I love watching Shark Tank more than I should.
And I’d never go on it myself in order to raise money for my business. The terms are usually terrible.
Instead of having Kevin O’Leary eviscerate my plan on national TV, I’d rather go the more traditional route and get a business loan. In an era of TV fundraising, startups, and VC funding, small business loans don’t get the attention that they deserve.
There’s multiple options for getting a business loan, I’d explore these first before considering other types of capital.
Different Types of Business Loans
Multiple types of business loans are available for small businesses:
- Accounts Receivable: If you have proof of upcoming invoice payments, but you need some money now, you may be able to use these accounts receivable to obtain a loan.
- Cash Advance: With this type of loan, the lender will give the business money to make an inventory purchase or to hire additional personnel. You’ll borrow the cash advance in anticipation of generating revenue in the future. Instead of using this type of loan, you may have a vendor that will give you a line of credit to purchase your inventory.
- Commercial Real Estate: You can use a commercial real estate loan to purchase or renovate your building or land. You can use the real estate as the collateral for the loan.
- Crowdfunding: A crowdfunding loan is one where other investors or backers pool their resources and award loans to business in exchange for interest payments. These loans may be better for newer small businesses, who may not qualify for traditional bank loans.
- Equipment: If you have a specific piece of equipment you want to purchase, but you don’t have other types of collateral, an equipment loan can help with this. The new equipment serves as the collateral.
- Installment: The installment loan gives you a lump sum at the start, and you’ll then repay it over time with interest.
- Line of Credit: A business line of credit is an amount of money a bank provides that you can borrow from as needed up to the credit limit. There aren’t specific repayment terms, although you almost certainly will have to pay a certain amount each month, based on the amount outstanding.
- SBA: A loan through the Small Business Administration is versatile, as you can use it for a variety of purposes. However, it typically requires an established business profile. The SBA does not make the loan directly. Instead, it works through lending partners, giving them a guarantee of a portion of the repayment amount.
- Working Capital: For small businesses that have fluctuating receipts because of seasonality, a working capital loan helps them through the slow times. It’s a short term loan.
If you don’t qualify for any of these types of business loans, you can look into obtaining a personal loan that you’ll use for business purposes. A lender will base the personal loan qualification on your personal credit history, rather than the credit history of the business.
Types of Loan Providers
Just like the types of loans vary, the types of providers vary too. The primary types of loan providers include:
Use a bank when you have collateral and good credit. Having a local lender may appeal to you, so a local bank works nicely.
Banks will take longer to make a decision than other types of lenders, though.
Many banks have access to the U.S. Small Business Administration for loans through the 7(a) loan program.
With a microlender, you’ll be seeking a short term loan with a small loan amount. This is a good option for small startups that don’t have a lot of financial history.
You will have to pay a higher interest rate than at a bank, but you may not have as many restrictions as a bank loan requires.
Multiple online lenders specifically work as microlenders. Some microlenders are peer-to-peer institutions or crowdfunders.
An online bank often gives you a bit more flexibility than other types of lenders. You may not need as much collateral or a spotless credit history to have success with an online lender versus a local bank.
An online bank typically makes a decision faster than other options too. But you will likely end up paying a higher interest rate.
Business Credit Cards Vs. Loans
In some instances, using a business credit card may serve you better than obtaining a business loan. If you only need a small amount and only need the money for a short time, charging the money to a credit card can work.
An advantage of a business credit card is that you can have access to this money immediately. You don’t have to go through the process of applying for a loan and waiting for an answer. Some business owners treat a business credit card like a line of credit.
What you don’t want to do is start carrying a balance on the business credit card. You’ll begin paying a significant interest on the card balance every month. And you really don’t want to start relying on the business credit card to cover day to day expenses, causing you to increase the balance.
7 Steps to Getting a Business Loan
When you’ve done your homework and know what is available, you’re ready to get your business loan. Go through the following steps.
1. Clean-up Your Online Profile
Lenders will be checking out your business’ public persona. If things are a mess in your social media presence or on your web site, lenders may not want to trust you with their money.
2. Determine How Much Money You Need
Do you need the money to expand the business? Are you looking to purchase new equipment? Do you need to consolidate some other loans?
