Business Loan Terms You Should Know

When taking out a business loan, you borrow money for your company that you must pay back to the bank or investor. You are responsible for paying interest and other fees in addition to the loan.

When applying for a business loan, lenders have qualification requirements. Here are a few terms you should know beforehand:

• Credit score: Lenders use your business credit score to measure your creditworthiness and reliability and determine if you’re financially trustworthy to borrow money. If you have bad credit or a troubled financial history — or no history at all — this doesn’t mean finding funding is impossible. However, you may have to provide more documentation and you will likely be charged higher interest rates. For example, you may be asked about your experience running your company or told to outline a financial plan for the money you intend to borrow. This helps lenders understand your plan for your company and assures them that you understand what is needed for your business to succeed. It also shows that you’ve researched your financial projections.
• Cash flow and income: Cash flow is the amount of money that goes in and out of your business over a certain period. Income is your company’s total revenue, minus expenses. Lenders analyze cash flow statements and income statements to assess the risk they’re taking by lending you money. The higher these figures, the more likely you can get approved for a loan.
• Age of business: This is how long your company has been in business. It’s another factor lenders consider before deciding whether or not to approve your loan request. Many lenders require you to be in business for at least two years before they will lend you money.
• Collateral: This is an asset — like property or something else of value — used to secure a loan. The lender will seize the assets you put up for collateral and keep them if you fail to pay back the loan.

No two funding opportunities have the same loan terms and qualifications. That said, your chances of approval are highest if your business credit score is above 650. A high personal credit score can help too as can seeking funding for a business that’s more than a year old and showing financial statements that indicate steady income streams. If all else fails, putting up collateral can be helpful and it’s required in some cases.

The best business loan and financing options for your business depend on your organization’s unique needs. Each loan is different and the term depends on the type of business loan you’re seeking. Below are some examples.

Bank term loan (3-10 years)

Also known as commercial loans, bank loans typically have longer loan terms ranging from three to 10 years. If you use collateral to secure the loan, the terms could be as long as 20 years with fixed payments.

Term loans are usually a cheaper option because of the lower interest rates, but you must have good credit. Other options — such as credit cards — have average interest rates of about 16 percent, according to Bankrate. However, according to the Small Business Administration, if you qualify for an SBA-backed loan, interest rates are prime plus 3 percent to 6.5 percent.

Tip: When using business credit cards, find cards that offer relevant benefits for your business, such as discounts on travel and lodging.

SBA loan (5-25 years)

The SBA works with banks, community development organizations and microlenders to provide entrepreneurs with the financing they need to start and grow their business. Several types of SBA loans are available, with SBA 7(a) loans, 504 loans and SBA Express loans being the most common.

SBA loan repayment terms are up to 25 years and it typically takes 30 to 90 days for applicants to receive funding. Specialized programs may have different loan terms — like microloans. Since microloans are lower amounts, repayment is required in less than six years.

“Because each type of SBA loan is government-backed, many people erroneously assume the government is funding [the] small business loan,” said Brock Blake, CEO and founder of Lendio. “Instead, the SBA guarantees the loans. This limits the risk for the lender and makes SBA loans more appealing to lenders.”

SBA loans offer some of the lowest interest rates. These rates are influenced by the daily prime rate and a lender spread. The SBA caps the spread that a bank can charge borrowers based on the size and maturity of the loan. Although it’s easier to qualify for an SBA loan than a traditional bank loan, SBA loans are more difficult to acquire than loans from noninstitutional lenders.

“They’re known for being more paperwork-intensive, with a much longer time to fund and a higher percentage of rejection than direct online lenders,” Blake told business.com.

Did You Know?: If you were turned down for an SBA loan, you can take other measures, such as securing business credit cards, finding an alternative lender and using personal funds.

Short-term online loan (3-24 months)

A short-term online loan has terms ranging from three to 24 months. The turnaround time to receive the funds from a short-term online loan typically is one or two days. Loan amounts range from $5,000 to $250,000.

Online loans are considered an alternative form of lending because the money is from nonbank lenders. Alternative lenders generally charge higher interest rates than traditional banks charge.

