Most businesses need some financial help at some time or other. Perhaps when they are starting up, perhaps when they are expanding, or maybe for a special investment in new inventory and equipment.
Back in the day, all you needed was a friendly meeting with your business banker and a loan would be agreed over a cup of coffee. Nowadays however, bank managers aren’t as free as they were with their money, and alternatives like bitcoin loans have emerged.
If you are a start-up requiring a loan from your bank, or even if you have been in business for some time, you will probably have to put up your house as collateral, and although you might be willing to do so, it is always a high risk option. Many of us know somebody who has done this and lost their home in the process; it can certainly come as a shock if you failed to inform your partner or spouse about the risks involved.
Sword of Damocles
The type of loan that you secure with personal property such as your home is known as a secured business loan. With such a loan you carry all the risk; should you default your bank will have little hesitation of remorse over seizing your assets, even if doing so makes you homeless. It really isn’t the kind of ‘Sword of Damocles’ you want hanging over your head when all your efforts should be focussed on growing your business.
Unsecured Business Loan
The other kind of loan is an unsecured business loan. With this kind of loan, you don’t need to provide any collateral. You repay the loan over the agreed term at the agreed interest rate; if things go wrong and you default it is likely to get unpleasant, but at least you won’t lose your home or any other valuable asset. This is why we believe that unsecured business loans are perfect for entrepreneurs who want to develop their ideas and grow their businesses.
There are several different kinds of unsecured business loans which we will look at later on, but they all have some important features in common.
Firstly, they are often easier to obtain than secured business loans. That might seem a little strange at first; as they are unsecured the lender doesn’t have the same kind of protection if you default on your repayments so you might consider them to be more difficult to obtain. The problem withsecured business loans is they can be very difficult to set up and you can only really do so through banks and specialist lenders.
With unsecured loans you don’t have to go through banks; there are many different kinds of lenders and lending models. Even if it is difficult and expensive getting an unsecured business loan through a banks, as there are plenty of other options you can try you have an excellent change getting one from somewhere else. Again, unsecured business loans tick most of the boxes.
The other common feature is that the interest rates are generally higher than secured loans, so they are more expensive. Additionally, the maximum repayment periods tend to be shorter. While secured loan repayments can be spread over many years, even decades, most short term business loans have a maximum repayment term of five years.
However, for most young and dynamic businesses that shouldn’t present a problem. It is unlikely that you want to chain yourself to a long term loan, you are far more likely to need quick cash that you can repay in a reasonable time span.
To qualify for most types of unsecured business loan, you will need to demonstrate that you are credit worthy. There are two aspects of this: your personal credit score as a director or owner of the company, and the credit worthiness as the company as an entity. This depends to some extent on whether your business is a limited company, a partnership, or if you are a sole trader. Even if you are a limited company however, your personal credit rating is likely to be taken into consideration by most lenders.
Before you apply for an unsecured business loan, it is worth checking your personal credit rating at one of the credit rating agencies such as Experian or Equifax. Your business is also likely to have a credit rating. Different lenders use different criteria to measure this, but generally it is based on your level of debt to banks, suppliers and other creditors; your payment history including late payments; any adverse public records such as Country Court Judgements; and how long you have been trading.
What if I have a bad credit score?
Bad credit scores can happen to the best of us, sometimes through no fault of our own. Sometimes it can be because of a mistake, and if this is the reason you can often correct the error by contacting the credit rating agencies. But if you can’t correct it, you will have to live with it. Depending on the reason, bad credit ratings can last for a while, up to six years.
But don’t despair; if you have a poor credit score then an unsecured business loan could still be perfect for you. While you might have to pay a little more interest, you should still be able to obtain a loan to grow your business, so check out some of the options given below. You can also use unsecured business loans to rebuild your credit rating if you repay them as agreed with your lender.
Different unsecured business loan models
There are many kinds of unsecured business loans. These include traditional lenders such as high street banks; quasi-unsecured loans such as invoice financing and merchant cash advances; andmodern alternatives such a peer to peer loans and the latest innovation, borrowing bitcoins.
Next we will look at some of the options that are likely to be available to you and review their benefits and downsides to help you decide which are perfect for you.
As already indicated, banks tend to be reluctant to provide unsecured business loans. They prefer to have some collateral. That said however, if you have a good trading record, a good credit score and you can present a good business plan, your bank might consider an unsecured loan, but the interest rate is likely to be significantly higher than for a secured loan.
Most banks have a range of unsecured business loan schemes, but they are available only on a case by case basis. If the bank considers that you have a high level of risk, they are likely to insist that you provide collateral, which defeats the purpose.
For businesses that qualify, low interest unsecured business loans are available through various government schemes. One such scheme in the UK is start up loans. It is available to entrepreneurs who have been trading for less than two years. You will need to produce a compelling business plan and a cash flow forecast, though you will also have access to a business advisor who will provide help.
If your application is successful, you will have up to five years to repay the loan.
