Business Financing Frequently Asked Questions

SBA loans are government-backed loans provided by commercial lenders that adhere to SBA guidelines. The SBA is a federal government agency that provides financial and other assistance to small businesses. The SBA isn’t a lender, but it does guarantee loans made by approved lenders such as Bank of America. Some of the benefits of SBA guaranteed loans include:

Reduced lenders’ risks making it easier for small businesses to acquire financing
Increased small business lending capabilities
Help expand small business economic operations

SBA guarantees these loans with its own funds, so the lender can offer lower interest rates to small business owners who have applied for an SBA loan. There are several different types of SBA loans, including disaster relief, economic injury disaster, and 7(a) business loans.

Small businesses seek financing for several reasons, including opening a business, purchasing inventory or supplies, strengthening the firm, or expanding the company. Small business financing can also be used to refinance debt, buy a business or franchise, or expand an existing business. A firm chooses a financing method depending on the intended purpose.

Almost every for-profit industry is eligible for small business financing. Only firms promoting religion, providing crude sexual products, restricting patronage, passive firms, and illegal activities such as pyramid schemes and gambling are ineligible for small business financing.

Business collateral is anything of value that you can use as security for a business loan. This includes real estate, machinery and equipment, inventory, accounts receivable, and other assets.

When lenders lend you money, they assume financial risk. To mitigate the risk, the creditor requires business collateral to secure the loan. If you fail to repay the loan, the lender can seize the collateral to cover the cost of the debt. The collateral pledged must be worth more than the requested loan amount.

Credit capacity refers to your small business’s ability to repay a loan. A lender considers several factors, including your business’s financial statements and credit history. Your small business should have sufficient cash flow to repay debt, manage operating expenses, and maintain a reserve fund. The business’s credit history indicates your reliability to make timely payments.

How much collateral is needed for a business loan will vary depending on the lender. Collateral is a valuable asset pledged by the borrower to secure repayment of a loan. If you fail to repay the loan, the creditor can seize your collateral.

Typically, many lenders will require tangible assets to secure the loan. These assets have physical value, such as equipment, inventory, accounts receivable, and real estate. The collateral value must be greater than the amount of the requested loan.

For instance, creditors must obtain collateral equal to the loan amount for standard SBA 7(a) loans more than $350,000. Lenders must follow established collateral policies for SBA 7(a) loans between $25,000 to $350,000. The lender must hold a lien on all business assets, including real estate, and take a first lien on business assets financed with loan proceeds. SBA 7(a) loans below $25,000 require no collateral.

Small business loans can come with both fixed and variable rates. It depends on the loan type and its repayment period. The main difference between the two is whether the interest rate remains static for the life of the loan or if it changes.

For a fixed rate, the lender determines a rate before giving you a loan. The rate will remain the same from the first day of the loan to the last monthly payment. A fixed rate is mainly used for long-term loans with a more considerable loan amount.

On the other hand, a variable rate may change every time the base interest rate shifts. While it can benefit the borrower, it also poses a greater risk in a weak economy. Moreover, since variable-rate small business loans are unpredictable and harder to plan for, they carry more competitive terms than fixed-rate loans.

Getting a business loan depends on the lender and your credit score. When applying for a loan, eligibility is based on the type of loan you want and your credit, as well as the business’s debt-to-income ratio.

Substantial business revenue, good credit history, and high net worth can help you get financing easily. When applying for a business loan, ensure you choose a loan that meets your business’s financial needs, has affordable rates, and has a good repayment term.

A 504 loan is a 10% down, fixed-rate, long-term loan used to finance major fixed assets that promote business growth and expansion. These assets could be real estate, business equipment, or various other things. The 504 loan is one of the best financing options for small business owners since it’s SBA-backed, fixed cost, and is long-term.

It provides a variety of benefits compared to other bank loans, such as lower interest rates, fees, longer repayment terms, and no down payment. Currently, the maximum loan amount is $5.5 million.

However, to qualify for a 504 loan, you must operate as a for-profit company in the U.S with a tangible net worth of less than $15 million and an average net income of less than $5 million after federal income taxes two years before your loan application.

The C’s of credit is a term used to describe five essential factors lenders consider when approving an applicant for a loan. The five C’s are character, capacity, capital, collateral, and conditions. Each factor is important in lending decisions as it helps assess the business’s ability to repay the loan.

Character – A lender wants to know the borrower and guarantors are honest and reliable. The lender also wants to be confident that you have the background, education, business knowledge, and experience necessary for running a business successfully. Therefore, the lender will examine your credit score, credit history, and creditworthiness. Studies show that the way you handle personal credit is a good indicator of how you will manage business credit.

Capacity – This refers to the ability of your business to repay the loan. The company should have adequate cash flow to cover its expenses and debts while also having enough free cash to repay the loan. Ensure your business plan details ways to repay any loans you borrow. Most lenders assess the business’s revenue, cash flow, credit profile, expenses, and repayment timing. They will also look at your personal and business credit scores to determine your overall creditworthiness.

Capital – Lenders want to know that you have invested in your business and have some “skin in the game.” This is a good indication of how serious you are about your business. In most cases, it’s impossible to finance 100% of your acquisition or startup costs, so to access a loan, you will need to invest in your business first. You can get this money from deposits or other sources.