If your business doesn’t qualify for a loan from a traditional bank, a short-term online loan may be a good option for you. You can get instant quotes and prequalification criteria without a hard credit inquiry. This helps you understand what kind of loan you qualify for without having to commit to one.

A short-term online loan is a lot like a Swiss Army knife, Blake said. “It’s handy, flexible and able to get you out of a bind. You can use it to cover unexpected costs, survive a slump, finance a short-term project or even capitalize on a new business opportunity. It’s definitely the loan you want in your back pocket.”

Long-term online loan (1-5 years)

Online lenders also offer long-term loans, with terms ranging from one to five years. It takes about two days to get approved and loan amounts range from $5,000 to $500,000. You can use this loan for almost anything and you aren’t required to put up any collateral. Long-term online loans can help you build credit, which you can use for future financing.

Long-term online loans may have higher interest rates because they are considered higher risks for the lender. However, eligibility may not be as restrictive when it comes to lower credit scores.

MCA (3-18 months)

An MCA has terms ranging from three to 18 months. Loan amounts are $5,000 to $500,000 and funds can be deposited in your account within two days.

With an MCA, you’re borrowing against your business’s future earnings: The loan is repaid through a percentage of your credit card sales. These loans don’t require collateral, so their turnaround time is faster than for other loan types. MCAs are used by retail stores, restaurants and other establishments with consistent credit card sales.

“A merchant cash advance is an option for startup businesses that may not yet qualify for other types of business financing,” Blake said. “Because a merchant cash advance is repaid based on your business’s daily sales, time in business and other factors, things that usually make financing difficult for startups don’t apply. If your startup has strong daily sales, a merchant cash advance could be an excellent solution for your fast capital needs.”

Bottom Line: Since you don’t need to put up collateral to obtain an MCA, your funds’ turnaround will often be faster.

Online invoice financing (30-90 days)

Another financing option for business owners is online invoice financing — or termed accounts receivable financing. These loans typically are funded in about five days, but interest rates are usually higher than for traditional loans and the amounts vary.

This type of financing is different from other loan types as you “sell” your unpaid invoices to a factoring company at a discount. It then collects the payment from your clients, which can take 30 to 90 days.

FYI: The best factoring companies help small business owners close funding gaps when customers are late with payments.

Equipment financing (2-10 years)

Equipment financing allows you to buy or borrow physical tools or equipment for your company. For example, if you’re a restaurant owner in need of an oven, equipment financing might be a good option for you. The finance program may also be offered under a rent-to-own type of lending arrangement.

Equipment financing loans can range from $100,000 to $2 million, and loans can be funded in about five days. Repayment terms are two to 10 years and no collateral is needed because the new equipment is the collateral.

Equipment financing interest rates may be higher than for traditional loans. This is the reason some companies use business loans to pay for new equipment.

Line of credit (3-36 months)

With a line of credit, the lender sets a credit limit and you can withdraw the funds as needed up to that limit. You pay interest on the funds you use, not the full amount of your credit line.

The lender determines the repayment period and the terms vary. Some lenders require you to make payments weekly over a three- to 36-month period while others require monthly payments over a six- to 12-month period. You may not have a set payment period if you are granted a revolving line of credit.

Business loan terms have a sizable influence on the amount of interest you’ll pay on your loan. Theoretically, the longer your repayment period, the more interest you’ll pay. That’s because interest compounds with time, meaning it increases in value with every passing second.

To minimize the impact of business loan terms on your repayments, read the fine print closely. Then, plug the numbers into a business loan calculator. You’ll see your results in moments. Compare the results from several loans to find the best option for your company.

Business loan rates vary widely depending on the lender and the business’s creditworthiness, among other factors. These rates, which range from 6 percent to 40 percent, typically start at 7 percent for fixed-rate small business loans and 7.9 percent for variable-rate loans, according to data from the Federal Reserve Bank of Kansas City’s Small Business Lending Survey.

Small business loan interest rates also depend on the loan type and its terms. For instance, alternative loan options, such as MCAs or invoice factoring, have higher APRs than traditional loans from banks or SBA loans.