If your company doesn’t have a balance sheet comparable to that of Apple, the only way you may be able to access capital is through business financing. A business loan can serve as a powerful tool, helping you maintain a consistent cash flow, which can cover operational costs or finance growth plans. If you’re looking to get funding for your business, you need collateral to prove that you’re capable of keeping up with your financial obligations. Here are a few things that you need to know about collateral before you apply for a business loan.
What Is Collateral, Exactly?
Collateral can be defined as a valuable item that the lender accepts as security for the loan. In case you fail to meet the repayment terms of your credit, the lending institution has the right to take ownership of your asset. Banks often make available large funds to businesses, which can turn out to be risky, so the bank requires the business to risk an asset in exchange. In spite of the fact that most entrepreneurs have good intentions, some of them eventually come to a place where they are unable to make loan payments. In very rare cases, lenders deal with fraudulent borrowers that have no intention whatsoever of paying the money back.
A lender won’t issue you a loan prior to evaluating your ability to repay it, which is why you need to make sure that you have sufficient collateral in the form of tangible and intangible assets. If your collateral has been accepted, you’ll be able to borrow up to 80% of the value of the inventory. Some other benefits of a collateral-based loan include being able to access more loan options, an increased chance of qualifying, lower interest rates, and better payment terms. If you want to avoid any personal risk in the investment, you should opt for a secured loan.
What Types of Collateral Do Business Lenders Want to See?
Regardless of whether you’re a sole proprietorship, startup, or limited liability company, securing financing is typically a priority. As mentioned earlier, the lending institution will carefully examine your application to determine if you’re a viable borrower. Even if you meet all the lender’s requirements, you may still be required to provide collateral. The question now is: What types of collateral do business loan providers want to see? Keep on reading to find out.
Current and future inventory can be used as collateral against the loan, but attention needs to be paid to the fact that inventory can depreciate in a relatively quick timeframe. Generally, a third party is hired to appraise the assets and vet your inventory’s current and projected worth. You should also be aware of the fact that some items are difficult to sell, so ensure you have goods that are marketable. This due diligence may turn out to be expensive, as it’s necessary to conduct a field examination of your facilities, review your accounting system, and test your inventory system.
Using real property as collateral for a business loan is a fairly common practice as real estate retains its value over time, even after liquidation. Pledging collateral such as owned real estate when it comes down to business loans allows firms to borrow more and, consequently, invest more. The vast majority of financial institutions willingly accept commercial and personal property because it’s easier to convert into cash. In addition to real estate, you can use equipment, automobiles, motorcycles, and planes. You can also offer a personal guarantee as a form of collateral, which adds an extra level of accountability.
Account receivables can also be used when you don’t have too much cash on hand, meaning some lending institutions will agree to accept collateral based on outstanding business invoices. This process is known as factoring. If your business is facing limited cash flow, you can use the available funds for daily operation or remunerating employees. With the invoices, you can secure working capital immediately and keep your business going through hard times. Even unpaid invoices can be used as collateral, so if you’re not able to collect on an invoice, don’t worry; you can obtain approximately 85% of the value of the overdue invoice.
Several Options Exist for Getting a Loan without Collateral
Financing options are available for organizations with a good cash flow and a promising idea. If your business happens to be short on assets, look into loans with no collateral as various lenders provide no-collateral loans with different credit terms and requirements. In what follows, we’ll present some examples of loans that you can obtain with no collateral:
- Working capital loans
- Technology financing
- Market expansion loans
- Line of credit
- Peer-to-peer lending
If not a business loan, consider using a personal loan to meet your business needs as they are unsecured, which means that they have no collateral. Some financial institutions might want to know what you intend to do with the money borrowed. Nevertheless, as long as you borrow the funds for a faithful and legal reason, you’re free to do whatever you want. It’s recommended to shop around until you find a reputable provider and low interest rates. You should also get a good understanding of the terms and conditions, which govern the business relationship and create legally binding obligations, before signing on the dotted line, as the terms and conditions establish the obligations, liabilities, and potential benefits of the trade.
A Long-term Relationship with the Lender Reduces the Need for Collateral
Finally, yet importantly, long-term relationships between borrowers and lenders can significantly reduce the need for securities. If the contract represents a one-time transaction for the financial institution and the borrower (you, in other words), it’s harder to convince the bank to give you money. On the other hand, if you’ve succeeded in developing a professional relationship with the lending institution, it might not be necessary to provide collateral to prove you’re a viable borrower. The lender has a guarantee that you’ll meet your financial obligations and can even offer you better terms, which translates into lower interest rates. In the long run, the relationship is mutually beneficial.