Many entrepreneurs and established business owners may be unaware that not all business loans require collateral, especially if they have rarely sought out a loan for their business beyond a credit card offer. While banks often do require collateral for first-time business borrowers with insufficient business credit history, this is not an absolute requirement. There still must be a security, including but not limited to a personal guarantee.
The first way Veillon recommends to avoid the need for collateral is by factoring a busy collection of revolving credit invoices. If you extend credit to clients in 30/60/90 NET, you can turn that around into a revolving line of credit (or “RLOC”) to speed up cash flow to your business. In a very real sense, this is not so much a loan as it is simply a liquidation of your current unpaid invoices. This method is often not enough to replace collateral on its own, however.
The Small Business Association loan program. If accepted to this program, the SBA usually guarantees 75% of any loss on the loan to the lender. This incentive lowers the risk for the commercial lender, and thus the interest that would otherwise be required on the loan. While many alternative lenders do require a personal guarantee of cash flow, these lenders do not necessarily require collateral on an SBA loan.
So what can I do to prepare for my business loan application?
We’ve got you covered. Below is a checklist to make sure you’re ready when it comes time to apply for your business loan.
Variable Interest Rate Loans
These can allow flexibility to pay more principal seasonally, but the rate goes up or down with market interest rate fluctuations. This is not an ideal route when trying to save money.
Merchant cash advance financing is generally the most expensive type of loan and should be used only as the last resort. The interest rates are exorbitant and are not intended to be competitive with lower interest loans.
Loan Application Preparation Checklist
1) Verify Business Cash Flow Projections
Most unsecured loans garner high interest when the applicant’s credit score is lacking and ample incoming revenue is not documented. The annual percentage rate (APR) starts anywhere from 10% for highly creditworthy borrowers to well beyond 100%. Before beginning your loan search, assess cash flow projections to verify you have sufficient funds to repay the loan. Defaulting on a loan can quickly damage your credit score, making it more difficult to obtain future financing. These days, due to the 2008/2009 credit crunch, the projections should really reflect your past five years to be eligible to skip the collateral requirement.
2) Improve Your Credit Score
Raise your credit score by knocking out any missing or late payments. Review your payment schedules to prevent late or insufficient payments. Use a payment calendar that updates you to your mobile phone as a reminder. You may also try to negotiate with creditors to prevent or correct any information you think is unfair. Usually, if you have a good relationship with the creditor, it may be possible to make some minor infractions go away, especially if you believe that mere technical glitches stood in the way of your timely payment here or there. Making your monthly payment a little higher can often put you in another class of borrower and more quickly improve your ranking as a borrower at that institution.
While an unsecured loan can be arranged even with bad credit, you will pay higher interest. The best and fastest way to improve your score is to lower your existing credit utilization ratio, which is the ratio that reflects the amount of debt you carry in relation to your available credit. This ratio makes up for 35% of your credit score. If your total debt exceeds 25% of your available credit, expect this to act as a drag on your score, pulling it downward. You can easily improve this credit utilization ratio by paying down more on the debt each month, or even paying it off all at once. Sometimes, people and businesses keep a high ratio of debt thinking that zero interest on a balance transfer is a win-win, but if the resulting credit utilization ratio is too high, you might have access to far more credit by simply keeping a lower balance due.
3) Create a Thorough, Convincing, Well-Documented Business Plan
It’s never too late to start formulating your business plan on paper. The business plan should detail things like: purpose of the business (often arrived at via a mission statement), the strategy of making revenue (what you sell), your growth strategy, as well as detailed financial statements, your cash flow projections and, finally, the purpose of the loan. While many lenders won’t ask for a formal business plan, the borrower will nonetheless be expected to prove adequate revenue generation for at least the past 5 years to qualify for a no-collateral loan. Even peer-to-peer or marketplace lenders require the borrower to demonstrate why the loan is a good risk on paper.
4) Research Available Lenders
Alternative or commercial lenders typically do business from online. Loans are advertised to be faster and more trouble-free than bank loans.
The majority of current alternative lenders will look at the credit score and business revenue history. They do differ in preferred forms of loan qualification, however. Usually this amounts to favoring one measure over another, lowering the credit score requirement while raising the revenue requirement, and so on.
When seeking out a loan, ask if the lender reports credit payments to the credit beureaus. If so, you can count on building your credit history in the process of taking out the loan. If not, you might consider choosing one that will.
Always avoid the prepayment fee by using an early repayment schedule, rather than an unecessarily extended one.
We hope this article helps you to better understand the complex world of no-collateral loans. For more help, contact Veillon for more information.