The availability of dependable cash flow can have a big impact on the success of a small business. Yet a 2021 report from the Federal Reserve shows that, when businesses applied for financing, nearly 60% of applicants were either outright denied or able to borrow only a portion of the money they needed.
It’s tempting to look at the bank as the bad guy in this scenario. Yet it’s important to understand that smaller commercial loans aren’t always a good fit for large traditional lenders. From a processing and profit standpoint, issuing smaller commercial loans might not be practical for some lending institutions.
So, what options do small business owners have in this situation? For many small business owners who are stunned to learn how hard it is to get a business loan, the answer is to consider alternative business loans.
What are alternative business loans?
Alternative business loans are business loans, lines of credit or other forms of business financing offered by lenders other than through traditional banks. They are also often called online loans because they are accessible through online applications and platforms.
Alternative business loans vs. traditional business loans.
Traditional business loans are generally associated with banks and credit unions, where the application process can be lengthy and requires extensive documentation, such as financial records and business plans. Interest rates might be lower, but qualifying for these loans is often a challenge for small businesses without a strong credit history or significant collateral.
On the flip side, alternative business loans, accessible through online lenders, provide a more streamlined application process, often with less stringent requirements for credit scores and documentation. They can be a boon for businesses needing quick cash flow solutions, as approval times are significantly shorter, sometimes even within the same day. However, this convenience can come at a cost, with potentially higher interest rates and fees than traditional loans.
What are my alternative financing options?
Here are some examples of alternative financing options available to small businesses.
Business term loans.
Business term loans are what many people think of when they think of business financing. Term loans often feature fixed interest rates, fixed monthly payments, and a fixed number of monthly payments (aka repayment period). Depending on the lender, you may be able to use the funds you borrow for a variety of purposes, from equipment needs to cash flow support to expansion.
Short term loans.
Short term loans earn their title because they typically feature a shorter repayment period. With this type of alternative business loan, you might have to repay your loan within a year or less, though terms can vary. These loans sometimes come with weekly or even daily payments as well.
This loan option could be helpful if your business needs to access funds in a hurry (provided you’re working with a reputable alternative lender). However, you should make sure the loan offer makes sense for your business and that you can manage an expedited repayment schedule. A business owner might consider this type of loan to address a financial slump, manage a seasonal downturn, finance short-term projects, and more.
Equipment financing
Equipment financing is a type of loan that can help you finance essential tools and equipment for your business to operate. The equipment itself typically serves as collateral for the loan. As a result, you may be able to lock in a better rate for this type of financing, compared to other borrowing options. Depending on the lender, however, you may also need to provide a down payment.
SBA loan
Although you can apply for SBA loans with traditional banks, some online lenders offer them as well. Loans backed by the U.S. Small Business Administration can be a great fit for small businesses, since they often feature affordable rates, high loan amounts, and lengthy repayment terms.
On the other hand, the approval criteria for SBA loans tends to be on the stricter side. For example, with SBA 7(a) loans, you’ll need a minimum FICO® SBSS Score of 155 to qualify. SBA loans also tend to feature slower funding periods with loan processes that often take weeks or even months to complete.
Business credit card.
Business credit cards are a flexible financing option that may be available to established businesses and startups alike. However, you may need good personal credit to qualify. The interest rates on business credit cards (and credit cards in general) are often high. So, it’s best to use this form of financing for short-term cash flow support—never borrowing more than you can afford to pay off in a given billing cycle. When you revolve a balance from one month to the next, interest charges generally apply.
Many business credit cards come with the potential to help you build good business credit for your company as well. And if you open a business rewards credit card, you might earn valuable points, miles, or cash back on purchases that your business already needed to make.
Business line of credit.
A business line of credit is another flexible way to borrow money for your business. When you open a line of credit you receive a credit limit—the maximum amount your business can borrow on the account. As you use the line of credit, your available credit shrinks. But when you repay some (or all) of the money you borrowed, you should be free to borrow again against the same credit line.
