Like traditional term loan, short-term business loans can provide companies with working capital to overcome a financial hurdle, pay off higher-interest debt, or quickly jump on a great opportunity when it comes up. The main difference is that your short-term financing will need to be fully repaid soon, often within two years.
Daily payments may be problematic if revenue fluctuates
What is a Short-Term Loan?
A short-term loan is a type of business capital loan that can provide your company with quick working capital. Like most other bank loans, you'll receive a lump sum of cash upfront which is repaid to your short-term lender over a set period of time. In addition to the principal amount you borrowed, your payments also include any lender fees and interest as part of the total cost of the loan. The right short-term financing can make or break a company.
According to a study conducted by the National Small Business Association, 19% of small business owners cite lack of available capital as the biggest challenge in their future growth and 82% of businesses fail because of cash flow management issues.
A short-term loan could help circumvent these issues before they become a real problem for your business.
Types of Short-Term Business Loans
Short-Term Business Loan
$2,500 - $250,000
14% APR and up
3 - 18 months
Time to Funding
As little as 48 hours
Merchant Cash Advance
$2,500 - $250,000
1.14 - 1.18 factor rate
Deducted daily from merchant account
Time to Funding
As little as 7 days
50 - 90% of total invoices outstanding
About 3% + %/week outstanding
When customer pays invoice, you receive remaining 10 -50% (minus factor fee)
Time to Funding
As little as 24 hours
How a Short-Term Loan Works
While the repayment sounds like a fairly straightforward process, there are a few key differences in short business loan terms compared to traditional long term financing you might be more familiar with. First of all, the repayment period is obviously going to be shorter (hence the name). Short loans may only last a few months or up to a year. As a result, the amount of capital you can actually borrow is much less than you'd get with a long term loan.
Even so, you could qualify for a short-term loan of up to $500,000 with lenders like Lendistry.
The way short-term business loans are repaid also differs from typical working capital loans for small businesses. Rather than having a monthly payment, lenders typically require daily or weekly payments based on a factor rate rather than an APR. So if you take out a $50,000 loan with a factor rate of 1.20, your total amount owed actually comes to $60,000. A 12 month short-term loan contains 264 business days, so if you’re required to make daily payments, that amount comes to just over $227 each day.
How Much Does a Short-Term Business Loan Cost
No matter what type of short-term lender you choose, the most important thing to consider is your APR, because that directly affects how much your loan payments add up to.
You most likely won’t get a prime rate with a short-term loan but you can still compare offers to get the best deal possible for your business financing.
And remember that interest rate alone doesn’t reflect the cost of the loan.
Also consider origination fees and any other applicable charges to your loan (all of which should be reflected in the APR.)
It’s also smart to check on late payment penalties and refinancing options just in case you end up needing them later.
Advantages of Short-Term Borrowing
Obviously borrowing any money for your business is a huge decision and should not be taken lightly.
When considering if a short-term loan is right for your company, it’s wise to weigh the advantages and disadvantages.
Build Your Business Credit
First, it’s important to remember that short-term lending is meant to be just that — Working capital to tide your business over a short period of time. The funds are not meant to be used as a long-time investment. Loans typically range between $5,000 and $300,000 but the good news is that the lending requirements are usually more relaxed so it’s easier to get approved. Once you have a proven track record of successfully repaying a short-term loan, you may also increase your chances of qualifying for a larger long term loan in the future.
Seize Growth Opportunities
There are many situations where a short-term business loan could be right for your business. Perhaps you have a large order to fill from a customer, but you need cash upfront to pay your supplier. Without a short-term bank loan, you might have to pass on the deal if you don’t have the working capital available or don’t have a large enough line of credit on your business credit card. But the right small business loan can open you up to new opportunities for growth and expansion.
Quick Approval and Funding
Another example of when a short loan may be right for your business is to cover an emergency expense. Maybe one of the coolers went out at your restaurant, or your delivery truck broke down.
You might not need long term financing for $500,000, but instead just need a small working capital business loan to take care of the emergency. You repay the loan in a year, and can move on to other things. In this situation, a short-term loan might be worth considering because the approval and funding timeline can be faster than other loans.
When you need a business loan now, short-term financing is certainly something to consider.
Disadvantages of Short-Term Borrowing
While short-term business loans come with a lot of attractive qualities, there are some downsides as well.
Higher Interest Rates
One pitfall is the expense of short-term loan rates. Because they last for smaller periods of time and the underwriting standards are more relaxed, lenders may charge higher working capital loan rates to compensate for the added risk. Daily payments might be higher and your business financials might not need to be as strong as when applying for a multi-year loan. But you need to make sure your cash flow allows for frequent payments for the entirety of the loan, otherwise you run the risk of racking up expensive late fees.
