Business loans are a fact of life that has to be dealt with by every businessman at some point or the other, and often on a regular basis. The large number of loan types, terms and lenders willing to provide financing often creates confusion about the right kind to apply for. Here’s an introduction to the variety of financing options that might help make it easier.
Term, Collateral & Source: The basic categorization of the financing requirement has to be into two types. First, whether it is a short term or long term need. Secondly, whether it can be secured or has to be unsecured.
This basic categorization will decide the rest of the choices. For instance, a short-term, unsecured loan can be an amount borrowed from friends and/or family for working capital. It could also be a line of credit, credit card-based loan or one based on accounts receivable.
On the other hand, a secured, long-term loan could be for a startup, real estate purchases and capital investments such as equipment purchase or leasing. It could also be funding required for expansion or acquiring another company. These types of business loans are provided by banks and other well established lenders.
Equipment Financing: The equipment serves as the collateral, and the financing can be for either purchase or leasing. This is usually a long-term loan, and monthly payments are the norm. If the borrower defaults on payments, the lender will only seize the specific equipment that was financed, so the rest of the company and the borrower’s personal wealth are not at stake.
Lines of Credit: This is short term financing where a specific amount is available. It can be used for immediate needs like inventory and working capital, but not for capital investments. Interest is charged only for the amount actually used up by the borrower, and not the amount approved.
Credit Card Advances: This is not about a company paying suppliers or bills using credit cards, although that’s possible too. The credit card advance being considered here is a loan offered by a lender against expected future card sales. Approval and amounts lent will be based on the past record of the same.
Factoring: An enhanced version of the above card advance is known as factoring. This is where yet to be paid invoices are sold to a lender at a discount. This ensures that the business gets paid immediately, even if customers take some time to clear their bills.
Obviously, this isn’t all of it even if it does cover the broad types of business loans. There are many more variations and possibilities, such as cash advances, government backed financing for small businesses, and so on. Sometimes, it’s even possible to get grants.
Regardless, that doesn’t change the basic dynamics of a company’s financing needs. A short-term, unsecured loan will carry a higher interest charge while secured, long-term financing will be available on better terms. Before signing off on it, it’s important to consider whether taking on more debt is necessary.