Many small business owners turn to business loans to secure extra funds for a variety of needs, including supporting startup costs, upgrading equipment, purchasing real estate for operational space, and more. While this type of financing is broadly referred to as business loans, there are several types of business loans available on the market.
By understanding which types of commercial financing are widely used and how they stand apart, it’s easier to determine whether one option is a better fit than another. Here’s a look at the three most common types of business loans.
SBA Loans
SBA loans are backed by the U.S. Small Business Administration (SBA), which is a federal government agency. In most cases, the federal government isn’t issuing or managing the loan directly. Instead, the SBA sets some requirements, and the loans are issued by other lenders in accordance with the rules.
Generally, SBA loan options are broken up into three categories: 7(a) loans, 504 loans, and microloans. The 7(a) loan program is the most widely used, as funds can support real estate purchases, serve as working capital, refinance debt, or buy needed supplies. 504 loans are limited to major fixed assets, such as equipment. Microloans are flexible, like a 7(a) loan, but the maximum borrowable amount is far lower.
In some cases, qualifying for an SBA loan is challenging. However, the interest rates are usually relatively low, and the repayment terms are longer, which keeps the monthly payments down. Plus, through the 7(a) and 504 loan programs, companies can borrow up to $5 million if they meet the requirements to do so.
Equipment Loans
Equipment loans are specialized lending products that focus on fixed assets, namely equipment. They allow a business that prefers to own its equipment an option for covering the cost, which can also create opportunities to build equity.
In most cases, the term length for an equipment loan is based on the lifespan of the equipment purchased since the equipment usually serves as collateral. Plus, since it’s a secured loan, the interest rates are potentially competitive. However, in fast-evolving industries, there’s no guarantee that equipment won’t end up obsolete during the life of the loan, so it’s critical to keep that in mind.
Business Lines of Credit
Business lines of credit are offered by a variety of private lenders, and they provide a significant amount of versatility. Unlike traditional term loans, lines of credit operate more like credit cards. Companies get a borrowing limit, and they can withdraw money as necessary to cover allowed costs until they reach the maximum. Plus, as they pay down their principal balance, they can withdraw those funds again to support new purchases.
One of the main benefits is that the company only pays interest based on the amount of money used. Additionally, there isn’t always a set time when the entire balance needs repaying, allowing the money to be used time and time again. However, this usually comes with higher interest rates.
