If you have a small business and need funding to grow into a new space, purchase a new piece of equipment, take advantage of an exciting new revenue opportunity, or simply maintain cash flow for everyday expenses as you prepare for a busy season, a commercial loan can be a great way to quickly get the cash you need.
Fortunately for entrepreneurs, a growing number of online and commercial lenders are making funds available to help small businesses achieve their goals. Best of all? These lenders offer a wide variety of loan products designed to meet any number of specific funding needs that a business owner might have.
This level of customization is great news for borrowers, because it means that you can find the perfectly tailored business loan product for your needs based on how you plan to use the funds, when you can repay the loan, your personal and business credit history, and many other factors that might influence your borrowing decisions.
Let’s take a deep dive into exactly what a commercial loan is, the five types of commercial loans that are most often found to be a great fit for small business borrowers, and the questions that you should ask to find the right commercial loan for your business.
Though it may sound more complicated, a commercial loan is, simply put, a loan designed to be used for commercial purposes—i.e. a small business loan.
Commercial loans are available from both banks and from non-bank online lenders, and there are different types of commercial loans designed to fit the needs of every stage and type of business, as well as almost every conceivable expense for which a business might need to borrow funds.
The types of commercial loans best suited to your business depend on the stage of business you’re in, how much revenue you have, what your financial history looks like, how you plan to use the funds, and a number of other factors.
To find the right fit for your business, take a quick look at the five most common types of commercial loans—then factor in things like price, what you may qualify for, and what your business needs.
When most people think of taking out a loan for any purpose, a traditional term loan most often comes to mind. In a business setting, this is the type of commercial loan in which you borrow a lump sum of money at a time and then repay that loan in fixed monthly installments. Term loans can be carried over a number of years to cover one or a variety of business expenses, and borrowers are charged at an annualized interest rate for the life of the loan.
With interest rates ranging from 7% to 30%, term loans are available from both bank and non-bank lenders at amounts ranging from $25,000 to $500,000. Although term loans from traditional banks tend to be limited to borrowers with a strong personal and business financial history, non-bank lenders offering term loans often maintain a wider range of borrower qualification standards.
Following much the same format and standards as a traditional term loan, SBA loans make long-term borrowing at low interest rates accessible to a wider range of business borrowers through the U.S. Small Business Administration’s loan guaranteeing program.
Although in most cases the Small Business Administration doesn’t directly loan money to businesses, they act effectively as a co-signer for small business borrowers, promising to repay a portion of the debt in the event that that the small business fails—this makes more lenders willing to take on the risk of working with small business borrowers at an affordable rate.
Keep in mind that because the SBA loan application process involves approval requirements from both the Small Business Administration and the intermediary lender, it can take significant time to complete all aspects of the application, receive word of approval, and get loan funds in hand. So, you need to weigh the benefits of obtaining a term loan at a lower cost against the potential downsides of having to wait before you can move forward with your business’s growth plans.
As the name suggests, a short-term loan contract carries many of the same qualities as the traditional term loan model but operates over a shorter time period. Short-term loans are typically taken out for a matter of months, not years, and repayments on the loan can be due weekly or even daily as opposed to the standard monthly payment model.
Borrowers who need cash quickly in order to take advantage of a business opportunity or cover gaps in cash flow often opt for short-term loans because they have relatively quick approval timelines and flexible qualification standards. That said, the fast-moving repayment timeline of a short-term loan can become burdensome for some businesses—so consider how quickly you can recuperate the investment made with your loan funds.
Are you investigating various types of commercial loans for funding a major purchase of machinery or equipment for your business? When purchasing a vehicle, manufacturing equipment, computers, or almost any other fixed high-cost asset for your organization, choosing an equipment loan can be a great way to match up the terms of your funding with your purchase.
Equipment loans are made in amounts relative to the purchase price of the equipment, and repayment timelines are based upon approximated useful life of the equipment.
Another benefit for borrowers: Because the terms of equipment financing let the lender seize the piece of equipment as repayment in the event that your business fails, the personal collateral requirements (and therefore the personal risk) of equipment loans tend to be much lower than with other types of commercial loans.
Often seen as the most flexible variety of commercial loans available, business lines of credit let borrowers obtain approval for funding up to their maximum needed amount—typically between $5,000 and $1 million—while only accruing interest on those funds when the capital from the loan is actually being used.
