Every stage of the business cycle necessitates the use of finances. They may require funds for expansion, operational expenses, machinery purchases, and other purposes. To assist businesses in all of these scenarios, financial institutions have created a product called a business loan. Today in this article, we will cover all the points you need to know about a business loan.
What is a Business Loan?
A business loan is a sum of money borrowed by a business owner to cover expenses that he or she is unable to cover on its own. Some entrepreneurs utilize business loans to pay their staff salaries while their new business is getting off the ground, while others use borrowed funds for business inventories, machinery purchase, business project financing, and many more. Financial Institutions want to know how the business owner plans to spend the money it borrows, so business owners should make sure they have a detailed plan in place.
Types of Business Loans:
1. Secured Business Loan:
It is a source of funding that small business owners frequently seek for. Such types of loans are secure by pledging assets or by a personal guarantee.
Borrowers use collateral to reassure financial institutions that they will repay the loan within the timeframe prescribed in the loan agreement. It also implies that if the borrower is unable to repay the debt, the financial institution has the authority to take the collateral asset into custody.
As the loan is secure by an asset, one can expect a longer payback period. This loan form also has a slightly lower interest rate when compared to other loan forms.
Usually, secured business loans are of two types:
- Secured by Collateral: Under this, one can mortgage his or her personal or business assets to get a loan. Collateral can be commercial property, investment certificates, etc.
- Secured by Personal Guarantee: Under this, the fund is backed by the guarantee of the business owner. The proprietor’s or partner’s property, such as land, or gold can be considered as collateral. On the pledged property, the liability can be limited or unlimited.
2. Unsecured Business Loan:
The most significant distinction between secured and unsecured forms of business loans is that the latter does not need the borrower to put up any collateral as security for the loan amount.
When a small business owner can’t qualify for a traditional fund or can’t negotiate better repayment terms with another lender, they turn to an unsecured loan.
The personal guarantee terms that are mentioned in unsecured loans can be quite advantageous for borrowers, but if the borrowers default on their EMIs, it would have long-term consequences that exceed benefits like negative repercussions on the creditworthiness of your company.
If you are a small business owner, you need to have solid creditworthiness, strong business financials, and steady cash flow to qualify for an unsecured business loan.
The above-discussed business loans are further classified into the working capital loan, equipment financing, invoice financing, and many more. The best part about the business loan is that these loans are customized as per the customer’s need.
Features of business loan:
Borrowers can choose the product as per their specific requirements. If the business requires funds for long-term project financing, they can choose a term loan with longer repayment tenure. Similarly, businesses targeting to meet their operational activities can opt for working capital loans. Such a loan also offers an overdraft facility on agreed terms and conditions. The loan products, however, may vary with different financial institutions. There is a possibility that business loan products available with one financial institution may not be in the bucket of another financial institution.
Convenient and Simple:
Nowadays, businesses don’t need to search for venture capitalists or any other investors for raising funds. Financial Institutions are readily lending funds for business purposes. Borrowers should either have strong credibility and a strong business profile or should have any asset or property to avail of the funds for business. With the digitized lending process, applicants can go to the website of their preferred financial institution, fill in the online application form, and apply for the loan. Obtaining a business loan is as simple as contacting a financial institution executive and discussing the potential of obtaining funding. Securing a business loan is substantially more quick and straightforward.
Affordable Interest Rates:
When compared to other loan forms, financial institutions offer an affordable interest rate on business loans. Moreover, if you are planning to avail of a secured business loan by putting up your property or assets as collateral, the interest rate in such a scenario will be much lower than unsecured business loans. The reason behind affordable interest rates being offered by different lenders is fierce competition among lending institutions for the retention and acquisition of customers.
Flexibility for Usage:
When you raise funds from equity investors, you have to answer the investors every time you use the funds. However, when it comes to business loans, financial institutions do not interfere in the business course. Financial Institutions don’t tell you how to spend the money from your loan. All they care about is that you pay it back on time. As a result, choosing a business loan is the ideal way to keep complete control over your spending.
Paying your loan installments along with paying off your income tax returns can be highly stressful. However, most of the borrowers are unaware of the fact that a business loan comes with tax benefits. The interest amount you pay on such a type of loan is often tax-deductible. Therefore, before applying for this loan, double-check the loan interest rate and eligibility.
Unlike other loan forms such as loans against property, borrowers are not require to present a set of heavy documents. Also, in business loans, financial institutions do not need to assess the property’s worth to determine the loan amount. Therefore, with minimal documents and a quick disbursal procedure, this type of loan is best suited for business. While waiting for funds, the business owners do not have to suspend operations or expansion plans.
Improves Business Creditworthiness:
Just because you are a start-up, facing rejection in terms of funding can be heartbreaking. New businesses often find it difficult to raise funds due to the lack of business credit history; as a result, they turn to local moneylenders that charge a huge interest rate on the funds provided by them. However, now things have completely changed. Whether a new business or a small business, one can easily avail of a business loan. Financial Institutions look for personal credit history, or they may ask for collateral when disbursing this loan.
Therefore, getting a fund can also help to boost the credit history of your business. To increase your credit score, you must make on-time EMI payments and repay your loan within the agreed-upon time frame. This could help you secure more funding at lower rates of interest in the future.
Factors Affecting Business Loan Approval:
When deciding on your business loan application, your financial institution will consider your business or personal creditworthiness. As a result, make sure your credit history is in good shape. Paying your debts and EMIs on time can help you boost your credibility. Having a strong credit history increases the chance of securing a business loan at a lower interest rate.
Liquidity In Business:
Financial Institutions are cautious in ensuring that only qualified applicants receive business loans. They do this by ensuring that your company’s credibility, cash flow, outstanding dues, cash, inventory, assets, and liabilities check, and so on are all in good shape. Your business loan application will be approved by the financial institution if everything follows their guidelines.
Type of Collateral:
When it comes to start-ups and new businesses, financial institutions usually consider collateral when providing funding. To obtain a loan, the collateral is frequently place on a personal guarantee by the company’s or sole proprietor’s owners. Financial Institutions like to lend and grant loans to firms that are backed by guarantees or collateral. Some financial institutions do not require any type of security in order to sanction a business loan.
Financial Institutions want to make sure that the businesses they lend to are capable of repaying their debts and have the potential to grow. There are more chances of securing a business loan approval if a business owner can demonstrate a plan with market potential and possible results that put them in a position to pay back the loan quickly.
If you are looking for a funding make sure you have done your homework. Conduct thorough research on the interest and offers provided by different financial institutions. Don’t forget to read the fine lines available on the financial institution’s website.
Some financial institutions do not offer all of the services listed; narrow your search to financial institutions that provide the type of funding you require. Choose the lender that disburses the business loan based on your credit history.
If you are planning to avail of a business loan, consider all the above-discussed points. Having a better understanding of funds products increases the chance of securing a loan on better terms.
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