What Is A Commercial Loan?

Has your business received an offer for a commercial loan. Maybe you’ve heard the term and you aren’t sure what this type of funding entails.

Commercial loans are easy to understand. We’ve compiled this guide to explain commercial loans, what they are, and how to get one for your business.

What Are Commercial Loans?

Unlike personal loans, commercial loans are a financial agreement made between a business and a financial institution or private lender. The business takes on debt from the lender in exchange for capital.

This money can be used for business expenses, inventory, or operating costs. A commercial loan is more or less a synonym for a business loan. Commercial loans aren’t specific types of loans, but rather a category of loans or other financing products that lenders offer to businesses.

Where Can I Get A Commercial Loan?

Banks are still a great option for commercial loans, offering low rates and favorable terms. However, borrowing requirements are strict, so bank loans may be out of reach for new businesses or those with bad or no credit.

The private, alternative lending market picks up where banks leave off. These lenders have easier qualifications and quicker applications. Most also have a broader national focus which is helpful if your business is located in an underserved area. The trade-off is typically higher rates and stricter repayment schedules since these loans are private capital investment opportunities rather than banking services.

Types Of Commercial Loans

There are several types of commercial loans, which we’ll break down briefly below:

Term Loans

Term loans (also known as medium-term loans, long-term loans, or installment loans) are your standard business loan. A business receives a lump sum of cash to use for business expenses.

Loan terms are generally up to 10 years, and interest is paid in addition to the principal (the amount borrowed). Most term loans have fixed, monthly payments.

Short-Term Loans

Short-term loans are similar to term loans. The primary difference is that these loans have shorter repayment terms of two years or less.

Instead of interest, many short-term loans use a factor rate. This may be expressed as a percentage (18%) or a multiplier (1.18). This factor rate can be multiplied by the amount borrowed to determine your cost of borrowing.

Short-term loans typically have fast application and funding processes but are more expensive than other business funding. Payments may be required daily or weekly.

Small Business Administration (SBA) Loans

SBA loans are low-interest, long-term loans backed by the government. Since the risk is reduced, lenders are more apt to loan to businesses that don’t qualify for traditional bank loans.

Popular SBA loans include SBA 7(a) and CDC/504. Both loans offer high borrowing limits, competitive interest rates, and favorable repayment terms.

SBA loans have a lengthy application process, often taking a month or longer from application to funding.

Equipment Loans

If you plan on buying equipment with your loan, you may want to consider an equipment loan. Equipment loans look a lot like term loans but are specifically used to cover a percentage (85% is typical) of the cost of equipment.

Equipment loans use the equipment you’re purchasing as collateral, meaning you get the benefits (lower rates, longer terms) of a secured loan without putting up any of your own assets.

Commercial Lines Of Credit

A commercial line of credit is a flexible form of funding that allows you to make multiple draws as needed up to your assigned credit limit.

There are two kinds of lines of credit:

• Revolving: Any balance you pay off becomes available for use again.
• Non-Revolving: Any balance you pay off is unavailable for use again. Once the credit is used, it’s gone.

The convenience of this type of loan comes at a premium. Lines of credit may have higher rates, annual fees, or withdrawal fees.

Alternative Business Financing

While the following products aren’t loans, they’re worth learning about because you’re more than likely going to run into them in your search for commercial loans. Read on for a quick rundown.

• Merchant Cash Advances (MCAs): Rather than lending you money, a funder buys a percentage of your future credit/debit card sales. MCAs fall into the same niche as short-term loans. You get a lump sum of money, are charged a flat fee, and make daily payments. Instead of fixed payments, however, your merchant cash advance funder will take a percentage of your daily card sales.
• Capital Leases: These are an alternative to equipment loans. While the word “lease” suggests renting, capital leases are actually designed with ownership in mind. You’ll receive the full cost of the equipment covered in exchange for a higher interest rate. Like a term loan, you’ll pay a capital lease off monthly and at the end of the lease there will be a small remainder (called a residual) that’s paid to purchase the equipment.
• Invoice Factoring: With invoice factoring, you’ll be able to get an advance on your accounts receivable by selling them to a factoring company at a small loss. That company then collects the invoice in your place. You’re paid the majority of the invoice’s value as a lump sum upfront, with the remainder paid out to you (minus a fee) when and if the factoring company collects on the invoice.

How To Qualify For A Commercial Loan

You can narrow down your potential options for funding by eliminating any options that you don’t qualify for.

Qualifications vary from lender to lender, but these are the main things lenders look for.

What To Look For In A Commercial Loan

Just because you qualify for a loan doesn’t mean that a lender meets your qualifications.

Here’s what to keep an eye on:

• Borrowing Amount: Make sure that the loan you choose is large enough to cover your expenses. Banks typically offer higher borrowing limits than online lenders.
• Term Lengths: Find the term lengths that work best for you. Longer repayment terms are usually reserved for more established businesses with good revenue and credit scores.
• Interest Rates & APRs: You want to get the most affordable loan you can. Annual percentage rates (APRs) are one of the easiest ways to make direct comparisons between different products. Short-term loans use flat fees rather than interest rates, so you aren’t able to use APRs to compare; there are other tools available to help you make the conversion.
• Transparent Fees: Some lenders are sneaky and add in fees that drive up the cost of borrowing. Look for lenders that minimize fees and are transparent about all costs associated with borrowing.

When considering a commercial loan, it’s a good idea to do your research, compare your options, and be sure that you’ve exhausted all other resources before taking on debt.

If you’ve decided a loan has a good ROI for your business, you can get started with your research and comparison with the best small business loans. Good luck!