Everything You Need to Know About Working Capital Loans

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working capital loan business loan

Working capital is essential to any operation that intends to stay in business for an extended period of time. Without proper management of working capital—the capital used to finance everyday operations—you risk putting your business in serious financial trouble.

Managing business finances is a constant balancing act; you need to be sure you have enough capital to cover everyday needs, but you don’t want so much sitting around that you aren’t investing it properly in growing your business. Even then, to keep your finances balanced and take advantage of business opportunities, you may need to borrow additional capital.

What exactly is working capital? And how do loans fit into the equation? Keep reading to find out!

Want help finding a business loan? Apply now to Merchant Maverick’s Community of Lenders. We’ve partnered with banks, credit unions, and other financiers across the country to bring you fast and easy business financing.

What is Working Capital?

Working capital, according to Investopedia, is “a measure of both a company’s efficiency and its short-term financial health.”

What does that mean? It’s a measure of how much money you have left to pay for business operations after you’ve accounted for all your short-term business liabilities. The calculation is simple:

Current assets – current liabilities = working capital

Current assets include all the assets coming into your business that can be converted to cash in the next year. Obviously, this includes everything already in the form of hard cash, as well as assets such as inventory and accounts receivable.

Liabilities, as you might imagine, include all the debts you’ll have to pay in the next year. Short term debt (debt due within the year), accounts payable, and taxes payable all count as liabilities. Debts that are paid out over a term longer than a year, such as long-term loans and mortgages, are not included in this number.

For example, your business’s assets and liabilities might look something like this:

Current AssetsCurrent Liabilities
Cash$2,000Tax payable$4,000
Inventory for sale$5,000Accounts payable$3,000
Accounts receivable$3,000Credit card$1,000

In the above example, your business would have $2K worth of working capital left: $10,000 – $8,000 = $2,000.

With this information, you know how much money you have left to pay for other business operations that may need your attention.

Positive VS Negative Working Capital

Ideally, your current assets outweigh your current liabilities. This is called positive working capital. On the other hand, if the sum of your liabilities is larger than the sum of your assets, you have a negative working capital.

While you can operate with negative working capital for a time, doing so leaves very little room for error; you may find it difficult to purchase inventory or pay your debts.

Working Capital Liquidity

There is one more thing to consider regarding working capital: its liquidity. Not all of your current assets are in the form of cash. Great as having soon-to-be-money is, you cannot pay the bills with inventory or unpaid invoices.

When calculating working capital, be aware of how long it takes you to convert your assets to cash. If you work in retail, it may only take you a week or two to turn over your inventory and collect your invoices. Other businesses may take longer to accomplish the same tasks.

Working Capital Loans

Whether you’re working on achieving positive working capital, considering a large opportunity that will tie up your cash (but make you more money in the long run), or are simply in need of more cash to tide you over until your assets are converted to a usable form, you may need to borrow capital.

In these situations, a working capital loan might come in handy. These loans are used to pay for everyday business operations—such as rent, utilities, payroll, and inventory—while your capital is tied up elsewhere.

Reasons to Get a Working Capital Loan

Working capital loans are used for a specific purpose – paying for everyday business operations – but there are many different scenarios in which you might have to borrow money. Here are the most common reasons businesses take out a loan of this sort.

Seasonal Sales Fluctuations

Seasonal businesses often take out loans to help pay for everyday business needs while sales are slow. Businesses might also take out loans to pay for working capital needs before a busy season, such as a holiday, so their capital can be allocated elsewhere.

For example, a retail business might take out a working capital loan to pay for additional inventory before the holidays. Conversely, a tourist boat rental service might take out a loan to pay expenses during the fall and winter.

New Business Growth Spurts

New businesses often have difficulty making ends meet while their business is growing. With a working capital loan, you can be sure you always have enough money to keep day-to-day operations running as they should be. Meanwhile, you have the freedom to seek out new clients, market your business, or do whatever else you need to do.

To Capitalize on an Opportunity

Nothing is worse than passing up on a big opportunity because you don’t have the funds. If you come across an opportunity that will be good for your business in the long run, but may not pay-off for a while, a working capital loan can help you bridge the gap.

Cash Cushion

If your business doesn’t have a lot of cash reserves, this type of loan can be used to ensure you have additional capital in case something unexpected happens.

Inconsistent Cash Flow

When customers take a long time to pay invoices, your inventory takes a long time to turn over, or your cash flow is inconsistent for other reasons, a working capital loan can be used to bolster your cash flow so you always have money when you need it.

Types of Working Capital Loans

Working capital loans can come in many different forms. The best loan for you will depend upon your business assets and your financial situation.

Here are the most common types of loans businesses use for working capital needs:

Lines of Credit

Lines of credit are an excellent choice for working capital needs if you don’t know how much capital you need, or if you occasionally need money to capitalize on unexpected opportunities.

Lines of credit have a two-fold appeal. First, once you apply for and secure a credit line, you can access the capital (up to your borrowing limit) whenever necessary—no application necessary. Second, you only have to pay interest on the capital that you borrow; there’s no need for you to pay interest or fees on capital that you aren’t utilizing.

