to be filled out in order to apply for an SBA 7(a) loan includes:
- A business loan request letter
- A comprehensive business plan
- Financial documentation—both for your business and you as an entrepreneur
Benefits of Small Business Loans
Small business loans provide companies with the capital they need in order to expand their operations, grow as a business, increase marketing efforts, further develop their service or product, or help strengthen some other aspect of their business.
What’s needed to qualify for an SBA 7(a) loan: Be a for-profit business, Business is located and operates in the US, Business tried to first secure financing from other lenders, Owner must be invested in their business
Small business loans serve different purposes for different companies, depending on their needs at the time. As evidenced by the various types of small business loans listed above, they are diverse in nature. But here are a few of the most important benefits they tend to offer:
- Small business loans are typically convenient, easy to access, and made quickly available
- The ability to improve and grow your company
- Invest in new technologies that can increase productivity
- You’ll often get a better interest rate than, for instance, a personal loan
- Unlike many private investors, banks will provide you with a loan without expecting a share in the profits
Other Types of Small Business Financing
In most cases, small business loans are only issued to creditworthy organizations that have been in business for a year or more. In the case that you’ve only been in business for a few months, you’re trying to get a startup off the ground, or there’s some other reasons you don’t qualify for conventional small business loan, consider taking out a personal business loan.
Most personal loans don’t require collateral to take out and lenders assess your eligibility for them based on your own personal credit history. However, before taking out a personal loan for your business, you’ll want to make sure that the lender doesn’t have any restrictions that would prevent you from using the loan to fund a business. You should also keep in mind that, unlike some types of business loans, you as an individual will be held responsible for repaying a personal business loan.
If you don’t qualify for a small business loan, then you might consider trying to find a venture capital fund or a private investor who is willing to finance your company. While going this route can give you access to the capital you need, the downside is that a VC fund or private investor likely won’t be willing to give you money unless you offer them a stake in the company or a share of your future profits. Thus, this option can potentially end up costing you a lot more in the long run than a small business loan from a bank, where all you have to do is repay the loan you took out plus interest.
Support for Small Business Affected by COVID-19
If your business has been struggling to get through the COVID-19 pandemic, you’re not alone. Over 160,000 businesses have reported closing since the start of the pandemic, either as a result of local mandates or due to dismal economic conditions.
As a result of these unprecedented circumstances, many small business owners have been trying to secure loans and researching COVID personal finance tips in order to keep their businesses afloat through lengthy closures. Loans can help small businesses deal with the common issues they’ve been experiencing during COVID-19, such as:
- Cash flow problems
- Added maintenance and cleaning costs
- Additional training for employees about safety procedures, local mandates, and new company policies
- Adjustments to rapidly changing market conditions
- Maintaining a workforce
Recognizing the severity of the situation, the SBA has provided COVID guidance for small business owners, and the federal government has passed legislation designed to provide relief.
There are two important acts aimed to help small businesses that have passed in response to the COVID-19 pandemic and the ensuing economic downturn. These are the Families First Coronavirus Response Act (FFCRA) and the Coronavirus Aid, Relief, and Economic Security (CARES) Act. Included in these acts are details surrounding unemployment benefits, individual stimulus check amounts, retirement account withdrawals, and loans and other relief for small business owners and the self-employed.
More information regarding government relief and funding is available at usa.gov, but here’s a quick outline of relief measures for business owners:
- A deferment of existing SBA loans means that small business owners who’ve already taken out SBA loans won’t have to make payments for six months, and the SBA will pay lenders instead.
Access to additional loans for small-business owners and the self-employed. Chiefly, two types of immediate loans: Paycheck Protection Program (PPP) loans and Economic Injury Disaster Loans (EIDL).
- PPP loans: unsecured loans available at an interest rate of 1% which can only be used to cover expenses such as payroll costs, healthcare benefits, rent, mortgage payments, utilities, and interest payment on existing debts.
- Economic Injury Disaster Loans: loans offered directly by the SBA that can provide small businesses with advance grants of up to $10,000 within three days after applying.
Employers can also receive a 50% payroll tax credit on wages up to $10,000 per employee if they shut down, in line with government orders, or if they experience a decrease in gross receipts equal to 50% or more compared to the same period the year prior. Keep in mind that this benefit is not available if you’ve taken out a PPP loan and, in order to receive this tax credit, employers have to follow a few rules.
For example, they must provide two weeks of paid leave to quarantined workers, workers quarantined to care for a loved one, or those experiencing COVID-19 symptoms and awaiting a diagnosis. In addition, employers must provide up to 12 weeks of paid leave for employees who must look after their children as a result of schools or daycares being shut down.
As a small business owner, you likely have to make a number of important decisions every day. This year in particular has presented more than its fair share of unique challenges and perhaps your small business, like many others out there, is struggling to keep its head above water. If you’re wondering how you’re going to make ends meet, then a small business loan just might be the answer. Use this guide to find the small business loan that best suits your needs and enables you to weather the economic storm that is 2020.