Alternatives to unsecured business loans

While unsecured business loans can be a good option if you don’t have collateral, but you meet all the other qualification requirements, they may also come with higher rates or less favorable terms than their alternatives. There are many other ways to finance your business that don’t necessarily involve pledging large business assets, and include business loans, grants and crowdfunding.

Secured business loans

Secured business loans include term loans and lines of credit, and require you to provide either personal or business assets to secure the loan. If you default on the business loan, your lender can seize your collateral to try and recover its losses. Real estate, vehicles, business equipment, inventory and invoices can all be used to secure a business loan.

Because you pose less risk to a lender when you pledge collateral, you will likely access lower interest rates and fees and longer repayment terms.

Term loans

Secured term loans offer a lump sum of cash to be repaid over a set period of time, with interest. Secured term loans can include:

• SBA loans. SBA loans are issued by approved lenders and partially guaranteed by the U.S. Small Business Administration. Instead of requiring you to pledge collateral, the SBA provides the guarantee to the lender that backs the loan in the event of a default. While the SBA itself doesn’t require any collateral from borrowers, a lender may still choose to request additional assets to secure the loan.
• Equipment loans. An equipment loan is a type of secured term loan in which the equipment being financed serves as collateral for the loan. Since the lender can seize the equipment in the event of default, this arrangement provides security for the lender while potentially offering more favorable terms for the borrower. Unlike other business loans, you will need to use the loan solely for buying new or used equipment.

In addition to pledging collateral on a secured term loan, you may also be required to sign a personal guarantee, which makes you personally liable for the loan if your business can’t pay.

Secured business line of credit

Business lines of credit are revolving forms of financing, similar to a business credit card. You spend up to your credit limit, only pay interest on the amount you have drawn, and then you can spend again as you pay down the line.

Typically, business lines of credit are unsecured; however, some banks, like Bank of America, offer cash-secured lines of credit that can help you build your business credit and improve your chances of getting approved for financing in the future. With these, your credit limit is the amount of cash you put down to secure the line.

Invoice financing

Invoice financing allows you to borrow against your accounts receivable or unpaid customer invoices, using the invoices themselves as collateral. This allows you to free cash that may be tied up in unpaid customer invoices. However, you will likely experience high fees, which can cut into your profits.

This option works best if you have a short-term need to cover cash flow gaps in your business.

Other funding options

In addition to securing a loan with some form of collateral, there are several ways to fund your business that don’t require any loans at all.

Business credit cards

Business credit cards are another alternative to unsecured business loans and can be secured or unsecured. A business credit card is good for smaller purchases and business expenses and often has more accessible requirements to apply, such as accepting low revenue. You also won’t pay any interest if you pay the card in full each month.

Business grants

A business grant is a type of funding awarded to qualified businesses that does not require repayment. Corporations, nonprofits and government agencies may offer grants throughout the year and many of them tailor products to help underserved communities.

Because they offer free money, grants can be highly competitive among businesses. They can also take a while to approve, and they may not be able to provide the full amount of capital you need.

Crowdfunding

Crowdfunding is a method of funding that allows you to raise capital in small amounts by seeking funds from large groups of people on a digital platform. It can take the form of donations, or sometimes you exchange small bits of equity in your company in exchange for funding.

The main drawback is that you’re not guaranteed to get the full amount you need or any funds at all. It can also take a long time to reach your goals, which may mean you can’t access the money until you reach it.

Peer-to-peer (P2P) lending

Peer-to-peer lending is a fairly informal type of lending that doesn’t typically require collateral. Similar to crowdfunding, it raises money to be loaned to your business through a group of individual investors. You then pay back the loan with interest over a set period of time.

This option allows you to bypass getting funding from traditional banks, making it accessible to startups and bad credit borrowers. But rates and fees can vary, so it may not be the most affordable option depending on your creditworthiness and the platform you use.

Merchant cash advances (MCAs)

Merchant cash advances (MCAs) are an alternative way to fund your business that involve selling future sales revenue to a third-party company in exchange for a lump sum of cash. MCAs are one of the most expensive types of business financing. Since they are not technically loans, they are not federally regulated, which can make it easier for predatory lenders to take advantage of your funding needs. They are best used as a last resort for financing, but if you do decide to get an MCA, make sure you understand the terms and can afford the payments and the payment frequency.

Bottom line

Unsecured loans are just one way to finance your small business. There are also a variety of unsecured business loan alternatives, including term loans, SBA loans, invoice financing and crowdfunding. Make sure to consider each one carefully to choose the option that best suits your funding goals. Finding the best small business loan is essential to your success as your business grows.

Frequently asked questions

• What is the difference between collateral and personal guarantee?

  Collateral and personal guarantees are ways to keep you accountable for paying back the loan. Collateral is an asset you offer up that a lender can claim if you don’t pay back the loan.  A personal guarantee is a legal promise that you will make good on the loan if you default on payments, even if it means having your personal assets seized.

• Do business loans require a personal guarantee?

  Yes, many business lenders require you to sign a personal guarantee. This is a way for the lender to ensure they won’t come away empty-handed if a borrower defaults on a loan. But you may be able to avoid a personal guarantee if you have sufficient collateral, such as real estate, inventory, machinery or other business assets.

• What collateral is required for a business loan?

  Common types of collateral can include real estate, business equipment, inventory or investments such as stock or bonds. Some lenders will allow cash. You may also see a blanket lien option, which allows the lender to seize any business assets in the event of a default.

• Is it more expensive to get a secured or unsecured loan?

  Unless you default on a business loan, it’s typically less expensive to get a secured loan. That’s because offering collateral reduces the risk you pose to a lender, allowing them to offer you lower rates and fees and more favorable terms. Of course, if you end up defaulting on a secured loan and losing your business assets, that can cost you much more in the long run than interest on an unsecured loan.