Banks are the largest small business lenders and probably the first place you think about when getting a loan. They offer some of the lowest cost loans, but qualifying can be difficult; about 72% of small business owners who apply get rejected. Banks usually require strong personal and/or business credit scores, a personal guarantee, collateral, and healthy financials. Applying also takes significant effort and time — completing the process can take from one to three months.

Traditional Bank Loans: Covenants
Before taking a traditional bank loan, it is important to clearly understand any covenants associated with the loan and the collateral required to secure it. Covenants are clauses in lending contracts that may restrict or limit you as the borrower from using the money for certain things, or require you to adhere to particular business performance requirements. The level of constraint or number of requirements is primarily based on the risk of the borrower, as determined by personal or business credit score, payment histories, and overall business financials.

Covenants protect a lender by ensuring that a loan will be paid back, no matter the circumstances of the business. A thorough understanding of any covenants attached to a loan can help you avoid violating a covenant and facing the severe consequences that can result. For instance, using your loan for anything outside of the agreed-upon terms, even in emergency business situations, can constitute breach of your loan agreement, as can taking on new loans or accepting funding without the bank’s permission.

The consequences of violating bank covenants, can include the bank calling back the note, pulling your credit line, and/or forcing you to pay the entire amount back within a shorter time period (sometimes within as little as 30 days). A bank may go after your business and even your personal assets to repay a loan (since personal guarantees are often included in loan terms).

Before signing your agreement:

• Carefully read your loan agreement
• Ask for clarification on anything you do not understand
• Consult a trusted advisor such as your CPA or attorney
• Confirm whether adhering to any covenants is realistic
• Make sure you know if you are signing a personal guarantee
• Ask the right questions about your loan agreement

The U.S. Small Business Administration (SBA) is a federal agency that helps entrepreneurs manage their businesses and gain access to capital. SBA loans have some of the lowest interest rates available, but usually require strong personal and/or business credit. The SBA pre-screens loan applicants with FICO’s SBSS score, a small business credit score. While most businesses, even younger ones, can qualify for an SBA loan, having a limited business history makes it more difficult.

7(a) loans, the most popular loan provided by the SBA, are available to new and established businesses with a FICO SBSS Score of 140 or above.

SBA Community Advantage Loans are a type of SBA 7(a) loan designed to help provide affordable financing and technical assistance to underserved businesses that may not qualify for traditional financing. These loans are provided by many mission-driven lenders and do not have some requirements of more traditional financing products.

504/CDC(Certified Development Company) Loans provide long term financing for businesses to purchase real estate or high-cost assets they need to run their business.

SBA Microloans are small loans of up to $50,000, available to new and established businesses through non-profit community lenders.

SBA 7(A)
7(a) loans are negotiated between a borrower and SBA-approved lender. The maximum loan amount is $5 million.

SBA 504
Maximum loan amounts are determined by how funds will be used and based on which business goal they support.

For more information about the SBA (7)a and 504 loans, as well as other loans offered by the SBA, visit the SBA site.

Mission-driven loans are offered by institutions committed to supporting job-creating enterprises in underbanked and low-income communities where other financial opportunities may be limited or include rates that are not favorable to the borrower. While these loans may be similar in structure to loans offered by other institutions, mission-driven lenders sometimes mentor applicants through the lending process, often with the goal of helping small business owners with thin credit files eventually qualify for bank funding. The loans provided by mission-driven lenders (depending on institution) may be fixed-rate or adjustable-rate, which gives borrowers more options. (Community Development Financial Institutions (CDFIs) are a type of mission-driven lender that is certified by the US Department of Treasury’s CDFI Fund).

Microloans are available for small business owners or startups that have a thin credit file or can’t secure funds through a traditional bank. Microlenders are non-profit organizations that offer smaller loan sizes, which max out at $50,000 but tend to average much less than that. They charge slightly higher interest ratesthan big banks, but have less stringent underwriting criteria. Microlenders will typically mentor you through the application process, which is a big plus. Their goal is to help you build your credit and financial history, so that you can eventually qualify for bank funding.

