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Are unsecured loans or secured loans better for growing my business?

Term loans

Are unsecured loans or secured loans better for growing my business?

Are unsecured loans or secured loans better for growing my business?

Updated: Jan 18, 2019

Whether you’re just starting out or have been grinding for years, there may come a time when cash gets tight.

While this may mean it’s difficult to cover recurring operating expenses, it could also mean you have enough money to get by — but not enough to take advantage of long-term or spontaneous growth opportunities.

According to a recent study, 41 percent of businesses have dealt with cash flow problems within the last year. What’s more, 59 percent of those businesses say that the financial impact of cash shortages is consequential or highly consequential, while 56 percent say the same of the emotional toll cash flow problems have on their well-being.

The good news is that if money’s tight, you have some options. You could raise your prices — but at the risk of potentially alienating some customers. You could also try to cut costs — but you might end up hurting your customer service or cheapening the quality of your products.

Instead of rolling the dice in either direction, many small business owners — even those with less-than-ideal credit, those who’ve bootstrapped their companies, and those who’ve just opened their doors recently — look to outside sources of financing when cash shortages are on the horizon.

But what kind of funding should you look for? For many, it can be helpful to start by choosing between an unsecured loan and a secured loan.

What’s the difference between an unsecured loan and a secured loan?

Secured loans put the burden on the borrower — that is, on you, the business owner.

With secured loans, borrowers generally need to put up collateral, like a house, car, or equipment. This way, in the event the borrower is unable to repay their loan, the lender is off the hook; they’ll simply sell the collateral to recoup their losses. Examples of secured loans include mortgages and auto loans.

Generally speaking, borrowers can get more financing, lower interest rates, and longer repayment terms with secured loans because the lenders incur less risk. In most cases, however, secured loans have to be used for very specific purchases which borrowers outline in their applications; there isn’t much flexibility in how the funds can be spent.

Unsecured loans, on the other hand, put more risk on the lender. Borrowers approved for unsecured financing with attractive interest rates tend to have solid financials and excellent credit scores. Unsecured financing for borrowers with less stellar credit or a thinner credit history will typically be more expensive. Examples of unsecured loans include personal credit cards, signature loans, and student loans.

While unsecured loans tend to have a faster application process, borrowers can usually expect higher interest rates and shorter repayment terms because lenders incur more risk. In some cases, however, borrowers might be able to lower their interest costs with a personal guarantee (that is, an agreement that you will be personally responsible for the debt).

How do I know if an unsecured loan or a secured loan is right for my business?

No two businesses are the same. So how can you decide whether a secured loan or an unsecured loan makes the most sense for your business? Let’s take a look.

Secured loans are perhaps best for businesses that need a significant amount of financing. What qualifies as “significant?” For one example, business loan amounts from the Small Business Administration go as high as $5 million! If you’re looking to buy new construction equipment, finance a large purchase order, or acquire commercial real estate, a secured loan may be the right choice.

If you don’t want to incur significant interest expenses, you may prefer a secured loan, too. Keep in mind, though, that you’ll likely have to put up collateral to obtain the loan. Even if you have the best business plan in the world, nobody can predict the future. In the event you’re unable to repay your secured loan, you may lose your home, car, or other property.

For some businesses, particularly those just starting out, secured loans may be the only choice. Remember, most lenders won’t give unsecured loans with reasonable interest rates to businesses with suboptimal credit scores, or those that have only been open for a short while.

If you don’t need a lot of funding and you don’t want to risk losing collateral, an unsecured loan may be a better option — particularly if you don’t have a lot of time to spare, as the unsecured loan application process tends to be quicker.

Unsecured loans, however, usually have some drawbacks — the biggest one being personal liability. Since you’re not providing collateral, in most cases you’ll be personally liable for the loan. That means that in the event you don’t or can’t repay what you borrowed, the lender could come after your personal assets.

With unsecured loans, you will typically find smaller loan amounts. Some may see this as a drawback, but others may simply want to borrow less money and see this as a positive feature.

How you can use secured and unsecured loans to grow your business in 2019

By now, you understand the differences between secured loans and unsecured loans. You may even have an idea about which financial vehicle makes the most sense for your business.

But how exactly can you use a loan to grow your business this year? Here are nine ideas:

  • Launch or re-launch your business. Need a new start? Consider a grand opening or re-opening. Use a business loan or a loan from the Small Business Administration (SBA) to spruce up your retail shop, decorate your storefront, and cover other expenses associated with re-launching your business. Depending on how much money you need, you may also be able to secure a large enough line of credit to cover these costs as well.
  • Bridge cash flow gaps. Instead of struggling to figure out where to find the cash to pay your bills each month, consider using a loan to cover your operating expenses. In this situation, invoice financing or a business line of credit might be just what you need to spend more time focusing on the bigger picture: growing your business.
  • Hire new employees. With money in the bank from a business loan, you can hire additional employees — and/or raise the pay of your existing team to keep them engaged and happy.
  • Open a second location. If you run a restaurant, retail store, or construction company, you can use a traditional term business loan, SBA loan, or a large enough line of credit to open an additional location in a nearby town. Double your footprint and you may end up doubling your revenue — or even tripling it.
  • Buy new equipment. Have you been relying on construction equipment that’s nearing the end of its useful life? Are you using computers and other technologies that are 10-plus years old? Consider using an equipment loan to get new equipment that increases productivity and enables you to do better work.
  • Create a new product or service. Even the most successful businesses can’t rest on their laurels forever. Use a business loan to develop new products or services — either by hiring more people or working with a third-party agency or vendor.
  • Launch a new marketing campaign. Not everyone knows about your business just because it exists. To raise brand awareness, entertain and educate your customers, and otherwise grow your company, you need to market your services and offerings — at least every now and again. If money’s tight, consider using invoice financing or a business line of credit to cover increased marketing expenses. A well-conceived campaign should return plenty of value, in the form of new sales and customers, to offset your marketing costs.
  • Remodel your storefront or dining room. If stepping into your retail outlet or restaurant feels like hopping into a time machine, it’s probably time to renovate your storefront or dining room. Consider whether an SBA loan, business loan, or line of credit could help you give your property a facelift.
  • Modernize your website. When’s the last time you updated your website? If it’s been a while, use a business loan or line of credit to bring your website up to speed. This is important because, if, for example,  your site isn’t optimized for mobile, visitors are five times more likely to abandon it, according to Google. By modernizing your website, you can deliver positive user experiences — which should translate into more sales.

Cash flow problems are part of running a small business. Not only can cash shortages make it difficult to pay your bills, but they can also make it that much harder to focus on growth opportunities — some of which might appear out of the blue and require immediate action.

Instead of worrying about how you’re going to pay your bills each month, it may make more sense to apply for a secured or unsecured loan. Whether that comes in the form of a secured loan or an unsecured loan (and whether you choose invoice financing, a business line of credit, an SBA loan, an equipment loan, a traditional business loan, financing from an alternative lender, or something else), the type of financing you choose will depend on what you qualify for and your specific situation.

If approved, you’ll have cash in the bank — enabling you to stop wondering where the money will come from and start focusing more on what you need to do to grow your business.

Irene Malatesta

Irene is a business content strategist with Fundbox, where she works with entrepreneurs and mission-driven businesses to bring their stories to life. Fundbox is dedicated to helping small businesses grow by democratizing access to credit.

Tags: Term loans

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