Starting a business and becoming your own boss is a strong desire for many Australians. However, it demands considerable efforts and comes with certain expenses. If you intend to boost your business by streamlining cash flow or expanding your business, business loan options might be worth considering.
Nevertheless, obtaining a loan means careful considerations ranging from meeting eligibility requirements, to analysing fees, loan features, structure, collateral, and repayments.
Therefore, before initiating your loan application, we recommend reading our comprehensive guide, which covers every aspect to look out for while applying for a business loan (including the fine print).
Assessing Whether You Actually Need a Business Loan
Like any credit option, it’s imperative to assess your financial circumstances meticulously before making a decision regarding business loans. This includes evaluating your business’s current stage, whether it is an established or start-up business, and your personal finances.
If, after performing the necessary calculations, you realise you can’t repay the principal amount you plan to borrow and still have enough room to pay off interest (which is likely to be unstable if you select a variable rate), you may not be able to obtain a business loan.
If the figures align, it’s a positive sign. A business loan can be utilised to finance your company’s expansion or manage day-to-day cash flow amidst fluctuations in income streams. Common business activities that can be supported by a loan include:
Procuring new equipment
Purchasing stock in bulk
Employing new staff members
Covering staff wages
Investing in other growth opportunities
Getting a small business loan – how does it actually work?
Business loans are typically provided as a fixed lump sum payment or a flexible line of credit that can be utilised whenever necessary, comparable to a credit card. Upon obtaining a loan, an agreement is made to return the borrowed sum within a pre-established period, along with interest on top of the principal amount and any specific fees.
Given that the purpose of business loans is enormously diverse, the repayment duration could be as brief as some weeks or months for smaller amounts, or as lengthy as several decades for larger loans. Repaying smaller loans over shorter periods would require paying back the loan more frequently, either fortnightly, weekly or perhaps even daily. Conversely, larger loan amounts may require payments similar to a home loan with monthly or yearly repayments.
Typically, you have the option to choose between two types of business loans, namely fixed and variable
With a fixed interest rate loan, the interest rate remains constant throughout the loan term. On the other hand, the interest rate of a variable loan can fluctuate depending on market trends. Similarly, you must decide between a secured or unsecured business loan, which also affects the interest rate and loan structure (more details to follow).
When it comes to evaluating and comparing loan costs based on interest rates, business loans are slightly different from personal loans or home loans. Each credit provider considers your individual financial history before granting a loan with a unique interest rate. However, business loan applications are typically more rigorous.
The lender must assess the revenue, profits, expenses, debts, and cash flow of the business, as well as your personal credit score as the business owner before making a decision. As a result, business loans may be advertised without any headline interest rate or with phrases such as ‘starting from’ or ‘falling within’ a specific interest rate bracket.
After submitting your loan application and receiving the appropriate feedback, you’ll either be refused or accepted and provided with the main amount at a set interest rate. For smaller loans or simpler businesses, this procedure may only take a few days (or maybe even hours), while larger requests and complex operations might require more time.
Exploring the various types of small business loans available
Although the amount of the loan, interest rate, repayment period, and its utilisation may vary between companies, there are two ways to structure it – secured or unsecured.
Secured business loans require you to provide an asset as security to lessen the risk for the lender. This typically takes the form of property, major savings accounts, or even the business itself. Having this extra assurance that there is another source from which repayment can be made if necessary, secured loans tend to have larger loan limits, longer payment terms, and lower interest rates.
In contrast to secured loans, unsecured ones do not need collateral, resulting in smaller loan limits and higher interest rates due to the risk accepted by the lender. However, if a small loan to cover short-term costs is desired, this could be advantageous given that the setup of unsecured loans is typically much faster than their secured counterparts, and often reach a decision within hours instead of weeks.
It’s important to remember that even for an unsecured loan, you may assume personal responsibility if the business cannot make payments, as lenders usually require a personal guarantee upon application.
Key factors to keep in mind when searching for the right small business loan
The interest rate for small business loan
It’s worth considering the type of interest rate – fixed or variable – that would offer the best repayment terms, and if collateral should be presented for a secured loan instead of an unsecured one. Keep in mind that each option may affect the interest rate received. Some lenders may even provide an initial period without any interest, which should be included in comparisons.
