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It’s true that launching a business requires a combination of various virtues, like courage, determination, passion, and commitment. However, if we are to be sensible, then we would also include finances in the equation.
Whether your business is big or small, it’s going to need investment. There is no way around it. As most entrepreneurs don’t have enough funds of their own to turn their ideas into reality, they take different kinds of bank loans or loans from new-age fin-tech companies. The question is – what kinds of loans are actually available and which ones are right for you?
The following are some of the most common types of loans that the lenders provide for budding entrepreneurs:
Types of Loans When Starting a Business
1. Secured and Unsecured Personal Loans
Secured and unsecured personal loans are the most common loans that individuals and businesses take around the world. This is because there are usually no requirements dictating how you should use the money obtained from these loans. The interest rates are also affordable.
So, you may take a big loan for launching a business, but use a small portion of it for your personal expenses. The only condition that may apply in this arrangement is that you can’t use the money for unlawful or unauthorized activities.
2. Line-of-Credit Loans
Line-of-credit loans are highly popular as they help businesses meet their changing financial requirements on the fly. These loans are available in various formats and are usually meant for paying the operational/recurring costs of a business, like paying for new purchase orders, etc. Since the risk is quite low in this form of lending, the banks are able to offer some of the best interest rates.
Under a line-of-credit loan, a lender promises to transfer a certain amount of cash in your checking account up to an upper limit, which is mentioned in the contract. So you can withdraw different amounts from time to time as per your requirements as long as they are within the limit. The best part is that you have to pay interest only on the amount of money withdrawn rather than the upper limit.
Line-of-credit loans are usually written for one year, but you can renew it either automatically or manually for a small fee. However, the actual terms and conditions for the repayment may vary from one lender to another.
3. Invoice Financing
Almost every new business faces the problem of delayed invoice clearances. In fact, unpaid invoices prevent small businesses from creating over 2 million new jobs in the U.S. economy.
When invoices are delayed, then the entire business is affected. The salaries of your employees are put on hold, buying new equipment and raw materials becomes challenging, and your relationships with clients and vendors are affected. However, you can solve all these problems by using invoice financing service.
Under invoice financing, you can use your outstanding invoices to get a cash advance from a bank. These invoices provide assurance for debt repayment, making funds disbursement easy. You usually get up to 85 percent of the total invoice amount, and are charged one percent to two percent per week until the invoices are cleared. The remaining 15 percent of the amount is also released by the bank.
4. Revenue-Based Financing
Revenue-based financing is an option recommended to entrepreneurs who don’t have credit or collateral. It’s certainly not one of the best options on this list, but it may work for you if you are absolutely out of choices.
In revenue-based financing, you can receive a loan from a bank and repay it in the form of a fixed percentage of your monthly business revenue every month until the full amount is cleared. However, there are some conditions. For instance, you could be required to maintain a minimum revenue per month under a contract and/or gross margins of up to 50 percent.
5. Hard Money Loans
If you are interested in buying real estate or fixed assets from private investors, then you can take hard money loans from a bank. These can be obtained even if you have a low credit score or don’t have collateral. However, these advantages come with certain conditions.
The biggest disadvantage of a hard money loan is that you may not get 100 percent of the loan amount. Most lenders offer only 70 percent of the cost of the total loan, which means that you need to arrange the rest of the money on your own. Also, the interest rates can get way too high – some lenders can levy up to 20 percent!
Considering the often unjust conditions of hard money loans, it’s best to use them as a last resort. If you have decent credit, then you should definitely look for other options.
Today, both the banking sector and fin-tech industry have evolved considerably. In light of the flexible requirements of modern entrepreneurs, lenders are offering flexible and more affordable solutions through easily accessible channels.
However, it’s not a good idea to just take a loan, no matter how attractive it can be. Take a loan only if you truly need it. Of course, you should also try to identify the right types of loans for your business needs so that you don’t end up paying more than you have to.