Understanding Unsecured Business Loans
Starting a business is one of the toughest tasks an entrepreneur can undertake. Getting enough capital is usually very difficult and even after the business is operational, more money is still needed to maintain a steady cash flow until the business starts making enough profit to sustain itself.
During this period, credit cards get maxed out and if that is not enough, it is almost impossible for small businesses and start-ups to secure traditional small business loans. Unsecured business loans then become a necessary source of financial help for an entrepreneur.
What then is an unsecured business loan?
In simple terms, an unsecured business loan or unsecured loan, is provided by non-bank capital providers and is not backed by collateral like and asset or property. These lenders are comfortable with the higher risk involved with unsecured loans and only rely on ongoing cash flow and creditworthiness of a company.
An unsecured business loan gives the borrower increased flexibility, but has the drawback of having higher interest rates compared to normal or traditional loans. The higher interest rate is because of the higher risk level the lender has to endure when giving out an unsecured loan. However, despite the high interest rates, unsecured business loans usually provide a higher value for money to a business and can have a greater impact on a company that needs to grow.
Another factor that makes unsecured business loans beneficial for a company is that they allow the company to tap more funds that can be acquired through a secured business loan product.
To secure a loan with a bank, a business requires hard collateral. Unsecured loan lenders take advantage of this by giving loans without the need of any form of collateral. In addition, they do not take into account the borrower’s level of balance sheet assets, meaning a company can qualify for more from an unsecured loan lender than from a bank.
For example, let us assume that Company Z has assets worth $500,000 and an EBITA of $500,000. As a rule of thumb, the lender can lend 3 times this amount to the borrower, which is $1.5 million. If the same borrower had gone to a bank, the bank would most probably have lent them 80% of the value of their assets.
When compared to secured loans, unsecure business loans have longer repayment terms. This means that the company can have better cash flow for longer and can comfortably fund long terms improvements which would result in a better exit value.
There are therefore, several advantages of bringing in an unsecured business loan: you qualify for more, have more time to repay the loan, and they perfectly complement secured loans.
Best way to qualify
The best way of getting an unsecured business loan is to maintain a good credit score including a history of payments of mortgage, car payments, and more. Additionally, owning a credit card for long usually gets you a better credit score and can go a long way in helping you get better rates on your loan.
Pros of unsecured business loans
- No security is required and is therefore much easier to qualify for compared to secured business loans.
- Builds trust between the lender and borrower
Cons of unsecured business loans
- Lenders charge higher interest rates because of the higher risk involved with giving our unsecured loans.
- Because they are more expensive that secured loans, they take much longer to pay making them less affordable.
- It is difficult, even impossible, for a business with poor or no credit history to get a loan.
While unsecured business loans have a number of cons, they definitely have pros that far outweigh the cons. They help a business operate smoothly and are therefore a necessity for businesses that are having challenges with cash flow.
There are however, several types of unsecured business loans, and we will be discussing these in later posts.
Do you need an unsecured business loan to save your business? Click here to apply. It takes less than a day to get a response