Did you know that 80% of start-up businesses fail within the first year and half of being in operation? One culprit for this could be the lack of access to cash flow. As all business owners know, cash flow is the lifeline of every business. Without it, business owners can’t keep a smooth business operation.
With that, entrepreneurs need to know the different types of financing available to them. One of the most common that small- to midsize businesses use is business term loans. This type of financing option offers flexibility to business owners. They can use the cash towards any business use – whether it’s to pay their day-to-day expenses, or open another location.
If you’re thinking about applying for a term loan, we’ve gone ahead and did the research for you. This article will discuss what a term loan is and how it can help your small business succeed.
What is a Business Term Loan?
Business term loans are one of the oldest types of business financing still being widely used today. The idea behind it is that the business receives a lump sum upfront which is then paid back in increments within a specific period. The banks will set a particular amount of payment plus interest. The business would have to pay weekly, quarterly, or monthly, depending on the arrangement.
The repayment period for term loans varies depending on the type you applied for. In general, repayment terms for business term loans range from a few months up to 25 years. The financing company bases the business’s eligibility on the business’s structure, credit background, financial history, cash flow, and years in business. The lenders may also require the borrowing company to present collateral as security. If you need more funding for your startup business, even franchising.
3 Types of Term Loans
Business term loans have three different types: short-term, intermediate/medium-term, and long-term loans. Here’s how each type works:
1. Short-Term Loan
Short-term loans are best for businesses that need to cover temporary cash flows during the off-season or those looking to cover their day-to-day expenses. Loan amounts for short-term loans typically range from $2,500 to $50,000. The financing company then sets the payment term for the loan to 3 to 18 months, depending on the amount the borrowing company took out.
One important thing to note about term loans is that the shorter the loan duration, the higher the interest rate will be. With that, businesses applying for a short-term loan can expect to pay more interest-rate compared to when they were applying for medium or long-term loans. The financing company may also require daily or weekly repayments instead of monthly repayments.
Businesses, especially start-ups, usually go with short-term loans because they’re easier to qualify for. With long-term loans, lenders would require businesses to have a long history of credit, strong cash flow, solid financial statements, and have to be in the industry for at least a few years, all of which could be difficult for start-up businesses to meet. Short-term business loans, however, lenders aren’t that strict with the requirements.
Moreover, most lenders won’t require businesses to pledge collateral to secure the loan. This makes it a more attractive and feasible loan option for start-ups.
2. Medium/Intermediate-Term Loan
Intermediate- or medium-term business loans are term loans with repayment terms between 2 to 5 years. With medium-term loans, businesses can get as much as $500,000, depending on their credit and financial background, cash flow, or years in business. The business owners can then use the money towards specific business initiative like:
- Loan refinancing
- Product expansions
On the downside, intermediate-term loans can be more difficult to qualify for compared to short-term loans. In general, the lenders might require the borrowing company to have a good to excellent credit score (680 or higher). Besides that, you also have to be in business for at least a year or more to qualify.
3. Long-Term Loan
The last type of term loan, long-term loans, are best for businesses with an established credit background, solid cash flow history, ample experience or years in the industry, and healthy revenue. Business long-term loans are mainly for businesses looking to pursue business opportunities like business acquisition, opening another location, refinancing debts, setting up additional warehouses, and more.
With long-term loans, the business can get up to $5 million in cash up front, and the repayment terms could be as long as 25 years. With that, it’s safe to say that long-term loans are best for established and mature companies. In other words, if you’re in the early stages of your business venture, have bad credit, or your cash flow is unstable, there’s a high chance you won’t be able to qualify.
One advantage of long-term loans is its affordability. As mentioned before, loans with longer durations are more likely to have lower interest rates.
Furthermore, if you can pledge an asset as collateral for the loan, it will afford you better loan terms. Some of the most common assets you can use to secure the loan include real estate, equipment, or any high-value asset. With long-term loans, approval could also be longer (usually around a few weeks to months).
Where to Apply for a Business Term Loan
When it comes to the best place to apply for term loans, traditional lenders would be the best way to go. However, you would have to submit a plethora of paperwork to verify your eligibility for the loan. On the upside, you’d be able to get the best loan terms like lower interest rates and a more extended repayment period.
On the other hand, alternative lenders could be a good option if you can’t qualify for a loan from traditional lenders. In fact, according to smbcompass.com, they can hook you up with up to $5 million in funding with their business term loans.
Alternative lenders are usually more flexible with the requirements. The disadvantage is, you may have to pay higher fees and a high interest rate, especially if your credit score is quite low.
Business term loans can be a viable solution for businesses that need an affordable option for an additional boost in the capital. They offer low interest rates, and the repayment period can be flexible, depending on your credentials and the type of term loans.
Regardless of where you apply, term loans are a helpful financial resource for your growing business. Before applying, be sure to assess the needs of your business first. Once you’re sure, obtain quotes from different lenders and compare the rates. Ultimately, the best business loan type will depend on your business needs and what you can afford. As much as possible, choose the option that would let you address your needs without putting additional strain on your finances.