Business lines of credit often feature revolving interest rates (like credit cards). These revolving interest rates can range from affordable to high, depending on the lender you choose, your creditworthiness, and other factors. Yet you pay interest only on the money you borrow, not the overall credit line. So, you have a bit more control over the process than you would with a traditional business loan.
Business cash advance.
A business cash advance (also called a merchant cash advance) lets your company borrow against money it will make in the future. In general, the cash advance provider will base the amount your business is eligible to borrow on its credit card sales volume.
As you collect future credit card payments, the cash advance company may take a portion of your daily sales to repay the borrowed funds, plus a “factor rate.” Factor rates can be high, making merchant cash advances a potentially expensive financing option. So, it’s important to review your company’s finances and make sure it can handle the expense and repayment schedule before you move forward.
Accounts receivable financing.
Accounts receivable financing—also called invoice financing—offers small business owners another way to borrow against future earnings. If your business invoices its customers and has to wait to receive payment, you might be eligible for this funding solution.
In general, you don’t need good personal or business credit to qualify for accounts receivable financing. Rather, financing companies will consider the creditworthiness and payment capability of your customers (aka debtors) instead.
Peer-to-peer lending.
Peer-to-peer lending (P2P lending) has emerged as a popular alternative financing option for small business owners. Unlike traditional loans issued by banks or financial institutions, P2P lending allows businesses to obtain capital directly from individual investors. This occurs on online platforms specifically designed to facilitate these types of transactions.
For borrowers, the appeal of P2P lending lies in its potentially lower interest rates, flexible terms, and the ease of application and quick funding times. For investors, it offers an opportunity to earn higher returns on their investment compared to traditional savings or investment products. However, it’s important for business owners to understand that while P2P lending can be less stringent in terms of creditworthiness requirements, the rates and terms vary widely based on the platform and the borrower’s credit profile.
Who are alternative lenders?
Since 2012, more than 100 participants have entered the alternative lending industry. These companies offer a variety of alternative financing options, from term loans to cash advances. The flexibility that alternative business loans offer can make these funding solutions an excellent resource for small business owners.
Lender/funder*Best loan/financing typeLoan/financing amountMin. time in businessMin. credit scoreIdea FinancialLine of credit$10k to $250k2 years650Headway CapitalLine of credit$5k to $100k1 year625Funding CircleTerm loanUp to $500,0002 years660OnDeckTerm loan$5,000 to $250,0001 year625BHG MoneyTerm loan$20k to $500k2 years700Ready CapitalSBA 7(a)Up to $5 million2 years640BalboaEquipment financingUp to $500,0001 year620ClickleaseEquipment financing$500 to $20,000Any520KapitusRevenue-based financingUp to $5 million2 years650Raistone CapitalInvoice Factoring$40k to $500 million+1 yearN/AGillman-BagleyInvoice Factoring$50K to $10 million3 monthsN/AEagle Business FundingInvoice FactoringUp to $5 millionNoneNone, based on your accounts receivable
See our full collection of best business loans.
Pros and cons of alternative lending.
Pros
Below are some of the benefits that alternative business loans have to offer.
Online applications
Most alternative lenders have embraced technology and provide applicants with simple loan applications that take just a few minutes to fill out. By comparison, some business loan applications can take hours or more to complete, given their sometimes heavy documentation requirements. With a simplified loan application process, alternative lenders free small business owners up to focus on what really matters—running their businesses.
Less stringent requirements.
Traditional lenders will consider a variety of factors when you apply for a business loan. A business lender may review your personal credit score, business credit score, time in business, annual revenue, collateral, and more to determine whether or not to approve your application for financing and what terms to offer you if you qualify.
Alternative lenders tend to be more lenient where business loan requirements are concerned. You might be able to get an alternative business loan with less-than-perfect credit, lower annual revenue numbers, etc. There are even first-time small business loans from alternative lenders for eligible startups.
Faster funding speed.
Another potential perk of using alternative business loans has to do with funding speed. When you work with a traditional lender, you might have to wait days or even weeks after qualification to receive your business loan proceeds. The SBA loan process, for example, is reported to sometimes take several months to complete.
