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Updated Oct 24, 2023

A Guide to Choosing the Right Small Business Loan

Looking for a small business loan? Before you apply for one, check out this guide to learn about the different types of lenders and loans.

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Matt D'Angelo, Business Operations Insider and Senior Writer
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This guide was reviewed by a Business News Daily editor to ensure it provides comprehensive and accurate information to aid your buying decision.

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Small Business Administration (SBA) loans, bank loans and alternative lenders provide several types of loans to businesses in different situations with various needs. Borrowing money can be a lifeline for a business, get it to the next stage, ease cash flow concerns and much more. We’ll explore business lending, the overall loan market and various loan types to help you choose the right loan option for your small business. 

Benefits of a business loan

Business loans have long been a viable way to keep operations going. Business owners use loans for various reasons, including getting a short-term cash flow boost and buying or leasing equipment. Business loans can also be used to pursue growth and consolidate debt

Editor’s Note: Looking for information on business loans? Fill in the questionnaire below, and you will be contacted by alternative lenders ready to discuss your loan needs.

Business loans have many benefits, including the following:

  • Business loans let you keep full control of your business: When you take out a business loan, your bank or alternative lender won’t tell you how to use the funds. That’s not true when investors provide capital. Angel investors and venture capitalists usually want a say in how the business is run. While bank loans come with interest and fees, you won’t give up a stake in your business, a piece of the profits or operational control.
  • Business loan funding is fast: Raising capital via venture capitalists or other investors can take as long as 12 months. Borrowing money from a bank, credit union or online lender is much faster. When you apply online, some lenders can approve your application in minutes.
  • Interest rates are lower for loans than credit cards: When it comes to credit cards and business loans, the latter tends to win out in terms of borrowing costs. For business owners with the best credit scores, business loan interest rates range from 4.9 percent to 9.83 percent. For business credit cards, the average rate is 24.2 percent. Remember that your credit score plays a big role in the cost of borrowing; a poor credit score is a factor that can prevent you from getting a loan
TipTip
Boost your loan approval odds by creating a comprehensive business plan, staying organized and seeking expert advice.

Questions to consider before choosing a business loan

Before choosing a small business loan, assess your current needs. Here are some good initial questions to answer so you have clear goals before starting your research:

  • How much money do you need?
  • What do you need the money for?
  • How long will it take you to pay it back?
  • How long have you been in business?
  • What is the current financial shape of your business?
  • How much collateral, if any, do you have to put up for the loan?
  • What’s your credit score?
  • Do you have any other outstanding loans?
  • Are you looking for a short or long-term loan?

Types of lenders

Here’s an overview of three lender types you may be considering.  

1. SBA loans

The SBA offers several loan programs designed to meet the financing needs of many businesses. With these loans, the government isn’t directly lending small businesses money. Instead, the SBA sets guidelines for loans made by its partners, including banks, community development organizations and microlending institutions. The SBA reduces the risk to lenders by guaranteeing the loans will be repaid.

Businesses have various SBA loans with different parameters and stipulations on money usage and repayment schedules.

The pros of SBA loans include the following: 

  • The government guarantee, which typically covers 75 percent to 90 percent of the loan, eliminates much of the risk for the lender. 
  • Because lender risk is reduced, SBA loan terms tend to be more favorable to borrowers. 

The cons of SBA loans include the following: 

  • Additional paperwork must be filed.
  • You’ll pay extra fees.
  • It takes longer to get approved. 
  • You may also have to meet stricter requirements to qualify for a loan from a traditional SBA lender.
Did You Know?Did you know
To get an SBA loan, you must provide extensive financial documentation about your company to the SBA and the lender. The loan must be a good fit for the lender and your business.

2. Conventional bank loans

There are upsides and downsides to getting a business loan from a bank

Pros of conventional bank loans include the following: 

  • Conventional bank loans carry low interest rates. 
  • The approval process can be faster because a federal agency is not involved. 

