Start up business loans comes in all shapes and sizes — and there are more options than Small Business Administration (SBA) loans. Many aspiring small business owners often struggle to qualify for SBA loans. Why?
To be eligible for an SBA loan, you must meet the five “C” eligibility requirements: Capital, Credit, Capacity, Character, and Collateral.
But what if you have a bad credit score or don’t have enough for a down payment on an SBA loan? What if you don’t want to put your house up for collateral — or can’t prove your business will bring in enough cash flow to repay the debt to qualify for a traditional business loan?
The good news is that term loans, also known as unsecured loans, can be great alternative loans for startup businesses. They’re easier to qualify for and can provide more flexible terms.
What are SBA loans and how do they work? Here’s Everything You Need to Know About SBA Loans.
What Are Term or Unsecured Loans?
Loans come in two basic types, secured and unsecured. “Secured” means that the lender requires collateral to make the loan. When applying for a standard business loan, for example, collateral such as real estate or other assets is often required, as well as a down payment. “Unsecured” or term loans, on the other hand, do not require any collateral or down payment. This is a great advantage for startup business owners who:
- Don’t have access to assets that can be used as collateral.
- Don’t want to pledge valuable assets (like their house or car) as collateral.
- Can’t meet a secured loan’s down payment or eligibility requirements. (If you have a bad credit score or credit history, you’re less likely to receive a secured loan.)
The fact that collateral is not required means that applying for an unsecured loan is similar to applying for a credit card. The application process is far more streamlined, and it’s far less competitive.
Most unsecured lenders consider your credit history and income-to-debt ratio as primary factors when reviewing your application. In general, lenders have a minimum credit score requirement of 690. They will look for an income-to-debt ratio and annual revenue that indicates you will have no difficulty making unsecured loan payments.
Some lenders may ask you to supply income verification and financial statements to demonstrate your ability to pay back an unsecured startup loan.
Looking to increase your chances of getting approved for a business loan? Here’s How to Write a Business Plan That Will Get Approved for a Loan.
Advantages of Term/Unsecured Loans
When it comes to start up business loans, term or unsecured loans can offer multiple advantages, such as:
- An easy application process
The application process for term loans is significantly shorter and less competitive than secured loans, particularly highly competitive ones like those backed by the U.S. Small Business Administration (SBA). - Lower interest rates
The interest rate costs can be less expensive for term loans. Interest rates on all business loans, including SBA loans, have increased this year. The higher the interest rate, the higher your potential monthly payment. An unsecured business loan can be a more cost-effective option for small business owners — depending on the type of unsecured loan and how it’s used. - Quick approval and funding
The approval process for unsecured loans can be quicker. That means you can finance your business faster. Many unsecured loans are usually approved in three weeks or less, while secured loan approval can take up to three months. - Maximum flexibility
Term loans provide small business owners with maximum flexibility. You can receive up to $500,000 with an upfront cost automatically added to the overall cost of the loan. Plus, you don’t have to put a cent down, so you’ll keep money in your pocket — while also gaining valuable capital for your business. You can combine unsecured loans with other funding sources, such as secured loans and Rollovers for Business Startups (ROBS), which use funds in retirement accounts such as 401(k)s. - Multipurpose business support
You can use the funds for virtually any business purpose. Secured loans often require you to specify the purpose, and approval is contingent upon an approved purpose. Most unsecured loans have no such limitations.
Considering applying for an SBA loan? Here are Important SBA Loan Interest Rate Changes Prospective Small Business Owners Should Know.
Let’s briefly review some of the best startup business loans that fall in the unsecured loan category, examining some of the key pros and cons of each!
Personal/Unsecured Term Loans
Banks and other lenders offer personal loans. The most significant advantage of personal loans is that their interest rates are generally lower than those on credit cards or business lines of credit, often significantly lower.
A potential drawback is that some lenders may limit what a personal loan can be used for. Many, however, don’t have any drawbacks. So, you can fund your startup for any business purpose once approved — with the right lender.
Are your local banks offering the best loan terms or financing options? Here’s how to Look Beyond Your Personal Bank for a Business Loan.
Online Business Loans
Online business loans are often more flexible and easier to apply for than business loans provided by traditional lenders with a brick-and-mortar presence. They can also offer lower interest rates.
However, small business owners should carefully review the stated annual percentage rate (APR) and origination fees. Some online lenders may charge higher interest rates on unsecured business loans than on secured ones. Why Higher interest rates help decrease lender risk.
While online unsecured loans don’t require collateral, you may be asked to sign a personal guarantee document. A personal guarantee commits you to pay the loan from personal assets in case your business defaults.