Effectively, a business line of credit works similarly to a credit card: You have a set of credit limit against which you can withdraw funds, but interest is charged on only the portion of that limit that is actually withdrawn at any given time.
For this reason, a business line of credit is seen as a great commercial loan option for borrowers who have uncertain capital requirements, since it allows for access to financing without the prospect of paying interest on borrowed funds that aren’t actually in use.
As you begin the process of shopping for a commercial loan, know this: It’s common for small business borrowers to assume that the lowest-cost loan product is automatically the best choice for their business.
But choosing between the various types of commercial loans available to your business isn’t actually that simple. The lowest cost loans—such as SBA loans and term loans—can often be very difficult for new small business owners to qualify for, and the application and approval process for these loans can take a long time.
Before jumping to conclusions about which type of commercial loan you should apply for, ask yourself these questions to make sure you’re choosing the best fit.
Have you crunched the numbers and created a detailed business plan to determine exactly how much capital you need for the next stage of your business? Along with your personal credit history, the amount of capital you need to borrow can be one of the strongest factors dictating what type of business loan makes most sense for you.
If you need to borrow a large amount of capital—let’s say more than a $100,000—that would probably indicate that a term loan or SBA loan—something with a longer repayment period—is likely to be the best fit for your business. In some cases, a business line of credit can also fit well for businesses that need to borrow a large amount of capital.
On the other hand, if you need to borrow a smaller amount of funds, that same term loan with a long repayment timeline could keep you tied up with business debt for longer than makes sense for the trajectory of your business journey.
Not all types of commercial loans are created equal when it comes to how you’re allowed to use the borrowed funds—so your planned use of funds should weigh heavily into which loan you should apply for. This is particularly true if you’re seeking funding for a specific business purchase, such as to purchase a piece of equipment or to open a new property or lease a retail space.
If you’re seeking a commercial loan for a single specific business purchase, talk to a loan broker about whether a specific type of commercial loan—such as an equipment loan—might give you access to more affordable funding at lower personal risk than a more general-purpose commercial loan.
Every business is on its own financial trajectory, and your revenue forecast can dramatically impact how quickly you can pay your commercial business loan.
Let’s say that you’re seeking a commercial loan to cover the costs of a large upcoming order. You’ll recover the money that you borrowed quite quickly—as soon as the you can deliver the customer’s order and collect payment. In this scenario, it makes sense to pursue a loan with a shorter term. Even if that short-term loan seems to have a higher interest rate on paper, you’ll likely spend a lower total amount on the borrowed funds as the interest has less time to accrue.
That said, the reverse is true as well. If you take out a loan with a shorter term without being sure that you can recover the funds in time, this can create a cash flow crisis. And you could fall behind on payments and jeopardize your business.
Think carefully about how quickly you anticipate recovering the funds from your loan within your business as you choose the right type of commercial loan for you.
Do you have the time available to carefully walk through the long application process and await the often slow approval timelines that can come with a low-interest bank or SBA loan? If so, the significant savings on interest could be worth the wait.
But what if you’re facing an immediate cash flow crisis or need to take advantage of a business opportunity that has a hard deadline? In these cases, you may need to pursue a commercial loan from an online lender with a fast approval timeline.
While we would all prefer to base our borrowing decisions solely on our own needs and preferences, the truth is that you as the borrower are only one part of your small business loan relationship. The qualification standards of the lender you’re working with will ultimately have a major impact on the types of commercial loans you can apply for and where you’re likely to receive funding.
As the business owner, your personal credit score will weigh heavily into a lender’s qualification standards—so if you’ve mismanaged your personal finances or have a bankruptcy in your history, that can severely limit your loan prospects.
Similarly, brand-new businesses or those with a low annual revenue can also struggle to meet the qualification standards for certain types of commercial loans.
Instead of putting your hopes on a single type of commercial loan and lender to work with, it’s best to narrow down your choices to a few types of commercial loans that would be a good fit. This lets you enter the application process with awareness that you might not qualify for your first preference.
No matter how low the interest rate or how enticing the offer, applying for a commercial loan that you can’t qualify for or that doesn’t ultimately fit the needs of your business won’t be very useful for you in the long run.
By factoring for the multifaceted needs of your business and the available options, you’re giving yourself the best possible chance of choosing the type of commercial loan that will most likely lead your business to success.