Know the Risks
Another issue to be aware of before getting any short-term business financing is the potential of a debt trap. If you’re not able to keep up with your loan payments, you might be forced to continually refinance the loan into a longer repayment period. Each time you do this, you’ll accumulate more interest and fees, and you’ll keep owing more and more money. This is not going to contribute to the success of your business, so only take out the loan if you feel confident you can repay it within the original timeframe. Remember to consider the short-term loan interest rate, loan amount, and repayment term when determining whether taking on any short-term debt is the right financial decision for your company.
How To Qualify
Once you decide to request short-term financing, it’s important to understand the process. Lending standards might be more lenient, but you’ll still want to strengthen your chances. Know that lenders may look at both your business financials as well as your personal credit score.
Get Your Paperwork Started Now
Start off by pulling together commonly required documentation. Most lenders request personal identification, a voided business check, personal tax returns, proof of ownership, and bank statements. The more organized you are, the better. By preparing your information in advance, you won’t slow down the approval time trying to dig up old records. This is especially important if you’re using the loan funds for something time-sensitive.
Demonstrate Ability to Pay
When evaluating your loan application, a short-term lender will pay close attention to your revenue numbers. They likely want to see at least $7,000 regularly deposited into your business account each month. But they won’t just look at the last month or two; regularity is also a factor. You’ll need to meet their revenue standards for at least the five months leading up to your application. They also consider your financial stability, and look for a positive account balance to ensure you’re able to make your payments on time. While lenders do allow for negative account balances, they limit the number you can have to get approved.
Have an OK Credit Score
Although lenders do check your personal credit score, the required minimum can be as low as a 550.
Of course, the better your credit score, the better short-term loan interest rate you’ll qualify for so it’s still important to maintain a healthy credit history.
Keep Credit Utilization Low
In addition to your credit score, however, the lender also looks at both your personal and business debt load.
If either one is already too high, they might be hesitant to extend any new credit.
Finally, in addition to reviewing your financial documents, lenders will also ask about the overall health of your business. When applying for business work capital, it’s best to anticipate the kinds of questions you may be asked and prepare answers ahead of time. For example, a lender might ask whether or not you could repay the loan if your business failed. Alternately, they might also want to hear your thoughts on the future of your industry. A little bit of preparation goes a long way in the loan application process.
Finding a Lender
There are many short-term lenders on the marketplace, especially online.
Fortunately there are several ways to narrow down your options.
Start off by looking at lenders who specialize in your type of business.
Small business lenders may specialize in a type of loan structure, industry category, or lending to businesses of a certain size.
Take Advantage of Existing Relationships
You’ll also notice when researching short-term lenders that you can work with either a traditional financial institution (like a bank or credit union) or an alternative lender. There are pros and cons to each one, and the best choice for you likely depends on a number of factors. If you already have a positive relationship with a local bank, then that branch might be a good place to start looking for a short term loan. The downside with a traditional financial institution is that their lending standards might be stricter. It can take longer for them to approve your application and get you the funds you need for your business.
Banks Aren’t the Only Place To Get Loans
Alternative lenders, on the other hand, conduct their business primarily online. They sometimes specialize in certain loan types and focus on quick approval times and fast funding. You might even be able to get the cash you need in your bank account in as little as one business day if your loan application is approved.
Think Before Putting Down Collateral
Finally, look for a lender offering unsecured short- term business loans if necessary.
Pledging collateral may be an unnecessary risk.
Don’t Abuse the Credit Check
When comparing short-term business loans, be mindful of how many applications you fill out. Each time any type of lender performs a hard pull on your credit report, your score suffers slightly. Complete all of your applications within two weeks of each other and they will only count as a single inquiry. Credit reporting bureaus see you shopping around for the best loan terms and it’s seen as positive behavior.
Getting a working capital loan for your small business doesn’t have to be an overwhelming process.
Once you understand the logistics of a short-term business loan, you can decide if it’s the right choice financially. Prepare well for the process and you could have the cash flow you need in just a short amount of time.
How to Get Qualified
In order to expedite the process, you should have certain documents ready before requesting a loan.
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Late Payments Hurt Your Credit Score
Please be aware that missing a payment or making a late payment can negatively impact your credit score. To protect yourself and your credit history, make sure you only accept loan terms that you can afford to repay. If you cannot make a payment on time, you should contact your lenders and lending partners immediately and discuss how to handle late payments.