Portfolio Loans
A portfolio loan is a type of loan in which your credit is based on your stock, bond, or other portfolios, including retirement portfolios. Generally, borrowers with at least $85,000 in a portfolio can be approved for a loan of up to 80 percent of the value. These loans can be a good option for small business owners with unqualified credit or credit history because the lender looks at the portfolio value than at your credit score. Portfolio loans can also carry flexible terms and offer some of the lowest interest rates.
Portfolio loans also allow you to continue to benefit from the value of your portfolios. If the stock market is rising and you have a portfolio loan on your stocks, you will benefit from climbing stock prices. However, portfolio loans also carry a risk that other types of loans don’t have. Remember, the value of any portfolio can fall as well as rise. Your portfolio balance generally must remain at 80 percent of the loan amount. Lenders will require you to make up the difference if your portfolio balance falls below that amount. So, having a cash reserve just in case is a good idea!
Portfolio loans are also more likely than other types of loans to have prepayment penalties. These penalties can add significantly to the cost of the loan.
Get the full scoop on portfolio loans in our Complete Guide to Portfolio Loans for Small Businesses.
Factoring
Factoring is a financing method that utilizes your unpaid invoices. It is generally only offered by lenders who specialize in factoring. Factors can approve you for a loan of up to 80 percent of your outstanding unpaid invoices.
Factoring can be advantageous if you consistently have several unpaid invoices or are in an industry where your client’s business days in which to pay invoices are lengthy. Utilizing factoring yourself can also be a strategy to grant your clients flexible or long terms for their own payment, which can be a competitive benefit for you.
The chief drawback to factoring, however, is charges and fees. Factors charge a percentage of your unpaid invoices to provide funding. In other words, you will only be funded for 90 percent or less of your unpaid invoices because the factor will take a percentage of what you are owed.
In addition, some factor financing is recourse financing, where you will be responsible for paying any unpaid invoices. Other factors will provide nonrecourse financing, where they are responsible for any unpaid amounts.
Credit Card Financing
Credit card financing or stacking is a method that uses multiple credit cards to fund a business. It involves finding credit cards that offer no interest charges for a lengthy period of time (up to a year). And they don’t charge fees for cash advances when applying for them simultaneously. You either get a cash advance or charge your business needs on a business credit card and then pay the charges off before interest charges come due.
Credit card stacking can be a viable method of financing — especially if you don’t have collateral or a qualifying credit score for traditional business loans. But it’s also risky.
If you can’t pay off your charges, you must start paying on the credit cards once the initial “no interest charge” period is over. The interest rates on credit cards can also be very high. So, proceed with caution as credit card financing or stacking is riskier than other unsecured loan options in repayment terms. Credit card financing can leave you with high-interest rate debt service, so only consider this option only if all financing options fail!
Business Grants
Business grants can also offer unsecured and collateral-free financing methods. But note that business grants aren’t loans. In some cases, getting a grant means obtaining free money. In other cases, they may require you to match the funds yourself or combine the grant funds with another form of financing.
Organizations give business grants for a purpose. They may, for example, want to support women or specific ethnic groups, for example, or have a nonprofit purpose, such as encouraging energy conservation or neighborhood revitalization.
If you want to apply for a business grant, learning about all available grants for your type of business and your industry is a good idea. You can start with U.S. government grants at www.grants.gov. Remember to read the grant’s purposes carefully — and ensure your business qualifies by aligning with those purposes.
Note that some grants will require you to write reports about the results of the grant or provide data on how you used the funds. The application process can be lengthier and more competitive than other unsecured financing methods.
Want to learn more about term loans? Here’s everything you need to know about Unsecured & Collateral-Free Loans.
Final Thoughts
Business financing isn’t one-size-fits-all. Depending on your financial situation, term or unsecured loans can be your best bet — especially for alternative business startup loans.
Is all your money in your 401(k) or another retirement plan? ROBS allows you to use your retirement funds to start or fund a business. See if ROBS is right for you and Compare ROBS to Other Funding Options.
Guidant: Your One-Stop Shop
We get it. Finding the best financing method for a startup business can be challenging. At Guidant, our financial experts can help you find funding faster. We take a transparent, educational approach to business financing and care about your unique needs as a small business owner.
From SBA loans to 401(k) business financing to term loans, our team can examine all financing options to help you determine the best plan. We partner with multiple reputable lenders, ensuring you get the best deal. And our team is always a phone call away.
Over 30,000 small businesses got started with Guidant’s help. As a leader in small business financing, we’re dedicated to helping aspiring and current small business owners in every step of their business journey. We also offer a suite of affordable business services, including payroll, accounting, and tax services — making your business (and life) easier.
Get started today and book your FREE consultation with our team! Call 425-289-3200 or pre-qualify in five minutes for small business financing.
