A business loan refers to a sum of money that you borrow to meet business expenses. You can use them to meet small as well as large expenses. They not only help you bridge the gap in working capital, but they also help you pay for large expenses, such as buying another space. A wide selection of business loans is offered by financial institutions, but each of them is aimed at funding different needs. They all work in a different way, but the basic conditions to be eligible for business loans are that:
- You must have a decent credit score.
- If your business has a separate legal entity, your business credit score should also be up to scratch.
- You must have a strong repayment capacity.
Types of business loans explained and how they work
Small and medium enterprises can choose from different loan types depending on their requirements. Each one of them has different criteria for approval. This blog discusses each of them in detail:
Unsecured business loans
Unsecured business loans are not backed by collateral and therefore are less risky, but you must have strong creditworthiness in order to receive approval. Interest rates tend to be slightly higher for them as lenders cannot repossess your assets in case of responsibility abdication.
- They are amortised, with each fixed instalment reducing the principal amount too.
- The maximum repayment term of these loans is not more than five years. They usually vary by the loan amount. The minimum repayment length is six months.
- You can borrow between €5,000 and €100,000.
It is worth noting that some lenders might ask you to give a personal guarantee, especially if the loan size is more than €100,000. It means the onus of payment is on you if your business fails to discharge the debt on time.
Secured business loans
An asset is to be pledged to receive approval for these loans. As a lender can repossess your asset in case of default, they are considered less risky for them. For this reason, their interest rates are more affordable than those of unsecured business loans.
- These loans start from €25,000.
- The maximum loan amount can go beyond €100,000.
- In case of default, your asset will be repossessed.
- The minimum repayment term for these loans is about five years, and the maximum repayment term can be more than 15 years.
Secured business loans can be obtained despite having a poor credit score, but the loan amount might be restricted. Do not assume that business loans for bad credit come with lower interest rates due to a pledged asset. Lower interest rates are generally available for good-credit borrowers.
Short-term business loans
Short-term business loans are unsecured, but they are aimed at funding small business expenses. €100,000 is the maximum amount you can apply for through these loans. These loans are discharged within a duration of a year.
- Short-term business loans help meet unexpected expenses.
- They are ideal for meeting the gap in working capital.
- Subprime borrowers can also easily get the nod.
Interest rates for short-term loans for business are slightly higher. Make sure that you will not struggle with repayments.
Working capital loans
Working capital loans have been exclusively designed to help entrepreneurs struggling with low working capital. Short-term business loans can be used for various business expenses, such as payroll and buying equipment, but working capital loans are used only to bridge the shortage in working capital.
- The loans are also small.
- They are paid back within a year.
- The loan amount is influenced by a lender’s policy and your creditworthiness.
Working capital loans vary between €1,000 and €200,000 and might charge high interest rates.
Startup business loans
Startup business loans are aimed at startups. If you need money for the initial capital, these loans would be the perfect choice for you. Still, their approval criteria differ from those of other types of business loans.
- Startup business loans require a business plan.
- You will have to submit a report of projected profits.
- Your credit score must be stellar.
- You should have an alternative repayment plan to offset the impact of business failure.
- Your company must have been the trading history for at least 6 months. Your chances of being accepted are high if you have reached the breakeven point.
Startup business loans vary between €5,000 and €100,000.
Invoice financing
Invoice financing is not exactly a loan. It rather allows you to borrow against unpaid invoices. This facility is available to entrepreneurs who sell their products on credit, which has disrupted their cash flow.
- An invoice financing company will let you borrow up to 85% of the unpaid invoice value.
- No credit score of yours will be checked.
- After the collection process, the company will pay you back the remaining 15% of the value minus fees.
Invoice financing is the most convenient method for entrepreneurs to fix cash flow problems due to outstanding accounts receivable.
Asset financing
Asset financing is a type of secured business loan, typically used when you are buying machinery or equipment. It includes hire purchase and lease financing.
- Hire purchase will let you have ownership at the end of the term. Every month, you will pay down a fixed instalment.
- You will never become the owner of the equipment under a lease purchase, as every month you will pay down the rent. At the end of the term, you will return the equipment.
They are also subject to the risk of losing their business assets.
A business line of credit
It is similar to a credit card, the most flexible option to meet short-term business expenses. You can withdraw as much as you want from the given limit. It allows you to repay the owed money in parts. Interest will be accrued only on the outstanding balance. You are free to withdraw the paid amount again, and hence it is called a revolving line of credit, too.
The final word
Various types of business loans fund different kinds of needs. Understand them and determine which one suits you best. If you are unable to decide, talk to a financial advisor.
FAQs
Which loan is the best for seasonal businesses?
Working capital loans are ideal for seasonal businesses. They refer to a small business loan that you use to fund a working capital shortage. You can also use a business line of credit
Can you take out a business loan with bad credit?
Yes, you can apply for a business loan despite bad credit. How much money you will be able to borrow largely depends on your overall financial condition.
Can bad credit loans be an alternative to business loans?
No, bad credit loans in Ireland are meant for funding personal expenses. If you use them to meet business expenses, your application will be rejected. Bad credit loans are personal loans aimed at subprime borrowers. They cannot be a substitute for business loans.
Can I use asset financing instead of equipment financing to purchase new machinery?
Yes, you can, but both options work differently. Asset financing aims to unlock value from existing assets that you already own, but equipment financing directly funds the purchase of new machinery, requiring a deposit.
How do I choose the right loan for my business?
To choose the right type of loan for your business, you should consider:
- The loan purpose (whether you want to buy equipment or fund cash flow)
- The loan amount (how much you need and how much you can afford to pay back)
- How good is your credit score?
- Whether your credit score is
- The size of the collateral
Can I refinance existing business loans?
Yes, refinancing of a business loan is possible, but it depends on the policy of the lender. Refinancing will allow you to qualify for lower interest rates and extend repayment terms.
Is trade credit considered a loan?
Trade credit is not a formal loan because you are not borrowing money. You would rather pay later. Trade credit is intended to fund short-term financing. They are especially useful for managing inventory when cash flow is poor.
What is the difference between a credit card and a line of credit?
Both a line of credit and credit cards are part of revolving credit.
- Credit cards allow you to borrow money against the set limit, which you pay down in full within the interest-free period.
- A line of credit allows you to withdraw cash against a set limit, but interest starts accruing from day one. You can pay as per your convenience. Interest is accrued only on the unpaid balance.
- Credit cards are ideal for small purchases, and a line of credit is ideal for large purchases.
What is peer-to-peer lending?
This type of lending enables you to borrow money from individual investors using online platforms. They are generally ideal for those who have been refused elsewhere.
Do all types of business loans need a personal guarantee?
No, it depends on your overall credit profile. Regardless of the type of business loan, a lender may require you to sign a personal guarantee if they find that your business is risky.