Another government scheme is the enterprise finance guarantee scheme. Rather than borrowing money from the government, you borrow money from the banks and other accredited lenders, but 75% of the loan is guaranteed by the government. Loans are available from £1,000 to £1 million, andto qualify you must be an SME with a turnover below £40 million. The loan is repayable over 3 months to 10 years. There are several additional government backed finance schemes you might care to investigate.
Invoice financing is a kind of unsecured business loan that does have an element of collateral; in this case the invoices you issue to your customers. Also known as factoring, essentially you sell these invoices to the invoice financing company for immediate cash, and you repay the debt when your customers pay you. You pay both interest and a fee.
When you issue and invoice, the invoice financier advances you a proportion of the amount invoice, typically 85%. They then collect the full value of the invoice from your customer and pay the balance less a fee and interest on the cash that was advanced to you.
There are many different providers of this service including high street banks, though you do need a substantial turnover, typically around £250,000 to £300,000 a year.
Invoice discounting is similar to invoice financing in that you use your invoices as a kind of collateral, but in this case it’s a pure loan. The financier doesn’t get involved with your customers, they just lend you a certain percentage of the value of the invoices you issue. You repay the loan when the invoices are paid. You are also charged a fee for the service plus interest on the loan amount.
The subtle difference between invoice financing and invoice discounting is that in the former your customers know you are using the scheme, but the latter is invisible to your customers. Although these are not exactly unsecured business loans, they achieve the same objectives.
Note that neither invoice financing or invoice discounting are regulated by law.
Merchant cash advance
If your business accepts credit and debit card payments, you will need to set up a merchant account. Many merchant account providers offer cash advances secured against future credit card payments. The loan is repaid automatically to the merchant account provider who keeps a small percentage of each credit card transaction in addition to the normal fees.
This kind of advance is only available if your business has a predictable level of card transactions that has been demonstrated over a reasonable period, generally at least one year.
Although we have classified merchant cash advance as an unsecured business loan, it isn’t exactly a loan. You are really selling on a proportion of future credit card sales. As it doesn’t qualify as a loan according to the criteria set by the FCA, the effective interest rate isn’t currently regulated.
In fact, you don’t pay interest; instead you pay a fee which is effectively the same thing. Typically, fees are around 2% a month though they can be higher; more or less the same as using a credit card. The advantage is that it is available to high risk merchants.
Peer to Peer Business Loans
Peer to peer (P2P) business loans are a relatively new way of borrowing money. They are unsecured business loans, but rather than borrowing the cash from a financial institution, you are borrowing it from a group of people, the crowd. It is a kind of social lending model which is highly appropriate to our modern connected age.
The cash is provided by individuals who invest, generally through a P2P lender website. There is a growing number of these platforms and each has its own individual features, so it is worthwhile doing some searching to find the best one for your requirements. Some will lend to individuals, though most specialise in lending to start-ups, micro-businesses and small to medium enterprises.
For many businesses, P2P business loans are easier to access than bank loans. Loans can be agreed in minutes and generally you can also access the cash quickly, perhaps within a few days. Interest rates are also reasonable. The attraction to lenders is they can get higher returns than they would through banks. Note that a single loan will be funded by many investors. P2P loans are regulated by the FCA.
Bitcoin Business Loans
Bitcoin unsecured business loans are a variant of P2P loans, but with some important differences:there is no middleman, which means that there are only small fees to pay;
neither lenders nor borrowers need a bank; you can borrow bitcoins very quickly; it is borderlesswhich means you can borrow from lenders located just about anywhere in the world.
There are several innovative bitcoin lending platforms which have subtle differences and focus on various market sectors. Bitbond is particularly focussed on lending to small businesses including sellers on eBay. Loans terms can vary from just a few weeks to five years and borrowing rates begin at 7.7%, depending on an assessment of your perceived level of risk.
Even borrowers with high risk are likely to find that they can borrow through Bitbond and other platforms at much lower interest rates than they would be charged by a bank. Even if you start off with a high credit risk, you have the ability to reduce it by demonstrating good repayment records.
Bitcoin loans have been criticised for their high volatility, however as Bitbond ties all loans to the USD this isn’t a factor. If the bitcoin value increases after taking out the loan, your repayments will be constant in terms of their dollar value.
Check out our Youtube channel for more information on bitcoin loans and investments.
If you are a dynamic entrepreneur who needs cash to develop a ground breaking idea, to grow your business, or to purchase a business asset, then an unsecured business loan is likely to be the perfect solution for you. As we have shown, there are many different models to choose from as an alternative to traditional bank loans.
Many businesses use a combination of these depending on their immediate needs, for instance factoring is particularly popular with small companies as it frees them from the chore of having to chase invoice payments as this is handled by the factoring company, and frees the cash that would otherwise be locked in their unpaid invoices. Merchant cash advances are also a useful way of immediate cash, though they fees can be high.
The new crowd funding P2P platforms including bitcoin loans are evolving rapidly and making a big impact on the unsecured business loan market. It is proving to be the perfect solution for many different kinds of business who need short to medium term cash.
Now that you know what is available, check out our guide on How To Get A Small Business Loan