The exact interest rate that will be allocated can only be accurately determined after assessing business revenue, debts and cash flow alongside the owner’s financial state – this makes it hard to distinguish between a ‘good’ and a ‘bad’ rate for any particular loan. Nevertheless, it is still beneficial to evaluate what is available on the market.
The fees associated with the small business loan
As with any type of loan, small business loans typically come with a few additional charges, either as a certain percentage of the loan or a single dollar figure. Examples include:
Application fees when taking out the loan
Ongoing service fees (can be charged weekly, monthly or yearly)
Valuation fees for secured loans
Early repayment penalties (as this reduces the interest earned)
Dishonour fees due to insufficient funds in your account
Late payment fees if payments are missed
Discharge/exit charges if you pay off the loan during the agreed period or refinance with another lender
A Step-by-Step Guide to Applying for a Small Business Loan
When it comes to applying for credit of any kind, it’s a crucial financial decision that requires careful consideration. To ensure that you’re exploring all of your loan options and taking into account any factors that may affect your personal finances or business during the application process, follow these steps when applying for a business loan.
1. Evaluate your eligibility for a small business loan
Prior to submitting a business loan application, it’s worthwhile to evaluate your eligibility and address any issues pre-emptively, as there are multiple factors that can affect a lender’s decision. These are typically the most important factors that could influence whether or not you are eligible for a business loan:
The annual turnover of a business is evaluated by lenders to confirm that the company is generating sufficient revenue to handle loan repayments. A minimum annual turnover is generally expected (although this varies according to the loan and lender), and this means you’ll need to present financial statements and sales records to substantiate this information.
Business loans generally serve a variety of funding purposes, such as covering employee compensation or procuring equipment. However, certain lenders may specialise in certain sectors such as healthcare or agriculture – in which case, it may be beneficial to research options that are specific to your business activities.
Lenders may require a certain duration of operation before allowing you to apply for a loan, which can range from as little as six months to a few years.
Any financial details of both the business and personal accounts, from unresolved business or personal liabilities to any legal entanglement involving you or your company.
2. Ensure your credit score is looking good (and if it isn’t, fix that first!)
The status of your personal credit rating can have an effect on the approval of your business loan application. Despite being unable to erase all late payments or loan applications from your credit score, you can correct inaccuracies and guarantee your credit standing is healthy going forward. Every three months, you can review your credit score at no cost to search for potential issues and communicate with the credit reporting agency to seek a resolution.
It’s also preferable to reduce existing debt as much as feasible before requesting another loan. This demonstrates to lenders that you are a trustworthy borrower, and may lead to an improvement in your credit rating.
3. Have a firm understanding of your financial limitations
Unless your business has the means to manage the repayment fees, requesting a half-a-million-dollar loan is a silly move. Once you have evaluated both your eligibility and financial position, you should have a more precise understanding of the loan amount that you can pay back comfortably.
4. Do some research on the various types of small business loans available, and make the necessary comparisons
The assessment of what type of loan would best serve your business needs – whether secured or unsecured, and fixed or variable – and what features, fees and estimated interest rates are involved, is required. After settling on a loan type, it’s time to compare the variations across the different banks and lenders with respect to these attributes.
5. Get all your paperwork together and submit your application
Modern application processes can be initiated online and aren’t the cumbersome paper-based procedures of the past. Nonetheless, upfront, lenders will require an assortment of documents from you to proceed. These include:
Valid forms of personal identification such as your driver’s licence
Your business’s ABN (Australian Business Number)
Various financial documents such as bank statements, tax returns, and cash flow projections for your business (as well as, potentially, documentation concerning your personal finances)
A business plan outlining how you intend to utilise the loaned funds
6. Sit tight until you receive a response
The duration of the process can vary from a few days to several weeks, but being patient is crucial. Applying for numerous loans is not recommended, since each application appears on your credit score. Multiple applications, particularly if they are rejected, can adversely impact your credit rating, which, in turn, can affect your eligibility for future business loans.
If your loan request is accepted, the next step is to thoroughly analyse the paperwork and determine if you are comfortable proceeding with the terms.
Ready to get started?
At Perry Finance, we know which questions to ask when helping you secure the ideal small business loan for your needs. Our team specialises in commercial loans, residential loans, and development finance. To get your promising new business idea off to the best start possible, call us on 03 9101 8517 or send us an email today.