Cons of conventional bank loans include the following: 

  • Conventional bank loans typically include shorter repayment times than SBA loans.
  • Conventional bank loans often include balloon payments.

Additionally, getting approved for a conventional bank loan is often difficult. For example, according to the March 2023 Biz2Credit Small Business Lending Index, big banks approved only 13.8 percent of funding requests that month. Similarly, small banks approved 19.1 percent of requests. Alternative lenders (see below), on the other hand, approved 28.4 percent of requests.

3. Alternative lenders

Alternative lenders are particularly attractive to small businesses without a stellar financial history because approval requirements aren’t as stringent. Typically, they offer online applications, make approval decisions in a matter of hours and provide funding in less than five days.

Some alternative lenders lend money directly to small businesses. Others are lending marketplaces that provide small businesses with multiple loan options from different lenders.

Examples of direct alternative lenders include Kabbage, OnDeck and SBG Funding. Lending marketplaces include Bizfi and Biz2Credit.

Pros of alternative lenders include the following: 

  • Your business doesn’t need a stellar financial history.
  • There are few restrictions on what you can use the money for.
  • The loans can be approved almost instantly. 

Cons of alternative lenders include the following: 

  • Interest rates can be significantly higher than those charged by a bank. 
  • Because of the nature of the loan, it’s important to pore over the fine print and ensure you’re entering into an agreement that makes sense financially for your business.
TipTip
Watch out for alternative lending red flags, including unsecured websites, a lack of transparency about fees and an unwillingness to disclose the amortization schedule or full loan terms.

Types of loans

Here’s an overview of SBA loans vs. conventional loans and alternative lenders. 

SBA loans

Currently, the SBA offers four types of small business loans:

  • 7(a) Loan Program: 7(a) loans, the SBA’s primary lending program, are the most basic, common and flexible loans. They can be used for various purposes, including working capital; purchasing machinery, equipment, furniture and fixtures; buying land and buildings; constructing new buildings; renovating an existing building; starting a new business or assisting in the acquisition, operation or expansion of an existing business; and debt refinancing. These loans have a maximum amount of $5 million, and borrowers can apply through a participating lender. Loan maturity is up to 10 years for working capital and generally up to 25 years for fixed assets.
  • Microloan program: The SBA offers very small loans to new or growing small businesses. SBA microloans can be used for working capital or purchasing inventory, supplies, furniture, fixtures, machinery or equipment. However, they can’t be used to pay existing debts or purchase real estate. The SBA makes funds available to intermediary lenders ― nonprofits with experience in lending and technical assistance. Those intermediaries then make loans up to $50,000, with the average loan being about $13,000. The loan repayment terms vary based on several factors, including the loan amount, planned use of funds, requirements determined by the intermediary lender and the needs of the small business borrower. The maximum repayment term allowed for an SBA microloan is six years. 
  • Real estate and equipment loans: The CDC/504 Loan Program provides businesses with long-term, fixed-rate financing for major assets, such as equipment and real estate. The loans are typically structured with the SBA providing 40 percent of the total project costs, a participating lender covering up to 50 percent and the borrower putting up the remaining 10 percent. Funds from a 504 loan can be used to purchase existing buildings, land or long-term machinery; to construct or renovate facilities; or to refinance debt regarding business expansion. These loans cannot be used for working capital or inventory. The maximum amount of a 504 loan is $5.5 million; these loans are available with 10- or 20-year maturity terms.
  • Disaster loans: The SBA provides low-interest disaster loans to businesses of all sizes. SBA disaster loans can be used to repair or replace real estate, machinery and equipment, as well as inventory and business assets damaged or destroyed in a declared disaster. The SBA makes disaster loans of up to $2 million to qualified businesses.
TipTip
When rebuilding your business after a natural disaster, communicate with customers and your team as quickly as possible, contact your insurance company and ensure your crucial data backups are safe and secure.

