As a small business owner, you likely have some big ideas for how you want to grow your business and make it the best little business it can be. Whether you’re interested in purchasing some new equipment, hiring a bunch of new employees, or purchasing real estate, you’ll likely need some financial support to take those significant steps in growing your business.
A business loan is likely just the financial support your business needs. But you may be wondering, “how do business loans work?”
A business loan is a type of credit and functions similarly to a personal loan. With a business loan, you borrow a set amount of money from a lender. Over time, you pay that money back plus a little extra, which is interest.
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Common Types of Business Loans
While the general idea of a business loan is simple, there are actually a number of different types of business loans, which makes figuring out the right one for your business and needs more involved.
While there are many different types of business loans, below are some of the most common and most helpful to small business owners.
Working Capital Loans
One of the most versatile types of business loans is a working capital loan. This type of loan is an excellent option for many small businesses because the loaned funds can be used for operating expenses. This type of loan is very flexible.
Working capital is the money a business uses to operate day-to-day. For example, your working capital may go to pay bills, pay an employee’s paycheck, pay a vendor’s invoice, etc.
If you find yourself strapped for cash for a period of time or need a little extra money on hand to finance your business growth, a working capital business loan could be just the right option.
Because a working capital loan is intended to be used to finance day-to-day operations, it generally has shorter loan terms and lower loan amounts.
Business Term Loans
Another common and flexible loan type is a business term loan. A term loan is the most basic loan and functions almost exactly like a personal loan would. A term loan is a business loan where you receive approval from the lender to borrow a set amount of money. After you receive the lump sum, you’ll begin repaying the money on a set schedule. In addition to repaying the money borrowed, you’ll pay interest.
The interest rate and term of the loan will depend on your lender and the agreed-upon terms. Most lenders base the loan terms on your qualifications and ability to repay the loan.
SBA Bridge Loans
When it comes to the cream of the crop of business loans, there’s the SBA loan. In general, an SBA loan has the best loan terms and lowest interest rate of any loan product on the market. But that being said, it’s also one of the most challenging loans to receive approval for.
While the Small Business Administration or SBA guarantees SBA loans, you’ll still need to apply through and work with one of the SBA’s financial partners to get approved for the loan. However, this type of loan is ideal for many small- and medium-sized businesses.
While an SBA loan is very desirable, it can take longer to receive approval and funding. Many lenders offer lesser good terms but faster approval and funding. If you’re applying for an SBA loan but need cash fast, consider applying for an SBA Bridge Loan.
An SBA bridge loan is a type of business loan that’s intended to bridge the gap between your need for funding and receiving approval for an SBA loan. Approval for an SBA loan can take between one to six months, which can be a long time to wait for most small businesses that require funds. And, if you aren’t approved for an SBA loan, you can continue using the funds approved in your SBA bridge loan for up to 12 months.
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What Do Lenders Look for to Approve a Business Loan?
Before jumping into the loan application process, it’s important to understand the different qualifications your business must meet to be approved for a business loan. Each lender you apply for a business loan will have slightly different qualification requirements.
Below you’ll find the basic qualifications that most lenders look at to assess whether a business will be able to repay its loan.
Credit History
One of the first things most business lenders will look at during the loan approval process is your credit history. Your credit history will include:
- Your personal credit score
- The debt you currently hold
- Your loan repayment history and consistency
- Any bankruptcy or foreclosure records
What a lender is looking to understand is your overall credit health. A lender’s goal is to make money, which only happens if they get repaid, and a loan gets paid off. Lenders try to minimize the risk by assessing a business’s credit history before extending a loan offer.
Business Revenue
Another way that a financial institution will assess your ability to repay a loan is by looking at your business revenue. Your business revenue is the amount of money your business brings in during a calendar year. So, by examining your revenue and cash flow, a lender can get a good idea of your ability to pay back the loan.
Debt Obligations
Another factor that lenders consider is your business’s debt obligations. Your debt obligations include any outstanding debt you or your business holds. Debt would include unpaid credit cards and other loans.
If your business has a high amount of debt, it will make it more difficult to be approved for another loan. Most financial institutions have a calculation to compare your business revenue and current debt obligations to calculate whether you can afford more debt or not.
Available Collateral
Some business loans require collateral. Collateral is generally a physical asset that is used to finance a loan. The most common types of collateral are real estate and equipment. When a loan requires collateral, the collateral acts as a guarantee to the lender. If you cannot repay your loan, the collateral is seized and sold by the lender to recoup their funds.
If your business doesn’t have a lot of credit history or you have a low credit score, collateral can be a positive factor that helps you to secure a business loan.
Business Plan
Another thing a lender might look at when deciding to offer you a loan or not is your business plan. If your loan application requires a business plan, you’ll want to include:
- A description of your business
- Information about your product or service
- Market analysis
- Write up about your management team
- How you plan to market your business and increase sales
- Your financial projections and plan for using the loan
A business plan helps the lender to get to know you and your business, which can help it decide whether or not to offer you a loan.
Where To Get a Business Loan
There are several different lenders that you can get a business loan from. Most importantly, understand why you need a loan and what loan product best fits your company and needs.
If you’re ready to get started, head over to Mulligan Funding for a no-obligation business loan quote (1) to learn more about how much you’re qualified to receive.
