Unsecured Business Loan: Everything You Need to Know
Getting an unsecured business loan has always been the holy grail of building a business. Over the last few years, unsecured business loans have become much more common but it isn’t traditional banks that have led the way but other alternative lenders.
If you are looking to a traditional bank for an unsecured business loan then you might not find your holy grail.
Over the last 25 years, I have built 6 companies in the $5 million to $25 million range and 2 of them made the Inc 500/5000 fastest growing. I have a lot of experience with traditional banks, invoice Factoring, cash advances, and even borrowing money from a friend. Let’s talk about the reality of getting an unsecured business line of credit or unsecured business term loan so you know where to look and what you are up against.
As your business grows learning about business financing will become even more critical to your success.
What Is an Unsecured Business Line of Credit?
An unsecured business loan or unsecured business line of credit is a business loan that does not have any collateral to support the loan should you default. A secured business loan or secured business line of credit has a variety of forms of collateral such as any equity in the real estate you own, your business accounts receivable, your inventory, stocks, bonds, cash, and other personal assets that are pledged to support your loan.
What most people don’t know is that banks are the most conservative business financing institutions around and banks hate to see loan defaults. It isn’t just a culture with traditional banks that they hate to lose money but banks don’t want to provide unsecured business loans because of regulatory issues.
Banks are using two sources of cash to loan out money. Depositors money and government funds and because of that banks are required by the fed to have the majority of their term loans, small business loans, and business lines of credit backed up with collateral or in other words secured.
Contrary to popular belief banks do not give business credit based on an awesome business plan, great cash flow, or even exceptional annual revenue. A bank’s collateral requirements will require that for almost every dollar you borrow for your business, you will have to have personal or business assets to support the loan regardless of the type of loan.
What Is The Loan Amount You Will Be Approved For In An Unsecured Business Loan
If the economy is doing well and you have had a long relationship with your bank, there is a possibility that the bank might be willing to give you a small unsecured line of credit. Their decision will be based on how much cash flow is running through your bank account, your personal credit score, and the industry you are in.
The loan amount you are approved for will be dependant on your total revenue, gross profit, and net profit in the case of an unsecured business loan but don’t expect it to be over $100,000. That $100,000 would be applicable to a business that does at least $5 million or more in revenue.
And due to the pandemic and recession, not only will banks not offer unsecured loans but may not even approve your business for a secured loan. Business financing is going to be tough for a while.
Who Offers Unsecured Business Lines of Credit
Since the 2008 recession, online lenders (sometimes called fintech or financing technology due to their use of data to make loan approvals) have grown to serve small businesses looking for unsecured loans. These companies are privately funded and therefore do not have to abide by the federal government’s requirement to have collateral to back up the loan.
Are online lenders more expensive than a bank loan? In most cases yes but if you have the choice between getting no business loans or a credit line that is a little more expensive, most small business owners will go with the online lender.
Especially because with an online lender the application process for a loan or credit line can be put in place in a matter of days versus weeks with a traditional bank.
These online lenders are willing to provide small business owners with working capital by putting more emphasis on personal/business credit history, cash flow, business revenue, with simpler repayment terms.
However, due to the pandemic and recession, many online lenders are not approving new loans and some of the biggest ones have gone out of business.
What to Watch Out For When It Comes to Unsecured Business Loans
We have all heard of predatory lenders and in the business financing world, there are a number of companies that have higher interest rates than others.
The key is to know what you are getting yourself into and the best way to do that is to completely understand what your total payback will be. Some of the most expensive forms of loans are merchant cash advance loans and often small business owners mistakingly believe that if they pay the loan off early, then the loan will be cheaper. In many cases that is not true.
When it comes to online lenders the one’s that are more reasonable are the ones that offer a credit line or a business line of credit.
A business line of credit is less expensive because it can be used as a short-term loan to address a short term emergency. Often times that emergency relates to making payroll, paying rent, or getting last-minute inventory to complete a job. Often times the business owner will only need the funds for a few weeks and the credit line will result in not being very expensive at all.
What Will Your Credit Score Have To Be To Qualify For a Business loan or Credit Line
Your personal credit score, and not your business credit score, is really what all financial institutions will care about. The reason; small businesses under $10 million in yearly revenue are not really tracked by credit agencies like Dun and Bradstreet and others so lenders rely on personal credit scores in the loan approval process.
Traditional banks are going to want to see at least a 680 or better personal credit score whereas reputable online lenders are going to require a 650 or better credit score. As your credit score worsens then you start to move into the predatory lender’s categories and if your credit score is 550 or lower then you will probably not be approved at all.
How Has The Pandemic (Covid-19) Affected Business Financing
The Pandemic has and will continue to have a huge effect on your small businesses’ ability to get a business loan. Like all recessions, banks hate uncertainty, and because a bank is uncertain what your future cash flow, they are more likely to hold off on approving any new business loans, personal loans, or business lines of credit.
The other thing that has affected business lending is that the recession has caused online lenders to stop lending because they lost their investors.
What this means to small business owners is that it is going to get hard to be approved for a business loan or business line of credit.
Is the SBA (Small Business Administration) a Good Source For a Business Loan?
