Definition: Money borrowed that is usually repaid with interest
The most common type of loans come from banks, which exist to
lend money, so it's no surprise that banks offer a wide variety of
ways to fund a business's growth. Here's a look at how lenders
generally structure loans, with some common variations:
Line-of-credit loans. The most useful type of loan for a
small business is the line-of-credit loan. This is a short-term
loan that extends the cash available in your business's checking
account to the upper limit of the loan contract. You pay interest
on the actual amount advanced from the time it is advanced until it
is paid back. Line-of-credit loans are intended for purchases of
inventory and payment of operating costs for working capital and
business cycle needs. They are not intended for purchases of
equipment or real estate.
Installment loans. These bank loans are paid back with
equal monthly payments covering both principal and interest.
Installment loans may be written to meet all types of business
needs. You receive the full amount when the contract is signed, and
interest is calculated from that date to the final day of the loan.
If you repay an installment loan before its final date, there will
be no penalty and an appropriate adjustment of interest.
Balloon loans. These loans require only the interest to
be paid off during the life of the loan, with a final "balloon"
payment of the principal due on the last day. Balloon loans are
often used in situations when a business has to wait until a
specific date before receiving payment from a client for its
product or services.
Interim loans. Interim financing is often used by
contractors building new facilities. When the building is finished,
a mortgage on the property will be used to pay off the interim
loan.
Secured and unsecured loans. Loans can be secured or
unsecured. An unsecured loan has no collateral pledged as a
secondary payment source should you default on the loan. The lender
provides you with an unsecured loan because it considers you a low
risk. A secured loan requires some kind of collateral but generally
has a lower interest rate than an unsecured loan. The collateral is
usually related to the purpose of the loan; for instance, if you
are borrowing to buy a printing press, the press itself will likely
serve as collateral. Loans secured with receivables are often used
to finance growth, with the banker lending up to 75 percent of the
amount due. Inventory used to secure a loan is usually valued at up
to 50 percent of its sale price.
Although the SBA doesn't actually loan money itself, it does
provide loan guarantees to entrepreneurs, promising the bank to pay
back a certain percentage of your loan if you're unable to. Banks
participate in the SBA program as regular, certified or preferred
lenders. The most basic eligibility requirement for SBA loans is
the ability to repay the loan from cash flow, but the SBA also
looks at personal credit history, industry experience or other
evidence of management ability, collateral and owner's equity
contributions. If you own 20 percent or more equity in the
business, the SBA asks that you personally guarantee the loan.
After all, you can't ask the government to back you if you're not
willing to back yourself. Here's a quick look at the numerous loan
programs offered by the SBA for growing businesses:
The 7(a) Loan Guaranty Program. This is the primary SBA
loan program. The SBA guarantees up to $750,000 or 75 percent of
the total loan amount, whichever is less. For loans of less than
$100,000, the guarantee usually tops out at 80 percent of the total
loan. A 7(a) loan can be used for many business purposes, including
real estate, expansion, equipment, working capital or inventory.
The money can be paid back over as many as 25 years for real estate
and 10 years for working capital. Interest rates are a maximum of
2.75 percent if over seven years.
The SBA LowDoc Program. This is a special 7(a) loan
promising quick processing for amounts less than $150,000. "LowDoc"
stands for "low documentation," and approval relies heavily on your
personal credit rating and your business's cash flow. LowDoc loan
proceeds can be used for many purposes. Applicants seeking less
than $50,000 are required to complete only a one-page SBA form.
Those seeking $50,001 to $150,000 submit the same short form, plus
supply copies of individual income tax returns for the previous
three years and financial statements from all guarantors and
co-owners. The SBA guarantees a 36-hour turnaround on these loan
requests.
The SBA Express Program. This is a close cousin of the
LowDoc, also offering loans of up to $150,000. However, SBA Express
gets you an answer more quickly because approved SBA Express
lenders can use their own documentation and procedures to attach an
SBA guarantee to an approved loan without having to wait for SBA
approval. The SBA guarantees up to 50 percent of SBA Express
loans.
CAPLine loans. These provide working capital through a
selection of revolving and nonrevolving lines of credit. CAPLine
loans are guaranteed by the SBA up to $750,000 or 75 percent of the
total loan amount, whichever is less. The CAPLine program includes
variations for seasonal businesses, companies that need credit to
complete a large contract, and builders and small companies that
can't meet requirements for other financing.
The SBA's Minority and Women's Pre-Qualification Loan
programs. These help women and minority entrepreneurs
pre-qualify for loans of up to $250,000. Private intermediary
organizations chosen by the SBA help eligible entrepreneurs
complete a loan application. With the SBA's guarantee attached, the
bank is more likely to approve the loan.
The Microloan program. This program helps entrepreneurs
get very small loans, from less than $100 to as much as $25,000.
The loans can be used for machinery and equipment, furniture and
fixtures, inventory, supplies and working capital, but not to pay
existing debts. Microloans are administered through nonprofit
intermediaries using SBA funds. Terms are usually short, and
application turnaround time is less than a week.
The CDC-504 Loan program. This program provides
long-term, fixed-rate loans of up to $1 million for financing fixed
assets, such as land and buildings. CDC-504 Loans are made through
nonprofit Certified Development Companies. The program is designed
to enable small businesses to create and retain jobs.