According to a paper from the Harvard Business School, banks have historically been hesitant to approve loans for small businesses.[cite::219::cite] This makes it difficult for business owners to seek out traditional funding from banks. If they aren’t approved, they may feel like they're out of options.
Thanks to advances in technology and banking laws over the past few years, more financing programs are available for small businesses than ever before. There are alternative funding sources, business credit cards, financing based on Accounts Receivable or business assets, and local or online banks that offer more cost-effective loan options, just to name a few.
Here’s a quick guide to the most popular types of business loans to help you find the right one for you.
A short-term business loan provides a lump sum that your business promises to repay within a short-term, plus interest. Short-term loans are usually repaid within six to 24 months. The most common reason for using short-term business loans is to cover day-to-day expenses and cash flow needs. Because of this, they are sometimes known as working capital loans.
Short-term financing is a strategy often used to help small businesses level out their monthly cash flow. They can leverage months with more revenue by taking out a short-term loan to help balance cash flow in lower revenue-earning months.
Small Business Administration (SBA) loans are low-cost and flexible loan options for business owners, as compared to traditional loans. They are secured by the SBA and have different financing programs to help meet a wide variety of needs for every business.
Instead of the government setting and controlling terms and interest rates for business loans, the Small Business Administration sets the guidelines in favor of more attainable terms for business owners.
They offer four types of business loans:
- 7(a) Loans
- 504 Loans
- Disaster Loans
Check out the SBA’s website for more detail, so you can find out which SBA loan might be right for you.
Lines of Credit
A business line of credit (LOC) is a great option for businesses that need a cash flow cushion or simply want to infuse their budget with additional funds. Unlike a term loan, where a business pays a fixed monthly payment every month until the balance is paid off, the funds from a line of credit can be accessed at any time.
This revolving line of credit can be used for any business-related expenses and paid down at every month, with the exact payment amount varying based on the balance amount. Even if the loan has a zero balance, the LOC remains open and can be used again in the future.
Small businesses often need to purchase expensive equipment to be fully operational. This is when equipment loans can provide funds to purchase office equipment, machinery, tools and business vehicles.
Equipment financing allows business owners to purchase much-needed equipment by making ongoing monthly payments. These types of loans are often easier for businesses to obtain, since the equipment purchased can be used as collateral against the loan.
Merchant Cash Advances
Merchant cash companies are third-party businesses that process point-of-sale transactions via debit and credit cards. Small businesses can apply for a merchant cash advance based on their volume of monthly credit card transactions.
Businesses are then required to pay off the loan through a percentage of the daily credit and debit card sales. While this type of loan can be a good option if you have poor credit or need cash fast, it can be an expensive form of business financing.
Summing Up Business Loans
While these are the most common types of business loans, you may also want to explore other financing options such as Accounts Receivable financing, asset-based lending, trade credit, and other term business loans. When determining which loan is right for you, it never hurts to understand your options and review the pros and cons before committing to borrow money.