Small Business Loan Basics – How to Apply For a Small Business Loan
In simple terms, a small business loan, also referred to as merchant cash advance loan, is an amount of money a business owner or partners borrow from a private lender. Both parties sign an agreement stipulating the amount to be lent and the repayment schedule over a specified period of time. There are a few common factors that both the lender and borrower need to consider before deciding upon the type of small business loan. These factors are the total assets of the business, the anticipated profit made by the business and the capacity of the owner or partners to pay the loan back. Once all these factors are assessed, the lender can decide on the type of small business loan they would like to issue.
Banks are the number one option of most small business loan proceeds. The main reason being that banks are generally regarded as one of the safest lending institutions in the market. This is especially true when the business has been established and is earning profits. The ability of banks to extend loans to potential business borrowers is also one of the reasons why most banks offer better terms to borrowers than other financial institutions. Moreover, when banks provide a small business loan, they are actually making a return on the investment they have made in the business. They will be receiving interest on the loan balance and they may also earn some profit from the interest paid by the borrower.
However, despite being perceived as a reliable source of small business loan proceeds, some risks exist with the loans from banks. One of these risks involves the possibility of default on payments by the borrower. Since the collateral used for securing loans from banks consists of real property, the lender may have recourse to take legal action to recover the collateral.
While the amount offered in an average small business loan amounts may seem relatively small compared to the value of the real estate owned by banks, this may not always be the case. There are two sides to every coin, or so it seems. On one hand, banks are not necessarily risking too much on businesses’ property because they are already taking on quite a lot of risks by providing loans. On the other hand, banks are certainly not avoiding risk just because the average small business loan amounts offered are much lower than usual. Here are some of the reasons why banks offer smaller loans:
First, banks set their lending limits at the average small business loan amounts based on several factors. Some of these factors include the profitability of a business and its credit risk profile. Credit risk is defined as the likelihood of the borrower defaulting on his or her loan obligations. If the business does not produce enough cash flow to repay its debts, then the bank would suffer a financial loss.
Second, SBA loans can be secured or unsecured. Secured loans have a lower interest rate but also require collateral or securities in order to obtain the loans. Unsecured small business loan amounts are higher but also come without collateral or securities. These loans tend to have a shorter repayment schedule. This means that borrowers pay a lower interest rate over a longer period of time, but the period of time can vary depending on the lender’s business strategy. The two types of loans also differ when it comes to what they allow borrowers to borrow.
Third, lenders will most likely require borrowers to supply credit reports, financial statements, and to undergo an appraisal of their businesses’ capital assets, liabilities, and trading debts. These reports can help the bank determine the amount of collateral needed for any given loan request. This also helps the lender determine the maximum amount of interest to be charged for any given loan. Aside from the credit report and appraisal, small businesses are encouraged to provide financial statements, because these can help lenders evaluate their lending decisions.
Fourth, there are many alternative lenders that specialize in providing small business loans. These lenders have many benefits and fees that make getting a traditional loan from banks much more expensive. They may also offer better terms and conditions, including a no prepayment penalty or an early repayment penalty. Businesses should therefore consider applying to these alternative lenders to find the best rates and terms available in the market.