Collateral – When evaluating a small business loan application, a lender will look to see if the business has assets it can use as collateral. This is a way to ensure that the lender will recoup their losses should the business default on its loan. The lender looks for collateral with a market value greater than the loan amount, which can easily be sold in the event of a default.

Conditions – A lender will look for signs that indicate how stable your business operations are, such as your track record of operating your business, management skills, and the stability of your principal owners. Ensure you understand the local, regional, and national economic conditions that could impact your business. The lender will also want to know how competitive the market is for your product or service, what the business’s price structure is, and how your business will handle changes in demand.

Equity and debt financing are two of the main ways of financing a startup or expanding your business. However, there are some significant differences between equity and debt financing. Debt financing means borrowing money from a lender and repaying it over time with interest.

Equity financing involves selling shares of your company to an investor in exchange for money. Under equity financing, you have no obligation to repay the investor, but the investor will become a part of your company and have a say in its operations.

You will likely need collateral for debt financing such as real estate, insurance policies, accounts receivable, or equipment to secure the loan. Still, you won’t give up control of your business. The collateral will serve as a payment if you default on loan repayment.

Equity financing is harder to acquire for most businesses. It typically requires an attractive company valuation, and a strong business plan.

An installment loan is paid off in equal monthly installments over a set period. In contrast, a revolving loan is a type of credit that allows you to borrow again after repaying your previous loan. The interest is charged on the outstanding balance, so you only pay interest on the amount you borrow.

A personal loan is an installment loan that requires you to make equal monthly payments over a set period. Late payments will negatively affect your credit score. In addition, you repay a portion of the principal loan amount and the interest charged on the outstanding balance for each installment.

A payday loan is neither an installment nor a revolving loan. Instead, payday loans are short-term loans that must be repaid in a single lump sum on your next payday, along with the fees and interest. If you can’t repay the loan on time, you’ll likely have to roll over the loan, meaning you’ll have to pay additional fees and interest.

In most cases, a payday loan is only enough to help you cover your expenses until your next paycheck arrives, but it doesn’t help you develop a personal or business credit score, nor can it be used as a long-term source of financing.

If you cannot pay back a business loan, the lender has several options. The lender can declare the loan in default and take possession of the collateral you used to secure the loan. They can also sue you for the debt, which could lead to wage garnishment or seizure of assets.

The lender might also start a collections process, which could damage your credit score and create other financial problems. So before making a business loan request, be sure you understand the potential consequences of defaulting on the loan.

There are several types of business loans that you can apply for when seeking financing. They depend on the type of business financing you want and your business needs. They also have different loan terms. Common business loans include:

SBA Loans
The Small Business Administration (SBA) guarantees loans offered by SBA adhering lenders to fund small businesses. You can access up to $5 million from an SBA preferred lender, and the repayment term will depend on the loan purpose. SBA repayment terms range from seven years for working capital to ten years for purchasing equipment and twenty-five years for buying real estate.

Personal Loans
A personal loan is an excellent financing option for startup capital. However, their loan approval is mainly based on your personal credit report since you need good credit and excellent credit history to qualify for this kind of loan.

Term Loan
Under a term loan, you get a lump sum of money and agree to pay it back with interest over a fixed period, typically three to five years. You can access as much as $500,000 to $1 million from most online lenders.

Line of Credit
A line of credit allows you to access funds up to your credit limit. Unlike a term loan, you only pay interest on the money you have drawn. It’s ideal if your cash flow fluctuates throughout the year, depending on sales or production.

Equipment Loans
As the name suggests, this type of loan helps you purchase business equipment. Its repayment term depends on the equipment’s expected life span, and the equipment will serve as collateral if you default on the loan.

Merchant Cash Advances
A finance company gives you a lump sum to finance your business startup. You then make payments on a merchant cash advance by either withholding a percentage of your credit card sales or giving the finance company a fixed rate of your daily bank deposits.

Business Credit Cards
A business credit card is similar to a personal credit card, except it is specifically for business use. It allows you to borrow money when you need it as long as you make the minimum monthly repayments and stay below your credit limit. Business credit cards are used to finance ongoing business expenses such as office supplies, utilities, and travel.

Invoice Financing
This financing option lets you borrow against the money your customers owe you. As a result, you can get a quick infusion of cash to improve business cash flow, purchase inventory, pay employees, and reinvest in business operations. In addition, it saves you the time you would have to wait for your customers to settle their invoices in full.

A business loan provides you access to the funds you need to start or grow your business. You can use a business loan for various purposes, including:

Purchasing new equipment
Inventory for your business
Advertising, marketing, and business promotions
Debt refinancing
Expansion or renovation of an existing business
Meeting payroll and other expenses
Training employees
Complying with government regulations
Covering additional business startup costs
Funding a business acquisition

Cash flow refers to the amount of money flowing in and out of your business. It’s necessary for ongoing business operations, growth, and debt repayment. In addition, you need sufficient cash flow to support daily expenses, such as rent, payroll, and inventory.

New small businesses may have difficulty generating cash flow in the early stages of operation. This is mainly due to the gap between the time of investment and return (the gap between revenues and expenses). The lack of sufficient cash flow can lead to some financial problems for a small business owner, including:

Falling behind on bills
Not being able to pay employees
Having to borrow money to cover expenses
Going out of business