It’s good to have a specific plan of how you will be using the loan proceeds, including the exact amount you need. In fact, some lenders may require that you have a plan in place.
3. Understand Your Credit Worthiness
A lender is not going to just hand you the money you’re requesting. The lender needs to determine your credit worthiness. If the lender doesn’t think you can repay the loan, the risk of giving you the money will be too great. Some factors the lender will consider include:
- Credit Report: Beyond looking at the credit history of the business, the lender likely will consider your personal credit history too. Lenders will look at whether you’re making timely payments.
- Other Loans: If your business has other outstanding loans, the lender may worry about your total obligations. If you do have other loans, make sure you’re repaying them on time, or you’ll almost certainly receive a rejection for your new loan application.
- Cash Flow: You will need to have appropriate cash flow occurring to meet your loan obligations. The lender will need to see proof of your cash flow.
- Investors: If you have strong investors in your business, a lender will consider that as a favorable situation. It indicates the business is stable.
4. Collect the Required Documents
Before going to a lender, it can be helpful to have the correct documents in place. Appearing prepared when you meet with the lender can help your chances of receiving the loan.
Certain business documents are common for any type of business loan, so it’s good to have these documents ready to go. Some documents you likely will need to provide include:
- Legal structure of the business
- Business tax returns
- Personal tax returns
- Profit/loss statement for the business
- Bank statements
- Budget for the business
- Accounts receivable
- Accounts payable
- Financial projections
- Debt repayment schedule
- Proof of ownership of collateral
- Business plan, including how you will spend the loan proceeds
Your documents will receive a greater consideration from the lender if a CPA has audited or reviewed them. Having these basic documents ready also speeds up the process of receiving your loan. Understand that you may need to produce other documents for the loan.
5. Figure Out What You Have for Collateral
You may use whatever assets you have in your business as collateral for your loan. The more physical assets you have, the better chance you’ll have of receiving the loan. Collateral may include:
- Cash holdings
- Unpaid invoices for your work or accounts receivable
If your business doesn’t have a lot of collateral yet, you may need to put up some of your personal holdings as collateral. You will want to carefully consider whether to do this. You may not want to risk your personal assets in the business.
6. Shop Around for the Best Terms
The terms for the business loan will depend on the type of loan you’re receiving. Here are some common terms to focus on:
- Interest Rate: What is the rate on the loan, and does it vary over time? Does the interest accumulate weekly, monthly, or annually?
- Loan Fees: Some loans have origination fees, processing fees, and other upfront fees. You also may face a fee if you repay the loan earlier than the terms specify.
- Penalties: No one plans to miss a payment. But if the unexpected occurs and you do miss a payment, you should pay attention to the penalties you may face.
- Limitations: Some loans require that your business must carry a minimum amount of cash or must have a certain level of sales to maintain the terms of the loan.
- Collateral Requirements: Understand the circumstances under which the lender can claim your collateral. For example, if you miss a payment or dip below certain financial thresholds, could you lose your collateral?
7. Submit Your Application
When it’s time to apply for your loan, you probably will want to start with an online application. This allows you to save time in the application process, as you can submit the basic information through this process.
Then the basics will be out of the way when the lender is ready to contact you and you can focus on the specific items required for this particular loan.
Depending on the lender, you may need to have a face to face meeting. Other times, you can complete everything on the Internet or through a phone call.
Once you’ve submitted your application and added any other information the lender requests, you will have to wait for an answer. Some lenders may be ready to give you an answer in a few hours or a day or two. For more complex situations, it could take a week, a month, or even longer to receive an answer.
Putting Your Business Loan to Work
Once you have your loan proceeds in hand, it’s time to go to work. Regardless of why you wanted the loan, now that you have it, you need to make the most of this money and let it help your business.
If you’ve done the work upfront, this will be easy.
Take the budget you put together during the loan application and follow it. Be really careful with changing directions. When I’m flush with cash, it’s easy for me to rationalize why I should spend money more speculatively in my business. If I go that route, I won’t have the increased cash flow to support the debt payments. Staying focused my original plan ensures I’m being conservative enough with my spending.