One of the most difficult steps in opening or maintaining a small business is acquiring enough funding, especially in the early days of a business. Too often, entrepreneurs, small business owners, or other members of company leadership find themselves planning for an expansion or solving a major issue they have before realizing there’s not enough funding to execute the plan.
However, there are several solutions for companies that need more capital to expand, although many of these have drawbacks. For example, finding an additional investor to put money into your company means lower profits for you and can endanger the company if it chooses to pull out. That’s why many companies opt for a less risky option: a business loan.
What Is a Business Loan?
A business loan is a sum of money loaned from a bank, a credit union, or another financial institution (called a “lender”) that is intended to be used in any way that helps a business either get off the ground or expand its existing operations. In 2019, approximately 43% of small businesses applied for some type of loan.
There are generally no restrictions on how the money is spent as long as it is used in some capacity that helps the business grow. This can range from buying equipment like computers for employees to use at work to much larger purchases like real estate for the company’s headquarters.
Generally, once the loan is issued, the receiving business doesn’t have to start repaying the lender immediately. This gives companies the ability to spend the money they receive to increase sales or revenues, which they can then use to repay the loan once those gains have materialized.
The length of a standard business loan will depend on the type of loan being issued. Here are a few of the major types of business loans available and the usual amount of time it takes to repay them.
SBA Loans
An SBA loan is offered by an arm of the US government called the Small Business Administration and has a variable term that depends on the exact needs of your business. It has a standard minimum length of 10 years and a maximum length of 25 years.
These loans can range from $50,000 on the lower end to a maximum of $5,000,000. However, they have more restrictions than other loan types, such as requiring that loan recipients be considered a small business with under 50 employees, have an owner who has actively put equity into the company, and fully explain how the money will be used during the application process.
Term Loans
A term loan is one that is issued for a specific amount of time (or “term”) and has a fixed rate of interest associated with it. They are usually issued for a 10-year period, although this rate is negotiable with the lender, and it could be more or less. When most people think of a business loan, it’s usually a term loan that comes to mind.
Short-Term Loans
A short-term loan generally has a repayment period of one to two years, although they can also go up to about five years. They’re best for companies that have a solid plan to become financially sustainable within a few years but need an influx of cash to achieve that growth.
Long-Term Loans
Long-term loans, as the name suggests, allow for the longest repayment period, which is usually between three and ten years, but have been known to go up to 25 years. These are best for established businesses looking to expand operations like building new factories or opening a satellite office in another place.
These are the most difficult for small businesses to receive as they often require some form of collateral. They will also have to explain their overall growth strategy and long-term plans as many lenders will balk at the idea of issuing a 25-year loan to a company that could be forced into filing for bankruptcy within five years.
Microloan
Microloans are often for smaller amounts of money than the others on this list, generally between $50,000 and $100,000. According to the Small Business Administration, the average business microloan is $13,000. These are generally issued to startups to help begin their operations and have lower interest rates than standard loans.
They generally have a term of about six months to three years, but they can also be difficult to obtain as they have a longer list of requirements. Some lenders may want the principal owner to be from another typically underrepresented group. They also generally require a business plan and potentially having an assigned advisor from the lender to ensure the money is used effectively and correctly.
What Term Loan Is Right for My Business?
There are many factors to consider when determining the best length of a loan for your business. First, how much money do you need to achieve your immediate goals and increase revenue or profits to the point of the business reaching financial sustainability? Smaller loans tend to have shorter repayment periods. If a quick infusion of cash can help you reach the point where the business is self-funding, you can be out of debt much more quickly than you would be with a long-term loan.
Second, how long has your business been operating, and how high is your annual revenue? The longer your business has been operating, the easier it will be to get a long-term loan. If your annual revenue is low or if your business has only opened recently, you’ll probably have an easier time getting a short-term loan.
Finally, how much can you afford to pay back every month? Let’s assume a hypothetical loan of $12,000 is issued to your company. Under a one-year plan, you would pay $1,000 a month on the principal plus the interest rate the lender quoted you. Under a two-year plan, you would only have to pay back $500 every month plus interest. The one-year plan would probably be better if the loan increases revenue by $3,000 every month. If the loan only increases revenue by $900, repaying the loan at that rate would cut into profits and make the two-year option the better choice.
Steps to Getting a Business Loan
Let’s say you have a computer repair business located in the suburb of a major city. You have been in business for five years and have achieved a moderate level of profitability. However, you are considering a business loan to expand your operations and thereby increase revenue and profitability.
Write a Business Plan
The first step that you should take is to write a business plan that explains your growth outlook for the next five years and, most importantly, how a business loan will help you achieve your goals. You may decide that an influx of cash would allow you to move out of the small location you have been working in and lease a space in a popular shopping center in the middle of town.
Additionally, the loan would allow you to hire new employees to handle the increased workload brought on by potential new customers after the move. This will also allow you to extend your business hours and close at 9:00 p.m. instead of 5:00 p.m., making it more convenient for potential customers who leave work at 5:00 p.m.
Determine If You’re Eligible
The second step is to look over the list of requirements for various lenders and determine whether or not you will be eligible. Reputable online lenders have a similar list of eligibility requirements: The business must have been open for two years, they must have a plan for how to spend the money, the owner must submit themselves to a credit check, and they must have an annual revenue of at least $25,000.
If you meet all of these requirements, you are ready to move on to the next step.
Choose the Right Type of Lender
Step three is to choose the right type of lender. You can go through a local bank that offers business loans or access to online lenders.
You can also consider a microlender. This is a type of loan issued to borrowers who don’t have access to traditional financing. However, these organizations tend to have strict requirements as to how the money can be used and are typically reserved for small businesses. For example, paying employee salaries may not be covered under the terms of the microlender’s loan. Microlenders may also have more limited-term loans, too.
Get All the Required Documents
Step four is to get all of the required documents ready before applying. Depending on the lender, these can include articles of incorporation, tax returns for both the owner and the business itself, financial statements like Profit and Loss, the business license issued by the state, and the business plan from step one.
Submit Your Application
The final step is to submit the application and the documents from step four to the lender. Once approved, the money could reach your business account anywhere from the same day to up to three months later, depending on the provider’s timeline.
Final Thoughts
The length of a typical business loan depends greatly on the type of loan being issued and the terms that you and your business can negotiate with your lender. Loans can have repayment terms from about six months to 25 years, so you’ll want to carefully evaluate things like profitability, expected growth, and how a loan can help you achieve these goals.
If you have a brilliant idea for a business but need a loan to get some startup capital to make your dream come true, American Business Credit is the perfect place to get an unsecured loan to get your business off the ground! We offer a variety of loans, such as franchise financing, unsecured business loans, working capital loans, and more. Apply Now!