Loans from conventional banks and alternative lenders

Banks and alternative lenders offer some loans similar to SBA loans. They also have funding options the SBA doesn’t offer, including the following:

  • Working capital loans: Working capital loans are short-term solutions for businesses needing money to fund operations. Working capital loans are available from banks and alternative lenders. The advantage of a working capital loan is that small businesses can keep their operations running while they search for other ways to increase revenue. However, working capital loans often have higher interest rates and short repayment terms.
  • Equipment loans: In addition to the SBA, banks and alternative lenders offer equipment loans. Equipment loans and leases provide money to small businesses for office equipment, such as copy machines and computers, or items like machinery, tools and vehicles. Instead of paying for large purchases all at once upfront, business owners make monthly payments. Equipment loans are often easier to obtain than other types of loans because the equipment being purchased or leased serves as collateral. Equipment loans preserve cash flow since they don’t require a large down payment and may offer some tax write-off benefits.
  • Merchant cash advance (MCA): This type of loan is made to a business based on the volume of its monthly credit card transactions. Businesses can typically receive an advance of up to twice their monthly transaction volume. Repayment terms vary by lender. Some take a fixed amount of money from a business’ merchant account daily while others take a percentage of daily credit card sales. MCAs are relatively easy to obtain. Funding can take just a few days and the loan is repaid from credit card sales. The biggest downside is the expense: Interest runs as high as 30 percent monthly, depending on the lender and the amount borrowed.
  • Lines of credit: Like working capital loans, business lines of credit provide small businesses with money for day-to-day cash-flow needs, but they’re not recommended for larger purchases. They’re available for as short as 90 days to as long as several years. With a line of credit, you take only what you need and pay interest only on what you use instead of the entire amount. These loans are usually unsecured and don’t require collateral. They have longer repayment terms and allow you to build up your credit rating if you make the interest payments on time. However, the additional fees add up and these loans can put small businesses in jeopardy of building up a large amount of debt. 
  • Professional practice loans: Professional practice loans are designed specifically for providers of professional services, such as businesses in the healthcare, accounting, legal, insurance, engineering, architecture and veterinary fields. These loans are typically used for purchasing a practice, real estate or new equipment; renovating office space; or refinancing debt.
  • Franchise startup loans: Franchise business loans are designed for entrepreneurs who need financing to open a franchise. These loans, offered by banks and alternative lenders, can be used for working capital or to pay franchise fees, buy equipment and build stores or restaurants.
  • Invoice factoring: Invoice factoring loans are when an alternative lender advances small businesses money for outstanding invoices. As the invoices are collected, the lender receives the money in addition to a fee. This can be a good option for businesses looking to get funding upfront for invoices that have yet to be paid.
TipTip
No matter what type of loan you get, always scrutinize loan contract terms, including the lender's expectations, repayment terms and what happens if the borrower defaults.

Small business loan FAQs

Do you still have more questions about various loan options? No problem. Here are some questions and answers that may help you decide.

What is the easiest business loan to get?

If speed is of the essence and you have a great credit score, online lenders will be the quickest route to funding. You can apply, be approved in minutes and receive your funding in a few days. If you have a less-than-stellar credit score, you have a better chance of getting approved with an alternative lender than a traditional bank. SBA loans are another option, but the application-to-approval time can take much longer than with an online lender. 

What do lenders consider when reviewing a loan application?

Banks and alternative lenders consider various factors, including the following:

  • How long have you been in business? The longer your track record, the more comfortable lenders will feel loaning your business money.  
  • What’s your credit score? While some lenders place more stock in credit scores than others, nearly all consider the scores. A bad credit score won’t necessarily rule you out but will affect your loan terms. The worse your credit score, the higher your interest rate will be.
  • What’s your monthly revenue? Lenders want to ensure you have enough money coming into your business to pay off the loan.

Lenders may also consider previous tax returns, whether you have a history of paying creditors on time, whether you’ve filed for bankruptcy, if you’ve bounced checks, whether you have sufficient collateral and what you plan to use the money for. 

Does it cost money to apply for a loan?

