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How Do Business Loans Work? Your Guide to Unsecured Business Loans

Understanding how each type of loan works can give you a better idea of which one is the right fit for you and your business.

You’re the owner of a plumbing company. You must invest in new equipment. You’re working with outdated equipment that’s ineffective on the field.

However, you don’t have enough funds to finance new equipment. To make matters worse, you’re struggling to make payroll due to a lack of clientele.

You’re starting to worry about the long-term health of your business. You wonder about a business loan.

However, you don’t know if you have the credit or income to get financing. And, you have no idea how to get one. You’re also not sure how they work.

How do business loans work?

You can get a business loan from a bank or a traditional lending institution. You can use the funds to make payroll, invest in new equipment, or expand your business operations. The lenders make money from the interest of the loan balance.

You can get two types of loans: a merchant cash advance or a business-term loan. This article will provide an in-depth review of merchant cash advances and business-term loans. Let’s explore.


What is an Unsecured Loan?

How do small business loans work if they’re unsecured? An unsecured business loan is a loan that doesn’t require you to pledge collateral. With secured loans, you must put down collateral in case you default on the loan.

One example of a collateral loan is a mortgage. If you obtain a mortgage, you will pledge your home as the collateral. If you default on the mortgage, the bank can seize your house as adequate compensation.

With unsecured loans, however, institutions will assess a borrower’s worthiness through various criteria, such as:

  • Credit
  • Income
  • Business profile

When it comes to credit scores, the credit threshold depends on the lender’s discretion. Those with lower credit scores will have a harder time qualifying for an unsecured loan. Additionally, lending institutions may look at a company’s business credit score.

If your business is new and doesn’t have a business credit score, lenders will also look at your personal credit score instead. Additionally, most lenders will review your personal scores during the approval process.

Startups with no business scores will have a harder time getting a business loan, but you’ll find online lenders that provide capital to new enterprises. These same institutions will also work with borrowers who may not have the best business or personal income.

Alternative lenders can provide capital to companies with low to mid-level income levels. For example, online lenders can offer loans for companies that make a minimum of $10,000 a month in gross sales.

When dealing with business profiles, lenders prefer established companies. However, you’ll find lenient lenders that offer financing for companies in operation for at least six months.

Alternative lenders are a great option for startups and new businesses that haven’t been in business very long. This is especially true if you cannot get traditional financing from a bank.

  • Note: You may not get all of the money you asked for. Lenders will determine the loan balance based on a risk profile analysis.

Regardless, a business loan is a better idea than investor financing. An investor may desire a certain percentage of your company’s equity in perpetuity. With an unsecured loan, you can borrow what you need and keep lenders at bay for good once you pay the money owed.


Should I Get a Merchant Cash Advance or Business-Term Loan?

Business-term loans and merchant cash advances provide direct funding to businesses. The main difference between the two is how you pay the loans back.

How does a small business loan work via a merchant cash advance?

With a merchant cash advance, the lender will provide the borrower a lump sum balance, with no collateral required. You will pay the lender back through a certain percentage of your credit card sales until you pay the loan in full. In most cases, you’ll pay back the loan daily, but lenders may also offer weekly payback plans.

The necessary percentage is contingent on the lender’s standards, and you may have room to negotiate the portion.

A merchant cash advance allows you to pay back the loan daily instead of paying a hefty balance at the end of the month. And, merchant cash advances offer smaller payments over time. Overall, a merchant cash advance derives from your sales and the amount of money you make. It’s also an ideal option if you undergo periodic sales slumps.

You can do the following with an MCA:

  • Purchase new equipment
  • Hire new personnel
  • Enhance cash flow

You can use the funds for any aspect of your business. The terms of merchant cash advances are usually between 3 to 12 months. The amount you borrow is typically anywhere from $5,000 to $300,000. The same terms and loan ranges apply to business-term loans.

How does a small business loan work with a business-term loan plan?

A typical business-term loan offers a monthly payment plan instead of a daily or weekly payment schedule. They’re also more fixed in nature, with set terms and payment dates. A business loan is more rigid than a merchant cash advance.

You must make the monthly payments, regardless of your sales situation. However, businesses that are in good standing have some options with business-terms loans, such as:

  • Extending the loan if necessary
  • Putting more money down to shorten the loan term

With that, you’ll find that some lenders will also offer daily payment plans for business-term loans. Like an MCA, a daily payment plan prevents borrowers from making large payments each month. It allows owners to better manage their finances, preventing defaults.


How Do Business Loans Work if I Have Poor Credit and Income?

How do business loans work if your finances are in poor shape? You can look for companies that are more flexible than average banks and lending institutions. Many online lenders work with business owners who don’t have stellar credit or sufficient income. And, lenders will work with startups in some cases.

And, these same companies allow borrowers to apply with minimal paperwork and will approve in 24 hours.

Interested in reading more about Capify loans? Click here to learn why a Capify loan can strengthen your business operations.

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