Funding a business is hard work, especially in the start up phase. Initial expenses, such as building rent, employee training, and marketing outreach, can cause a great deal of costs that many budding companies just don't have access to. Even for long-standing firms, sometimes an extra hand in budgets can truly be a blessing during busy season.

It is often said that it takes money to make money, but how does this happen when you don't have the initial funds? You take out a business loan.

Business Loan Basics

Just as it sounds, a business loan is a loan that is used specifically for business purposes, such as starting up a company or finding funds to expand a department.

Like all loans, the act of taking out money that needs to be paid off in the future involves the creation of debt that will need to be repaid with added interest. Interest is the payment from a borrower to a lender that is above the amount of the initial lump sum agreed upon. Usually, interest makes the task of lending money more economically beneficial to the moneylender.

All business loans, like a majority of other credits and borrowings, are either secured or unsecured.

With a secured loan, the borrower pledges an asset in order to obtain the financing. The asset is usually a tangible item that is of worth to the business and acts as an incentive to get the debt repaid. Typically, in a business loan, the assets may be anything from equipment, stock, or business property. If the borrower is not able to pay off the loan, the moneylender gets to legally keep the asset as collateral.

In an unsecured loan, there is no asset to pledge, which makes the act of borrowing much more risky on the lender's end; although, usually, unsecured loans have a higher interest rate to make the transaction more worthwhile.

Types of Loans

There are a wide variety of business loans available for companies and, depending on what is needed for your industry, one loan may have more benefits for your need than another.

SBA Loan

  • Loan Amount: Up to 5 Million
  • Loan Term: Maximum 20 years
  • Fixed or variable rates not exceeding 2.75% over New York prime rate
  • Speed: as little as 30 days

SBA, the Small Business Administration, is a federal agency dedicated to helping entrepreneurs improves their small businesses, take advantage of contracting opportunities, and gain access to loans.

To receive this type of loan, businesses must contact their bank to see if it is offered. The initial route involves a lengthy process where lenders will review your credit and financial statements and expect you to have collateral to secure the loan. In most cases, SBA lenders will look for borrowers with good credit, a solid business plan, collateral, and a demonstrated ability on a repayment plan for the loan.

Traditional Term Loan

  • Loan Amount: $25,000-$500,000
  • Loan Term: Up to 1 year
  • Interest Rate: Fixed or variable interest rates
  • Speed: as little as 2 days

A traditional term loan is probably the most common form of business loans available today. Because it's so common, most people tend to understand it quite easily. First, the borrower takes a fixed amount of money, often used for a specific purchase for the company (like working capital, tax obligations, or even paying off previous debt), and pays back the loan over fixed amount of time.

Since they are so common, there are a wide variety of traditional business loans that are offered to companies with various needs, and both traditional banks and non-bank alternative lenders provide them.

To get a traditional term loan, most investors ask for collateral, or an asset, and many also only lend to businesses with good credit. Sometimes, there are prepayment penalties or fees that are tacked on to traditional term loans, so be sure to ask your investor what these terms may be before agreeing upon a contract.

Short Term Business Loan

  • Loan Amount: $2,500-$250,000
  • Loan Term: 3-18 months
  • Interest Rate: Fixed or variable interest rates
  • Speed: as little as 2 days

Short-term loans are designated to meet short-term financing needs within a company. Typically, this means that these funds go towards cash flow, extra cash needs for working capital, and taking advantage of new business opportunities. By taking out a short-term loan, most businesses are able to use the loan to harness business advancements, gain extra revenue, and repay their debt in a timely manner.

These loans tend to work similar to traditional term loans in that a person or business receives a set amount upfront and is asked to pay it back over a set period of time with additional fees and interests. However, the difference in short-term is that the loan amount tends to be significantly less, the pay-back period is substantially shorter, and interests rates are higher.

Business Line of Credit

  • Loan Amount: $10,000-over $1 Million
  • Loan Term: Up to 1 year
  • Interest Rate: Fixed or variable interest rates
  • Speed: as little as 2 days

A business line of credit is quite similar to a personal line of credit. Typically, an institution or investor grants access to a specific amount of financing, but it is not needed to make payments or incur interests until you tap into those funds. This type of funding is good for people who need a cash-cushion when required, such as short-term financing like payroll and seasonal expenses.

A good example of how a Business Line of Credit works is as followed: If you were given access to a $60,000 line of credit and decide to take out $30,000, you will still have access to the remaining $30,000. If you pay off the amount you took out, then you go back down to $0, owe nothing, and still have access to the original $60,000. However, going over the amount is where interest occurs.

Typically, business lines of credit have lower interest rates and closing costs than traditional loans.

There are a multitude of business loans available for the start-up company and the long lasting franchise. Depending on what is needed for your industry, one loan may have outlasting benefits over another, so definitely do your research and ask your bank or lender the terms of each option before settling on a loan contract.

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