IS the SBA a good resource for a business loan? What most people don’t understand is that the SBA does not actually loan money. The SBA has certified approved lenders and those lenders provide business loans and business credit lines based on a SBA approved set of guidelines. Even those guidelines often require collateral requirements.
In many cases, even with collateral, a direct business loan approval process will take a few months. With the SBA involved, you can expect that to double in time frame. The SBA is often a very good deal from an interest rate perspective but be prepared to fill out a lot of paperwork and to wait.
The reason why a business will get the SBA involved is that sometimes the SBA has certain industries that the government wants to help and therefore, the collateral requirements might be less. The SBA works with banks by taking on some of the risks in case if you default.
Are Merchant Cash Advances an Unsecured Business Loan
Merchant cash advances and cash advance has been around for a while but they actually are two different types of business loans.
Merchant cash advances ( MCA) is a business loan or “cash advance” against future credit card payments. It is often used for businesses, like restaurants, that receive a lot of their payments through credit card machines. A MCA lender will advance funds to your business and the payback will occur as a percent of your credit card payments. Your credit card processor will be informed to send a certain percentage of your credit card payments to the lender to fulfill your loan payments.
A few years after MCA’s were introduced cash advances for business to business industries. Cash advances are a form of a business loan for businesses that do not get paid via credit cards. The lender will set up a schedule for you to repay your business loan based on a daily (business day), weekly, or monthly payment ACH ( wire) from your bank account.
MCA and cash advances are often very expensive and are sometimes the only option for business owners with very low credit scores. To evaluate the true cost of a MCA determine how much total your business will have to pay back to complete the loan. The number one most misunderstood part of cash advances and MCA’s is that if it is paid back early, one still is required to pay the full amount. There are no early payment discounts.
MCA’s and cash advances use a company’s future receivables as collateral. What this means is if your business goes out of business the lender will be entitled to any receivables still owed to you so yes, cash advances are a secured business loan. However, if your receivables just stop for some reason then a cash advance lender is not entitled to be paid back as long as there has been no fraud on your part.
MCA’s and cash advances are used most often by business owners with bad credit. Band credit would be considered anything under a 600 credit score. If your personal credit score is below 500 then you have almost no chance of getting any type of business financing regardless if the loan options are through a traditional bank, cash advance or MCA company.
Factoring or Invoice Financing Can Be An Option For Bad Creditworthiness
If your business needs financing on a constant basis then Factoring AKA invoice financing might be a good financing option especially if you have bad credit.
Factoring is when you contract with a lender who will advance you 80-90% of an invoice. In exchange, when your client pays you they do not send the payment to you but directly to the Factor. The Factor takes their cut and sends you the remainder of the money.
The positives in Factoring is that the Factor doesn’t care about your credit but your customer’s credit. So if you have bad credit then you have almost unlimited business financing but keep in mind that there will be times when your Factor will not approve your clients.
The negatives of Factoring is that it is expensive and that you will have to get your clients to agree to send payments directly to the Factor. The other disadvantage is once you get used to using the Factor, it will be hard to move away.
Factoring is a long term decision that can help your business if you are growing in leaps and bounds.
Business Owners: Get Used To Giving Personal Guarantees
Until your business reaches $10 million in sales every business loan and credit card a business owner has often will require a personal guarantee. This is why your credit score is so important and why so many small business owners sometimes struggle to keep their credit score high.
Your personal credit is a mixture of a number of factors by the credit agencies. How many trade lines you have out can both help and hurt your credit score regardless if you make your payment every single month. If you have a lot of money outstanding on your credit card, even if you make your full payment each month, the credit agencies will ding your credit because you are using your available credit often.
However, the more credit you get and the more you show you are responsible, over time your credit will improve. A good credit score for most business lenders is a 650 or greater person credit score. Become knowledgeable about what affects your credit and do everything you can to keep your score over 700 if possible.
A good idea is to subscribe for free to credit karma and they will send you monthly reports about your credit standing. If your credit is poor do not use a credit improvement company. Credit improvement companies are notoriously fraudulent and very expensive.
How Is Financing Solutions Unsecured Business Line of Credit Different
Financing Solutions, an A+ and 5 stars rated BBB company since 2012 has been a leader in providing small businesses and nonprofits with a line of credit.
Financing Solution’s business credit line is unique in that it is unsecured and requires no personal guarantees. The credit line costs nothing to set up, nothing until used and because it can be paid off at any time, it is inexpensive. In essence, it is a different type of business loan.
Financing Solutions business line of credit is more of a cash backup plan that almost every business owner or executive director wants to have in place in case cash flow temporarily dips. It could be a delayed client payment, a late reimbursement check, a business with seasonality to it, or just a great new opportunity.
Why is a business line of credit important? Most of the business owners’ personal cash is often tied up in a business’s accounts receivable or inventory and when there is a hiccup in cash flow, it can affect the ability for important bills to be paid.
The owners of Financing Solutions have built several small businesses themselves and believe that every business should have a cash backup plan so we made it easy to get a credit line in place, just in case.
There is no obligation and credit check done to get an offer letter to consider.