Types of business finance

What is a traditional bank loan?

Traditional bank loans are one business finance option that many business owners are familiar with. Basically, a traditional bank loan is a sum of money loaned for business purposes, that is repaid through regular repayments over the duration of the loan term.

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Different types of traditional bank business loans

With a traditional business term loan, you take out a loan over a specified term, and you pay back the full amount borrowed (plus interest and any applicable fees) via regular repayments during the agreed-upon loan term.

Banks may offer small business loans from around $5,000 all the way up to loan amounts in the millions, depending on your finance needs.

Standard business loan terms in Australia usually range from as little as one year to as much as 30 years or more to cater for a range of different needs. The repayment amount depends on the loan amount, loan term, interest rate and repayment frequency. The more you borrow, the higher your repayments will be for the same loan term and interest rate (and vice versa). For example, borrowing $10,000 for five years will have larger repayment amounts compared to $10,000 repaid over a 10-year loan term.

Secured loans for businesses

Secured bank loans require you to put up an asset as security for the loan. This is called collateral in finance jargon (with property being a popular security asset). This collateral lowers the lender’s risk of approving the loan because if the borrower fails to make repayments, the lender can legally repossess the asset and sell it to repay the amount owing.

Unsecured business bank loans for businesses

Unsecured loans don’t require you to put up any asset as security. However, the major drawback of unsecured business loans is that banks have tougher approval criteria for them. They also charge you a higher interest rate to compensate for the increased risk if they do approve your unsecured business loan application, as they are riskier to the lender than a secured loan agreement.

Unsecured business loans may be a good option for a business owner who doesn't have any assets to offer as security, however, they can be much trickier to get.

The pros and cons of traditional bank lending

Traditional business loans from traditional banks, community banks or credit unions have their pros and cons. Let’s look at the pros first.

Advantages

The advantages of a business loan from traditional banks include:

  • Allows you to have a deeper relationship with your bank where you do your everyday business banking.
  • They can allow you to avoid putting your own capital into your business or sourcing equity finance and giving up part ownership of your company.

Disadvantages

The disadvantages of a traditional loan are:

  • There can be onerous approval criteria that are difficult to meet.
  • The application and approval process is time-consuming.
  • You will generally need a strong credit history.
  • You may need to put up your personal assets as security if you’re a small business owner.

Business finance options other than traditional lending

Other business finance options besides traditional bank lenders include:

Business credit cards

Credit cards may be beneficial when used for short-term business needs during the card’s interest-free period, but can become expensive for long-term finance needs. To keep interest costs low, it can be a good idea to repay the amount in full before the interest-free period ends.

Overdrafts

An overdraft allows you to withdraw more funds than you have in your transaction account, up to a pre-set overdraft limit. This form of finance is best suited for short-term cash flow needs as interest rates on overdrafts can be high.      

Lines of credit

A line of credit is a form of finance that allows you to borrow funds up to a pre-set credit limit. With a revolving line of credit, you have constant accessibility to cash flow up to the credit limit — you are able to draw down funds when needed, and repay the amount to ensure ongoing available cash flow.   

One popular line of credit option for businesses is known as invoice financing. Let’s look at it in more detail.

Invoice financing

Invoice financing is a line of credit that’s secured by the value of unpaid invoices (accounts receivable). If your business supplies goods and services on credit terms to business customers (for example, 30-day, 60-day or 90-day accounts), then invoice financing might be an appropriate finance option for you.

It can provide you with the following benefits:

  • A line of credit that can grow as the value of your unpaid invoices grows via seamlessly linking with your accounting software.
  • Instant access to cash from your unpaid invoices, rather than waiting for your customers to settle their accounts.
  • Only pay for the finance you need, when you need it.
  • Instant access to finance once your line of credit is in place.

There are many finance options available

Traditional lenders and other traditional financing aren’t your only business finance options. Depending on your finance needs, you may like to consider invoice finance, equipment finance, bridging loans or a hire purchase agreement.

Disclaimer: always refer to professional advice. The information presented here is purely indicative and not intended as advice. Always consult a legal or finance professional.

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