With alternative financing, on the other hand, some lenders offer same-day or next-day funding. This can give small business owners faster access to the capital they need in a hurry to manage cash flow, cover expenses, order inventory, invest in growth opportunities, and more.
Credit building potential.
The potential to establish credit for your business is a valuable benefit. Many alternative business lenders also offer their customers the opportunity to build business credit, just like traditional lenders. If you want to establish business credit, you should look for an alternative lender that reports to one or more of the business credit reporting agencies.
Of course, how you manage your alternative business loan matters most where your business credit is concerned. If you have an alternative business loan that appears on one or more of your business credit reports, it’s essential to pay on time every month. (Tip: Some business credit scoring models may reward you more if you pay early.) If you make late payments on your business credit obligations, however, those negative notations have the potential to damage your business credit scores.
Flexible usage of funding.
Some alternative business loans offer business owners more flexibility when it comes to how they use the money they borrow. If you need to secure financing that your business may need to cover a variety of different expenses or investments, having less restrictive rules around how you use the funds you borrow can be useful.
More financing options.
When you apply for business financing from a traditional lender, you might not have a lot of different funding choices available. Alternative lenders, by comparison, offer a variety of financing options, such as those outlined below.
Cons
While alternative lending offers a plethora of advantages, it’s important to approach them with a balanced perspective by considering the possible downsides.
Higher costs
One significant drawback of alternative lending is the potentially higher cost of borrowing. Interest rates and fees may be considerably higher than those offered by traditional lenders, especially for businesses with less-than-stellar credit histories. This can significantly increase the overall cost of financing, affecting your business’s financial health in the long term.
Shorter repayment terms.
Many alternative loans come with shorter repayment terms compared to traditional bank loans. This can result in higher monthly payments, which might strain your business’s cash flow. It’s crucial to assess whether your business can comfortably manage these payments before proceeding.
Risk of unreliable lenders.
The alternative lending space, though innovative, can also attract lenders who are less than scrupulous. Due diligence is essential to ensure you’re dealing with a reputable lender. Look for reviews, testimonials, and any possible red flags before you commit to a loan.
Potential for debt cycle.
Because of their accessibility and speed, there’s a risk of becoming reliant on alternative lending for regular cash flow needs. This can lead to a cycle of debt that is difficult to escape, especially if the business uses new loans to pay off existing debts.
May not report to credit bureaus.
Some alternative lenders do not report to credit bureaus, which means these loans won’t help build your business’s credit profile. If building credit is one of your goals, verify with the lender whether they report to the major credit bureaus before you apply.
Less personalized service.
While not always the case, alternative lenders might offer less personalized service compared to a traditional bank where you might have a dedicated relationship manager. This can make it more challenging to negotiate terms or receive guidance based on your specific business needs.
The bottom line.
Navigating the world of business financing can be complex, but understanding your options with alternative lending is a crucial step towards finding a solution that aligns with your company’s needs and goals. Whether you’re seeking to manage cash flow, expand operations, or simply get through a rough patch, alternative loans offer a range of solutions that might be suitable. Remember, the key is to consider both the immediate benefits and the long-term implications of any financial decision.
Before making a decision, assess your business’s financial health, project future cash flows, and consider how the loan fits into your broader business strategy. It’s also prudent to consult with a financial advisor to understand the full impact of taking on new debt. Ultimately, by doing your due diligence and thoroughly weighing the pros and cons, you can choose a financing option that helps your business grow while maintaining its financial health.
Alternative lending can be a vital resource for businesses that might not qualify for traditional bank loans. However, it’s essential to approach this option with caution, understanding the terms, the lender’s credibility, and how the loan fits into your overall financial strategy. With careful planning and strategic decision-making, alternative lending can provide the financial support your business needs to thrive.
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Information provided on this blog is for educational purposes only, and is not intended to be business, legal, tax, or accounting advice. The views and opinions expressed in this blog are those of the authors and do not necessarily reflect the official policy or position of Lendio. While Lendio strives to keep its content up-to-date, it is only accurate as of the date posted. Offers or trends may expire, or may no longer be relevant.