Short Term Financing

Loans (or advances) with repayment terms two years in length are excellent for working capital needs for one simple reason: they are repaid in a short amount of time. Working capital needs are short term, so you don’t really want to be stuck making payments on a loan you no longer need.

In addition, short term financing is significantly easier to get than longer-term loans. Most businesses are eligible for short term financing, even if they haven’t been in operation very long or have sub-par credit.

Invoice Financing

You can’t always get your clients to pay your invoices in a timely manner, but that doesn’t mean you can’t use those invoices to get money.

When you enter into an invoice financing agreement, the financier purchases your unpaid invoices in exchange for up-front capital. You’ll have to pay a little bit of money for the service, but many businesses feel it’s worth it to have a steady cash flow and working capital when needed.

Should You Get a Working Capital Loan?

Loans should not be taken lightly. Before borrowing, ask yourself these questions to make sure that you’re doing the right thing for your business.

Have I explored all other options?

Before seeking outside help, you may be able to find other ways to cut expenses, smooth out cash flow, or otherwise improve your working capital situation. Can you give your customers incentive to pay invoices earlier? Can you cut products that aren’t selling as fast or cost too much to make?

How will I use this money?

If you get a working capital loan without having a plan regarding how you’ll use the money, you risk paying for more than necessary or putting your business in a poor financial situation. Always have a plan that dictates how you’ll use the money, and how much money you need.

Will this loan put my business in a better financial situation?

You don’t just need to know how you’ll use the money, you need to know that the loan will be beneficial for your business.

Depending on expense and speed of repyament, some working capital loans can easily send a business into a debt spiral. To avoid this contingency, always ensure you can actually make the payments and that the benefits of the loan outweigh the cost.

Do I understand the true cost of this loan?

This question should be asked every time you get a loan, whether it’s for working capital needs or not. To ensure you understand the cost of the capital, and that you’re getting the best deal, make sure you know the interest rate, the fees associated with the loan, the APR, and the total dollar cost of borrowing the loan.

5 Great Working Capital Lenders

There are many lenders out there that offer excellent working capital products. I’d strongly advise that you fully explore your options and make some comparisons before setting on a product, but here are some of Merchant Maverick’s favorites to get you started.

PayPal Working Capital

PayPal review
Time in business:3 months
Credit score:n/a

Products offered: Short term loans

With a seamless application and repayment process, PayPal Working Capital is a useful resource for eligible merchants. PayPal doesn’t care about your credit score and has very minimal requirements for how long you’ve been in business and how much money you make.

It’s worth mentioning that Square offers a similar service to their users, called Square Capital.


bluevine logo
Time in business:3 months
Credit score:530

Products offered: Lines of credit, invoice financing

BlueVine offers an invoice financing product. Unlike invoice factoring companies of old, however, BlueVine does not require long-term contracts, leaving the choice of when you want to finance an invoice, and which invoices you want to finance, completely up to you.

If you don’t process invoices, the company also offers a traditional line of credit.


Time in business:1 year
Credit score:600

Products offered: Short term loans, lines of credit

StreetShares is a P2P lender in, perhaps, the truest sense of the definition: investors bid to lend you money; the more bids you get, the lower your interest rate will be. This company offers lines of credit and term loans to eligible borrowers.

Regardless of how many bids you get, this lender tends to be less expensive than others with similar borrower requirements. Furthermore, with term lengths that range from 3 – 36 months, these loans are perfect for working capital needs.


AMEX Settlement Advance

american express merchant financing
Time in business:2 years
Credit score:n/a

Products offered: Monthly recurring short term loans

A settlement advance is one of the products offered by Merchant Financing, the business lending branch of AMEX’s service. Every month, AMEX will wire along a lump sum, which you repay throughout the course of the month before getting your next loan.

Be aware that you do have to have a history of processing AMEX cards to be eligible for this loan.


smartbiz logo
Time in business:2 years
Credit score:650
 Revenue:n/a — see full review

Products offered: Short and long term loans

SmartBiz is a Small Business Administration (SBA) lender that uses technology to streamline the normally complicated and frustrating loan application process. Applications that normally take months with the SBA only take a few weeks with SmartBiz.

This lender only offers the general 7(a) small business loan, however. The SBA at large offers many different loan programs, and if the 7(a) is right for you, I’d recommend looking at what else the SBA has to offer.

Final Thoughts

Solid working capital is essential to keep your business running smoothly. It doesn’t really matter if it’s an ongoing problem or a one-time thing; if your business is having difficulty paying the bills, it’s important to find a product that will help you keep your lights on and employees paid.

Bianca Crouse

Bianca Crouse

Bianca is a writer from the Pacific Northwest. As a product of the digital age, she likes absorbing large amounts of information and figures she might as well pass it on. When not staring at a screen, she is probably foraging for food outside, playing board games, or harassing somebody with theories about that movie she just watched.
Bianca Crouse
Bianca Crouse

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1 Comment

    shahidul islam

    much impressive. I would like to learn more things about working capital loan sanctioning procedure from the point of view as an banker. Your best co-operation always to be appreciated. Thanks a lot.

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