Ultimate Guide to Small Business
Loans in 2021
Small Business and COVID Small Business Finance in the Era of Falling Interest Rates
It’s no surprise that COVID-19 had a monumental impact on small businesses. During the early days of the pandemic, many businesses were forced to abruptly close their doors without a clear indication of when business and life would resume to normal. According to a study by Guidant Financial Small Business Trends, only 63% of respondents’ businesses were profitable in 2020, compared to 78% in the previous year. Despite the uncertainty and loss of profitability in 2020 there are many reasons for optimism in 2021. The financial relief from programs such as Paycheck Protection Program (PPP) and Economic Injury Disaster loans (EIDL) along with a vaccine availability to all Americans is creating a more positive outlook for the future of small business. Guidant Financial reports – 49% of small business owners answers they were either somewhat or very confident about the future of small business despite the pandemic..
Debt Financing: Types of Small Business Loans
When it comes to getting funding for a small business, business loans and other alternative kinds of financing are both popular and accessible to many entrepreneurs. An added benefit of using a loan or alternative financing is that you keep full control of your business instead of giving up a piece of it to an outside investor. Today, there are any number of different types of loans available largely due to the internet making it easier for lenders to find entrepreneurs and vice versa.
Term Loans are traditional bank loans to small businesses in which the borrower requests an amount of money and then agrees to repay that amount of money with interest over the course of a specified period of time. In this way, securing a small business loan is similar to getting a mortgage to buy a house, right down to the fact that business lenders are typically repaid on a monthly basis.
In order to obtain a bank loan, borrowers need to meet certain criteria, which often include factors like having spent a certain amount of time in business, writing up a strong business plan, and having a personal credit score above the threshold set by underwriters. People with little or no credit repayment history often find it difficult to secure funding through a term loan because of these requirements.
SBA Loans are term loans that come certified by the United States Small Business Administration (SBA). The agency itself does not provide funding. Rather, the loan comes from an authorized lending partner - usually a bank -- at rates and terms determined by the lender. SBA loans differ from traditional small business term loans because the federal agency guarantees a portion of the loan, often up to 75 percent. That guarantee means that the lender has a far deceased risk of losing money should a borrower default on a loan. SBA guarantees also incentivize banks and other lenders to make capital available to entrepreneurs. Often, the interest rates charged are quite attractive and SBA loans are used by businesses at all stages of their growth.
The downside of SBA loans is that applications require extensive documentation, which slows the process and lengthens the amount of time it takes to finalize the deal. Decisions hinge upon the borrower's credit score, which is a reflection of his or her payment history. However, borrowers with a sufficient level of creditworthiness will find an SBA loan a really attractive option because the interest rates they offer are tough to beat with other financing options.
Business Credit Cards
Business credit cards are readily available and work just like a personal credit card, with credit limits that range from $3,000 to $20,000. The only difference is that they affect the credit history of your company as an entity instead of impacting yours personally. Often, they are easy to apply for and don't have stringent requirements, and many of the companies that issue business credit cards make an initial offer with a low annual percentage rate (APR) for a certain period of time.
However, after the introductory period has passed, the interest on credit card purchases can be quite high. Using credit cards to launch a business can mean high repayment costs if it takes a while to repay the debt. Further, if you need to borrow a large sum of money for purchases of property, building renovations, equipment purchases, and inventory, a credit card's borrowing limit may be too low for you to cover the full cost.
Business Line of Credit
A business line of credit is a form of small business financing in which an entrepreneur has cash available to draw upon whenever it's needed. It's like having a guarantee from the bank that money will be available for you to borrow if and when you need it. When needed, a business owner taps into the credit line and withdraws however much money is necessary. Interest is paid only on the amount of money that has been borrowed. Business owners like this type of small business financing because of its flexibility and because its interest rates tend to be much lower than the rates of business credit cards, which can approach 19 percent APR (annual percentage rate) or higher.
But while a business line of credit sounds like a perfect option for any business owner, the reality is that these are very difficult to acquire. Only certain types of businesses will be able to get approval for a line of credit, and they'll have to maintain excellent credit scores in order to keep the line of credit open.
Equipment financing is exactly what it sounds like. A business owner borrows money to buy a piece of equipment and pays it back over a certain period. With this type of funding, the equipment is put up as collateral. In case of default, the lender can take possession of the equipment and sell it to recoup the loss. That safety for the lender means equipment loans often come with attractive interest rates.
Accounts Receivable Financing
Accounts Receivable Financing is an option that established business owners use when they are caught in a cash crunch. If unanticipated costs or slow-paying customers are impacting cash flow, this type of financing can provide a quick infusion of capital. However, business owners should be aware that this is not a loan but an alternative kind of financing entirely. Essentially, you are selling your future earnings at a discounted price to the company that provides the funding up front. The flexibility that's offered by this kind of financing is great for businesses that need cash quickly to finance big projects today, and who have predictable income available in the future.
Merchant Cash Advance (MCA)
Merchant Cash Advance (MCA) is a similar form of small business financing to Accounts Receivable Financing. In fact, many people describe MCAs as a type of Accounts Receivable Financing. MCAs provide a lump sum of cash that is paid back by providing authorization for the funder to take a certain percent of your daily sales or credit card proceeds until the amount of the loan is repaid. In other words, borrowers are able to pay based on the company's sales. The amount of repayment during a period of time is related to the fortunes of the borrower. During good weeks, they pay more, during slower weeks, they pay less. This makes it a great option for businesses that are in need of flexibility in case of fluctuating sales volume.
The other unique trait for MCAs is that the repayment total is agreed upon from the beginning. For instance, if you need to borrow $10,000, the repayment amount might be $12,000, which is repaid as a percentage of credit card receipts after the money is withdrawn for the length of time it takes to repay the full agreed-upon amount.