You’ve come to the conclusion that you absolutely need a small business loan. After doing a little research, you learn that there are now many more types of small business loans than a few decades ago. Some options seem nearly identical, while others have wildly different repayment structures. How are you supposed to decide which option makes the most sense for your individual circumstances?
The decision is actually quite simple. All you have to do is figure out which options you qualify for, and, of those options, which one would be the easiest to pay back.
First, let’s list the most widely-used types of small business loans:
- Standard Business Term Loan: You receive a set amount upfront that is then paid back (with fees) over a set period of time. Fixed payments are made each month.
- SBA Loan: Same structure as a term loan. The only differences are the requirements and terms, which will be explained later on.
- Business Line of Credit: You are given a revolving credit limit that you can borrow from at any time. Payments are only made when you borrow.
- Merchant Cash Advance (Credit Card Factoring): You receive a lump sum that is paid back via a fixed percentage of daily debit and credit card sales.
- Invoice/Accounts Receivable Factoring: The business lender purchases your outstanding invoice/receivable for a discount price and pays you right away.
- Equipment Financing: Like a traditional business loan, you receive financing to pay for a particular piece of equipment, then fixed payments are made each month.
- Revenue Based Business Loan (Business Cash Advance): Similar to a MCA but your payments are deducted via a fixed percentage of your entire monthly revenue.
Before getting your heart set on one program, make sure you will be approved. If you can effectively fulfill your desired program’s requirements, you will likely receive the kind of terms that make this program so advantageous.
Different business lenders, however, have different requirements. For this guide, we will list the requirements for the business funding program(s) offered by Kabbage, OnDeck, commercial banks, Square Capital, and United Capital Source:
- Kabbage: Kabbage offers just one program, a business line of credit. A minimum personal credit score is not required, but a score of at least 500 is preferred. Borrowers must be in business for at least one year and have an annual revenue of at least $50,000.
- OnDeck: At least one year in business for business term loans and lines of credit, $100,000+ annual revenue for term loans and lines of credit 500+ personal credit score for term loans and 600+ for lines of credit (Most borrowers have 660 or higher), No personal bankruptcies in past two years, Personal Guarantee for Term Loan.
- Commercial Bank: Most banks offer business term loans, SBA Loans, and business lines of credit. The following criteria applies to all programs: credit score of over 700, at least six months (but preferably over two years) in business. Annual business revenues must exceed $100,000. Several banks offer unsecured business term loans and business lines of credit, meaning you do not need collateral. But in order to qualify for these programs, you must fulfill the other requirements with flying colors. Just about all bank loans (secured and secured) require significant working capital. Banks favor applicants with enough money to continue making payments in the event of a rough patch or failed investment.
- Square Capital: Square Capital offers just one program: the Square Capital “flex loan.” It is nearly identical to a merchant cash advance, so a minimum personal credit score is not required. Annual revenue must exceed $100,000, and your transaction history must denote that you can pay off the loan in full within 18 months.
- United Capital Source: United Capital Source offers all 7 of the programs listed in the previous section. For all 7, borrowers must be in business for at least six months and earn $100,000 in annual revenue. Borrowers with low credit scores (around 500) can be approved for short term business loans, merchant cash advances, business lines of credit, accounts receivable factoring, and revenue based business loans. UCS’s SBA “Marketplace” Loan is available for borrowers with credit scores as low as 650, but you must be in business for at least 2 years, earn at least $1.2 million in annual revenue, and have no bankruptcies or foreclosures in the past three years.
For many borrowers, the deciding factor is the business loan’s interest rate and terms. While rates and terms might differ between different business lenders, they will most likely be more similar for the same programs.
Here are the interest rates and terms for the aforementioned business funding programs:
- Standard Business Term Loan: 4% to 10% interest, terms range from 3 months to 10 years.
- SBA Loan: 5% to 10% interest, terms range from 3 years to 25 years.
- Business Line of Credit: This one really depends on the lender. Business lines of credit from Kabbage carry APRs between 24% and 99%. Monthly payments are a percentage of the amount borrowed plus another fee of between 1% and 10% of the amount borrowed. With the six-month plan, your fee is 10% for the first two months and 1% for the final four. The 12-month plan has higher fees in the first six months but drops to 1% for the final six. OnDeck’s business lines of credit have rates of 14% to 40% and must be paid back in 6 months. Commercial banks have the cheapest rates of 5% to 10%, with no specific due date. At United Capital Source, the rates for a business line of credit is 8%, with terms up to 18 months.
- Merchant Cash Advance (Credit Card Factoring): OnDeck and Square Capital charge a factor rate as low as 1.09 and 1.16. OnDeck’s terms are 3 to 36 months, compared to up to 18 months for Square Capital. United Capital Source also uses a system that assigns a “factor” rate and a “retrieval rate”. The former dictates how much you would owe in total, while the latter dictates the percentage of daily transactions that would go to the business lender for repayment. For a MCA, the factor rates start at 1.09%.
- Invoice/Accounts Receivable Factoring: Only a select few business lenders offer this program. United Capital Source charges factor rates starting at 5.8% for up to 24 months.
- Equipment Financing: Interest rates start at 5% for 1-5 years.
- Revenue Based Business Loan: Factor rates start at 9% for 3 – 10 years.
Now that you have an idea of which options you will most likely qualify for, it’s time to consider other significant factors that could impact your decision.
The deciding factor for picking the right small business loan is usually functionality, or the purpose of the loan. Each option is geared towards certain types of investments and goals. This is why it is crucial to know exactly what you intend to get out of your desired business loan. Start with a basic, primary goal (purchasing equipment, increasing staff, paying bills, completing a lengthy project) and then branch out: What will your investment do for revenue? When will your intended improvements take place? Aside from your primary goal, will your investment do anything else that will make it easier to pay off the debt?
Your answers to these questions will tell you which payment structure poses the least danger to cash flow. For example, you might discover that you are looking at a long-term investment that will also give you inventory discounts, or a short-term investment that will also streamline productivity.
Since you’re going to be paying off debt, it only makes sense to be aware of anything that will make it easier or harder to do so. Are you heading into your industry’s busy or slow season? Is your business frequently prone to temporary cash flow gaps? Do you have any other significant expenses coming up? Certain types of business loans are designed to accommodate dips in revenue or additional expenses. They tend to feature repayment systems that wouldn’t force you to make considerable payments when you are already spending a great deal of money on more pertinent things.
- Business Lender
Every business lender has strengths and weaknesses. Banks carry the cheapest business loans on the market. But their loans are also the most difficult to qualify for, and banks require more paperwork than any other option. Some borrowers prefer the convenience of online lenders like Kabbage or OnDeck, while others wouldn’t feel comfortable leaving the most important investments of their careers in the hands of a computer algorithm. Think of everything you want out of a business lender. You will likely be able to find a business lender that offers your desired program in addition to a business model you can truly trust.
Take All The Time You Need
Choosing a small business loan could very well turn out to be the most tedious part of your preparation process. The more time you spend making sure you choose the right program from the right business lender, the easier your repayment will be. So, do not get frustrated with this decision. Once you have to come to a conclusion, you can safely say that the worst is over.