Business Loans – Types & Pros & Cons

Business Loans – Types & Pros & Cons

Business Loans – Types & Pros & Cons

A business is always in need of funds. Be it for production, marketing, payroll or expansion, varying amounts of money are necessary at different stages. Owners may not want to dip into their bag of profits. Banks and other private lenders offer business loans for a business’ unique requirements. They are similar to personal loans but are taken in the name of your business. The reason is that a business is a separate entity in the eyes of law. Directors can carry out transactions in the name of their business.

Meaning of Business Loans

Business loans are a form of immediate finance that businesses can get from banks or building societies. Many times, obtaining a loan is more practical than using up your profits. With external financing, you can borrow and repay them as and when you like. The interest you pay is often only on the amount of loan you actually use. You can borrow as little as £1,000 or as much as £3 million. You can also choose your own loan term- from 1 month to 15 years. These unsecured or secured loans can help to fund fixed as well as working capital needs. Loans that are not secured are given only on your business’ credibility and creditworthiness. Secured loans, on the other hand, are easier to get as the lender takes less risk. Individuals can’t borrow long term business loans.

 

Types of Business Loans

Various funding options are available to a business at the stages of start-up, expansion and diversification. You can read more about them further.

  • Startup Loans:
    Nowadays, it’s more profitable to start your own business in the UK. Shifting from employment to business translates to more freedom. You can chart your own growth. Unlike in employment, the more efforts you take, the more profits you’re likely to earn. The government has always been in support of new businesses and young entrepreneurs. Any first-time entrepreneur(s) can obtain startup business loans at a low interest rate from the UK government. You can borrow upto £25,000 or less, as per your business needs. You also get five years’ time to pay it back with profits.
  • Working Capital Finance:
    If you’re looking for funds to buy land or an office space, working capital loans will provide little help. Because they’ve been designed to match the day-to-day cash needs of the business like wages, stationery, power and water bills, etc. You can’t buy assets with such form of business finance. Some lenders may also ask for a Personal Guarantee from the Company Directors or Owner. If the business is unable to pay back the loan, lenders have the authority to seize and auction the Directors’ personal assets.
  • Bank Loans:
    Your business can also get funds from banks or building societies in the UK. Banks and building societies lend out a lump sum in the form of business loans. You repay it over an agreed period of time along with interest. Like for working capital loans, banks ask a Directors’ guarantee for their loans.
  • Revolving Credit Facility:
    As the name suggests, a revolving credit facility means that credit is always revolving. You can borrow and return as and when you want. With such facility, you aren’t taking on a long-term debt.
  • Peer-to-Peer:
    Peer-to-peer loans are not given by any financial institutions. High-profile individuals with lots of money give out such loans. They usually look for earning returns on the money lying in their bank accounts. They may also ask a business for a personal guarantee.
  • Short Term Loans:
    Short term loans are taken for a short span of time, typically from a few days to a few months. They are mostly taken for fulfilling short term funds requirement. Accordingly, monthly interest and not annual interest applies to such business loans. This may prove costlier in the long run. So it’s best not to make it a permanent solution.
  • Asset Backed Loans:
    When a business has some assets like land, building, machinery or stock, it can use these assets to get a higher principal amount. Usually, lenders are willing to give more amount of such loans as they are secured with assets. There is a low risk of the lender losing their money even if the business defaults on its payments.
  • Invoice Finance:
    Invoice finance is a form of business loan that works with the invoices you’ve issued. An invoice is a receipt which is given to customers who buy from you on credit. Lenders give you a loan in exchange for invoices equal to the sum of the loan. When the customers make their payments, it goes directly to your lender. They’re of two main types- factoring and invoice discounting.

business loans

Pros of Business Loans

  • Conveniently Accessible:
    Most businesses maintain their profits accounts with a bank. As they become familiar with you, you’re likely to get more preference when applying for a loan with them.
  • Multiple Options:
    As we saw above, an entrepreneur can choose from various types of business loans. It doesn’t matter whether you’re a startup or an established company, there’s a loan for you.
  • No Profit Sharing:
    If you go for angel funding or venture capital, those investors and capitalists almost always ask for a share in your profits. This may leave you feeling you’re working for them rather than for yourself. With banks and private lenders, you can avoid all this fuss. They only interest themselves in interest and partial loan payment instalments.
  • Lower Rate of Interest:
    Banks and building societies charge a lower rate of interest on business loans than instruments like credit cards.
  • Tax Relief:
    When you use a part of your profits to make business loans repayments, you usually get an exemption from tax.

 

Cons of Business Loans

  • Lengthy Process:
    It may take a long time for a bank to verify details and sanction your loan. There are lots of forms to fill. You can avoid this by approaching a private lender.
  • Preference to Running Businesses:
    If you’re a startup that is still young, it’s unlikely you’ll have records to show of your worthy credit behaviour. This may make it very difficult to acquire unsecured loans.
  • A Lot of Prerequisites:
    There are a lot many prerequisites that a business should fulfil before they clear the loan approval process.
  • Risk Of Losing Assets:
    It’s not easy to search for the right assets at the right price. If you attach these assets to your loans and fail to make repayments, you stand the risk of losing it all to others.
  • Lesser Loan Amount:
    An entrepreneur may find that banks are willing to give only 70% or 80% of the money he actually needs. Thus, he or she will have to scout around to fill this gap.
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