Have you ever wondered how to secure funding for your business without putting your valuable assets on the line?
After all, you’ve worked your butt off to have these assets in the first place.
If so, you’re in the right place!
Taking out a business loan is one of, if not the best, tools for scaling your business.
And unsecured business loans offer businesses a unique opportunity to borrow money without having to pledge collateral.
With over 25 years of experience as a financial coach and banking expert, I’ve seen firsthand how these loans can be a game-changer for businesses.
From business lines of credit to merchant cash advances, each type has its own different terms and rates.
Understanding these differences is crucial to finding the right financing solution for your business needs.
In this post, we’ll dive into the various types of unsecured business loans, breaking down the process and helping you make an informed decision.
Whether you’re a startup looking for initial funding or an established business needing to manage cash flow, there’s likely an unsecured loan that fits your requirements.
So, let’s explore your options and find the best financial path for your business’s growth and success.
Ready to find the perfect unsecured loan for your business? Let’s get started!
What’s an Unsecured Business Loan?
An unsecured business loan is a type of financing that doesn’t require the borrower to provide collateral.
Collateral typically refers to assets of value, such as property or equipment, that a borrower offers to secure a loan. In the event of default on a secured loan, the lender can seize the collateral to cover their losses, mitigating their risk.
Without collateral to back the loan, lenders face higher risks when issuing unsecured loans.
As a result, these loans often come with higher interest rates and more stringent eligibility requirements to compensate for the increased risk.
Despite these challenges, unsecured loans can be an attractive option for businesses that lack sufficient collateral or prefer not to put their assets at risk.
How unsecured business loans work
Unsecured business loans operate similarly to other types of loans.
The process begins with an application, during which the lender assesses the business’s creditworthiness, financial health, and repayment ability.
If the application is approved, the borrower receives the funds and agrees to repay the loan over a specified period, typically with interest.
Since there is no collateral involved, lenders are more selective about approving unsecured loans.
They often require business owners to provide a personal guarantee, which is a promise to repay the loan from personal assets if the business defaults.
This adds a layer of security for the lender but increases the risk for the borrower.
Additionally, some unsecured loans cater to businesses with bad credit by having relaxed eligibility criteria and minimal documentation requirements.
Examples include invoice factoring and merchant cash advances.
However, these options often come with high interest rates and fees, making them more expensive in the long run.
Lenders might also require a Uniform Commercial Code (UCC) lien, which is a claim against the business’s assets. If the business defaults on the loan, the lender can seize these assets to recover their losses.
What can unsecured business loans be used for?
Unsecured business loans are versatile and can be used for a wide range of purposes, depending on the business’s specific needs. Here are some common uses:
- Purchasing Equipment: Whether new or used, equipment is essential for many businesses. An unsecured loan can help finance these purchases without tying up valuable assets.
- Buying Inventory: Maintaining adequate inventory is crucial, especially for retail and manufacturing businesses. Unsecured loans can provide the necessary funds to stock up.
- Funding Startups: New businesses often struggle to find financing. Unsecured loans can offer the capital needed to cover initial costs, from office space to marketing expenses.
- Acquiring an Existing Business: Expanding by purchasing another business can be a strategic move. Unsecured loans can help finance the acquisition without risking current assets.
- Covering Cash Flow Gaps: Businesses often face periods of uneven cash flow. An unsecured loan can provide the necessary funds to cover expenses during these times.
- Buying Real Estate: Whether for an office, store, or other commercial property, unsecured loans can assist with real estate purchases.
- Refinancing Previous Business Loans: Consolidating existing debts into a single loan with more favorable terms can improve financial stability.
- Building Business Credit: Successfully managing and repaying an unsecured loan can help build a business’s credit history, making it easier to obtain financing in the future.
6 Types of Unsecured Business Loans
Term loans
Term loans provide a lump sum of money upfront, which is repaid over a fixed period, usually on a monthly payment schedule.
These loans can be short-term (up to 24 months) or long-term (five to ten years). Short-term loans typically have higher interest rates and fees but offer the advantage of paying off the loan quickly.