Personal funding can be a viable option for your small business needs, but doing it successfully requires you to thoroughly calculate all of your costs, so that you don’t run out of money before your business can support itself. Your goal should be to finance your business so it can stand on its own, without co-mingling personal assets and credit. This will be important as you provide financial reporting to tax agencies, potential lenders, and other entities. There are a few different options when it comes to personal funding:

• Personal Credit Cards: if you can’t secure a business credit card, a personal credit card with a reasonably high limit can help you get those first few purchases and your business under way. Keep a close eye on your credit utilization and pay your bills on time, because making business expenses on personal credit cards can ruin your personal credit history.
• Savings/Home Equity: Dipping into your savings is an even riskier business, but if you have a good amount set aside this could be the cheapest option for you. Borrowing against your home can be a cheap option as well.
• 401K/ IRA Savings: If you plan to incorporate your business, you can use your retirement plan to invest in the company. Keep in mind that it may not be wise to bet your whole retirement savings on your brand new business.

If you plan to ask your friends and family for funds, take time to think through what you’re asking for, and how you formalize this agreement.

Non-bank loans have become an increasingly popular alternative for borrowers who have been denied a loan by the bank, or don’t have the time to go through a lengthy application process. A new generation of online-only “marketplace loans” is designed to appeal to business owners who have lower credit scores, or who have been in business for a short time. These loans tend to have much higher interest rates than bank or SBA loans, and to have more lax credit score criteria. Typically, these loans are for 1 – 5 years and come with a fixed monthly payment. Online marketplace loans can be used for virtually any business need.

Merchant Cash Advances (MCAs) are a pricey option that’s available to businesses that have credit or debit card sales. MCAs are probably the most expensive borrowing option, with APRs between 25% – 350%. Usually, they require a minimum daily payment regardless of your sales. Merchant cash advances can usually be approved in a day or two—with very little paperwork. After approval, the loan is repaid with a portion of your future credit card sales each day. Some online only marketplace lenders provide merchant cash advances.

You’ll pay for this convenience in very high interest rates. Merchant cash advances can be a quick way to get the funds you need without collateral (even if you have bad credit), if you are desperate or want to take advantage of a short-term opportunity that requires fast cash. However, relying on merchant cash advances can make it very difficult to manage future cash flow.

With cash flow loans a lender provides you funds and accepts your expected future cash flow as collateral for the loan. You’re essentially borrowing from cash that you expect to receive in the future, and giving the lender the rights to a predetermined amount of these receivables. These loans are primarily used for working capital or take advantage of short-term ROI opportunities. Your credit scores will usually be checked, but they play less of a role than with other loans. After you apply, the lender will inspect your account’s cash flow and make a quick (if not instant) decision on whether or not to offer you a loan, and at what interest rate.

While turnaround time is fast, interest rates on these loans are higher than for other forms of financing. Since cash flow loans aren’t extended based on information beyond your account history, and don’t require collateral (though they do require a personal guarantee in most cases), they are inherently riskier loans for lenders, who offset this risk by charging high interest rates. Some online-only marketplace lenders provide cash flow loans.

You should also be aware that many cash flow lenders also charge a very steep prepayment penalty. This means that paying back the loan early doesn’t help you because the payback amount is fixed. They don’t use an APR or amortization.

Though not necessarily a “loan” in the traditional sense, a business credit card can help you obtain financing without the hefty process of loan approval.

Business credit cards are a popular choice among entrepreneurs who have limited business history and don’t qualify for lower-cost financing, such as bank lines of credit. 65% of small businesses use them on a regular basis. Business credit cards, like personal credit cards, provide a revolving line of credit that you use for business expenses. A business credit card should not be tied to your personal credit – because maxing out personal credit cards for business expenses can kill your personal credit scores. But if you pay your bills on time, business credit cards can actually help build your business credit profile. Most major credit card companies provide business credit card options.

The required credit score will vary based on the company extending the credit card, so you may be able to find a business credit card that will work with your current credit situation. If you are not in position to qualify for a business credit card, you can look into getting a secured credit card that requires a deposit or collateral up front. In most cases, this deposit must be made in cash, although some lenders will accept collateral in the form of homes or cars. A secured credit card or secured business credit card can be a valuable tool to build and repair your credit.