It depends on the lender. It’s important to ask what types of fees are associated with the application. Some lenders charge an application fee, while others charge fees for items tied into the application, such as the cost to run your credit report or appraise your collateral.

Where can I find an SBA loan application?

Loan applications are available on the SBA website.

If I apply for an SBA loan, what information will the bank ask for?

When applying for an SBA loan, small business owners must fill out forms and documents for the specific loan they want. In addition, the SBA encourages borrowers to gather basic information all lenders will ask for, regardless of the loan type. The following items are required:

  • Personal background and financial statements
  • Business financial statements
  • Profit and loss statements
  • Projected financial statements
  • Ownership and affiliations
  • Business license or certificate
  • Loan application history
  • Income tax returns
  • Resumes
  • Business overview and history
  • Business lease

What questions will I have to answer when applying for an SBA loan?

The SBA recommends being prepared to answer several questions, including the following:

  • Why are you applying for this loan?
  • How will the loan proceeds be used?
  • What assets need to be purchased and who are your suppliers?
  • What other business debt do you have and who are your creditors?
  • Who are the members of your management team?

What will I need if I’m applying for a conventional loan from a bank?

When applying for a bank loan, you must share all your financial details. You’ll need to provide your lender with your company’s complete financial background, your future growth plans and often your personal financial information. The more information you have to illustrate that you’ve run your business well, the more confidence banks will have in investing in you.

You also must show exactly how you will use the requested money. For example, if you want to purchase new equipment, provide quotes on the exact costs, how much capital you need to facilitate this purchase and specifically how the new equipment will grow your business.

What type of information do I need to provide to alternative lenders when applying for a loan?

Even though it can be easier to obtain a loan from alternative lenders, you still must provide them with an array of personal, business and financial information. Not all lenders ask for the same information. They may request a plan for how the money will be used, your credit history and verification of your income and assets.

What do I need to consider when applying for a loan through an alternative lender?

When considering an alternative lender, look at the following factors:

  • Interest rates: Small business owners should know they can repay the loan relatively quickly to avoid hefty interest charges.
  • Fees and policies: Speak with each lender about fees that may apply when the loan is funded and how the repayment will affect your cash flow.
  • The lender’s ratings and reviews: Many companies today say they’re alternative lenders. However, look for lenders with an A+ rating with the Better Business Bureau.

The best business loan providers

Ready to apply for small business funding? The below lenders rank among our picks for the best business loans.

  • Businessloans.com: Businessloans.com is a service for finding and comparing loan options based on your needs. Read our Businessloans.com review to learn more.
  • Biz2Credit: Biz2Credit is a marketplace lender, meaning you can use its platform to explore various loan types for your business. Read our Biz2Credit review to learn more.
  • SBG Funding: SBG Funding is known for offering flexible terms that can relieve some of the potential stresses of taking out a loan. Read our SBG Funding review to learn more.
  • Fora Financial: Fora Financial’s short-term loans can be great introductory loan products. Read our Fora Financial review to learn more.
  • Noble Funding: Noble Funding will work with you only when its team is 100 percent certain it can provide you with funding that meets your needs. Read our Noble Funding review to learn more.

Finding the funding you need

With enough preparation, documentation and patience, you can increase your chances of getting approved for a highly beneficial business loan. Strong planning can also put you in a position to make your loan payments on time and face no issues covering fees and interest. Since you have to spend money to earn money, pursuing a loan is one of the smartest business decisions you can make.

Max Freedman and Donna Fuscaldo contributed to this article.

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Matt D'Angelo, Business Operations Insider and Senior Writer
Matt D'Angelo has spent several years reviewing business software products for small businesses, such as GPS fleet management systems. He has also spent significant time evaluating financing solutions, including business loan providers. He has a firm grasp of the business lifecycle and uses his years of research to give business owners actionable insights. With a journalism degree from James Madison University, D'Angelo specializes in distilling complex business topics into easy-to-read guides filled with expertise and practical applications. In addition, D'Angelo has profiled notable small businesses and the people behind them.
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