Long-term loans spread payments over a longer period, making monthly payments more manageable, but interest accumulates over time.
One key benefit of term loans is their predictable, fixed payments, which help businesses manage their finances effectively.
These loans are ideal for large, one-time purchases since you’ll need to reapply for new funding if additional capital is required in the future.
Business lines of credit
A business line of credit provides companies with a flexible funding source that can be accessed as needed, up to a set limit.
Most lines of credit are revolving, meaning as you repay the borrowed amount, the credit limit replenishes, allowing continuous access to funds.
This flexibility is particularly useful for managing unexpected expenses or covering periods of uneven cash flow.
However, business lines of credit typically offer lower borrowing limits than term loans, and unsecured lines may come with variable interest rates.
These rates can fluctuate, increasing borrowing costs and repayment amounts over time.
Despite these potential drawbacks, the flexibility and convenience of lines of credit make them an attractive option for many businesses.
Invoice factoring
Invoice factoring allows businesses to sell their unpaid invoices to a lender in exchange for an advance, typically up to 90% of the invoice value.
The factoring company then collects the invoices on the business’s behalf. Once the invoices are paid, the company pays the remaining balance minus fees.
This type of financing is particularly beneficial for businesses that invoice clients, as it provides immediate funds to cover operational expenses instead of waiting 30 to 90 days for invoice payments.
Additionally, invoice factoring relies on the creditworthiness of your clients rather than your business’s credit, making it accessible for businesses with poor credit.
However, invoice factoring can come with high fees that increase the longer the invoices go unpaid, and you can only borrow up to the amount of your invoices, limiting the available funds.
Merchant cash advances
A merchant cash advance (MCA) is not technically a loan but a cash advance based on future debit or credit card sales.
MCAs offer quick funding with lenient qualification requirements, making them accessible to businesses with bad credit or low revenue.
However, MCAs come with aggressive repayment schedules, typically requiring repayment as a percentage of daily or weekly sales.
Additionally, they charge high fees, often in the form of factor rates, which can translate into annual percentage rates (APRs) of 50% or more.
Despite these high costs, the ease and speed of obtaining an MCA can make it a viable option for businesses in urgent need of funds.
Business credit card
Business credit cards function similarly to personal credit cards, allowing you to charge expenses up to a set limit.
They are generally easier to obtain than business loans, as the approval process primarily considers your personal or business credit score.
Business credit cards often come with perks such as cash back on purchases or 0% introductory APR periods, providing added value.
Paying off the balance in full each month allows you to avoid interest charges, making credit cards a flexible and potentially cost-effective financing option.
However, unsecured business credit cards are usually reserved for those with good to excellent credit. If your credit is fair or bad, you may need to opt for a secured card to build your business credit history.
SBA loan
Small Business Administration (SBA) loans are term loans or lines of credit backed by the U.S. Small Business Administration.
These loans are offered through approved lenders and come with favorable terms, such as long repayment periods and low maximum interest rates.
The SBA guarantees a portion of the loan, reducing the risk for lenders and making it easier for businesses that don’t qualify for traditional loans to obtain financing.
However, the application process for SBA loans can be lengthy, taking 30 to 90 days for approval.
Unsecured SBA loans are available for amounts up to $50,000; for higher amounts, collateral may be required.
Despite the longer approval process, the benefits of SBA loans make them a highly sought-after financing option.
Types of Unsecured Loans: Final Thoughts
Choosing the right type of unsecured business loan depends on your business’s financial health, funding needs, and future plans.
The best unsecured small business loans will offer low interest rates, favorable repayment terms, and minimal fees.
Once you’ve identified the type of loan that suits your needs, it’s important to compare offers from multiple lenders.
Prequalifying or applying for several loans can help you find the best terms and conditions.
Additionally, ensure that the loan payments fit within your budget to maintain financial stability and avoid defaults.
While unsecured business loans don’t require collateral, they often demand strong credit and revenue to qualify.
If your business doesn’t meet these criteria, consider alternative options such as secured business loans or other financing methods to secure the necessary funds.
By carefully evaluating your options and understanding the requirements, you can choose the best financing solution to support your business’s growth and success.