If you’ve already started the process of finding a business loan online, then you know there are plenty of options available. There are so many options that finding a suitable lender can become a job in and of itself.
For the most part, business financing can be broken down into three categories: traditional term loans, accounts receivable line of credit, and inventory line of credit.
Traditional term loans
Traditional term loans are very similar to home loans and personal loans. They are either secured with collateral or unsecured. Getting approval for an unsecured business loan will require a very good credit score because the loan amount is dependent on creditworthiness.
This is the preferred type of financing when a large lump sum of money is needed up front. Many businesses use traditional term loans to get working capital for things outside of daily operation expenses. They are commonly used to:
- · Purchase equipment
- · Purchase office or business space
- · Pay for major projects
- · Open a new location
- · Expand a location
- · Hire more employees
Traditional term loans are also regularly used as seed capital for startup financing. Unlike a line of credit, traditional term loans have a set duration during which the borrower will make regular monthly payments. The length of a loan can either be short-term (12 months or less) or long-term (typically 1-7 years).
The major benefit of a traditional term loan is that it can come with a fixed rate that is relatively low compared to other financing options. However, the approval process can take significantly longer compared to receiving a line of credit. Businesses have to prepare well in advance in order to have the working capital when it’s needed.
Accounts receivable line of credit
An accounts receivable line of credit, also known as A/R credit lines, is used to generate short-term working capital. These line of credit loans are considered very useful because they give you the ability to borrow against outstanding invoices and cash them in before they’re actually paid.
Essentially the lender will provide a line of credit based on how much you anticipate receiving in outstanding payments. It can be very quick and convenient. However, businesses should be careful to only use an A/R credit line that allows you to maintain ownership over the invoices.
When your customers pay their invoices those funds are used to pay off what’s been borrowed. You can tap into the entire amount or only use a portion of the credit line. Interest will only be charged on the amount that’s utilized.
Usually, an accounts receivable line of credit is very short-term financing that provides funding for a single month. Businesses like that there’s less risk involved since the amount is based on money you’re already owed.
Inventory line of credit
An inventory line of credit is very similar to an A/R credit line, with a few key differences. Instead of basing the line of credit on outstanding invoices, the lender will approve an amount based on existing inventory and/or creditworthiness.
Businesses commonly use an inventory line of credit to purchase supplies so that cash can be reserved for operation costs and other opportunities or unexpected expenses. It’s considered revolving credit because as you pay down the amount borrowed the available credit line increases again just like a consumer credit card. You can tap into the credit line repeatedly without having to reapply.
Like an A/R line of credit, interest is only charged on the amount that’s borrowed, not the total credit line. This helps to dramatically improve a business’ buying power while still keeping cash reserves at a comfortable level.
Which financing option will work best depends on the unique needs of your business, available collateral and your creditworthiness. It’s important to find a reliable lender that you can trust to point you in the right direction. They’ll work with you one-on-one like a business partner to explore all of the possible options and determine which one makes the most sense for your growing company.