Everything Business Owners Need to Know About Small Business Loans

Opening a small business is a project for those who don’t mind multitasking, aren’t afraid of hard work, and want to become a pillar of their community. Every small business, from hardware stores to convenience stores to vintage shops to cafes and restaurants, adds to the character of a neighborhood and provides products and services previously missing in the space. 

Getting to know your customers, taking feedback about products and improving your services, and growing your bottom line are all rewarding and exciting parts of small business ownership. 

One aspect that’s a little bit less exciting? Finding the funding to get started (or to make a big investment in growing your existing business). 

Small business loans are a typical part of doing business, as very few people have enough capital lying around to fund their startup dreams. So will you pursue a short-term loan? A longer-term loan? An SBA loan? A merchant cash advance? Depending on your financial situation, cash flow, and business needs, some funding options will be better for your business than others. 

We’ll get into everything you need to know about your loan options as a small business owner.

What is a small business loan?

Small business loans are a source of funding that provides capital to business owners looking to open or grow their business. Over time, business owners will need to slowly pay that money back to the lender. Some lenders require monthly payments, while others have different repayment schedules. The interest rates, repayment terms, maximum amount, and loan application process will vary among different types of small business loans. 

Since they’re loans specifically for your business, small business loans must only be used for business expenses, like running payroll, paying for new real estate, investing in better equipment, expanding to a new location, hiring a new position, or getting your technology and systems up to date. Small business loans can also be used for working capital, which is the money needed to take care of short- or long-term business expenses, like inventory, paying vendors, or an equipment repair.

Some forms of small business financing sometimes require collateral, but rarely require a down payment.

What kind of loan can I get for my small business?

There are many financing options for small businesses. SBA loans, provided by the U.S. Small Business Administration, are a popular option, but they’re far from the only kind available. We’ll explain the nuances between the different kinds of funding options provided by the SBA, and dive into various options from other financial institutions available to borrowers. 

SBA loans

Some of the loans offered by the SBA include 7(a) loans, 504 loans, microloans, and disaster loans. 

7(a) loan

According to the SBA, 7(a) loans are the Small Business Administration’s most popular loan program. It’s most commonly used to help pay for business real estate investments, but also for working capital (short- and long-term), to refinance business debt, for construction or renovation, and to purchase equipment, furniture, and other business supplies. 

The maximum loan amount for a 7(a) loan from the SBA is $5 million.

In order to qualify for a 7(a) loan, a small business must use other financial resources, including personal assets, before applying for the loan. They must also demonstrate the need for the loan, and use the funds exclusively for business purposes. 

More details, further requirements, and information about the loan application process can be found on the SBA’s 7(a) loans site. If you’re looking to apply, have your business operating plan handy and any financial documents in order. 

504 loan

According to the SBA, 504 loans are provided through Certified Development Companies that partner with the SBA to fund businesses within their own communities. They provide long-term, fixed-rate financing for the major costs needed in order to create jobs and grow local businesses. They can be used for expenses like existing buildings or land, new facilities, and long-term machinery and equipment, as well as to upgrade land, streets, utilities, and other infrastructural projects. 

504 loans can’t be used for inventory, working capital, managing debt, or investing in real estate.

The maximum loan amount for 504 loans is also $5 million.

More details, requirements, and information about the loan application process can be found on the SBA’s 504 loans site.

Microloan

According to the SBA, microloans are loans that come in small amounts, up to $50,000 — but the average microloan funded through this program is $13,000. They are funded through nonprofit SBA funding intermediaries who seek to help fund community businesses and provide management assistance.

The intermediary lenders all have various requirements when it comes to eligibility and credit score requirements. They often require collateral. Use the SBA list to find approved intermediaries in your area.

Microloans can be used for equipment, working capital, office supplies, inventory, fixtures and furniture, and machinery, but they can also be used for anything else needed to improve the operations of a small business. However, they cannot be used to pay debt or buy real estate.

More requirements and information about the loan application process can be found on the SBA’s microloans site.

Disaster loan

Unfortunately, many small businesses today are very familiar with disaster loans. According to the SBA, disaster loans (also called disaster assistance), help businesses and nonprofits recover from declared disasters with low-interest loans and working capital. Financing from these loans can be used to cover business and personal losses not covered by insurance or FEMA, and business expenses that would have been able to be paid if the disaster hadn’t happened.

Declared disasters include catastrophic weather events like storms, floods, hurricanes, and tornadoes, civil unrest, infrastructural crises like oil spills and water contamination events, pandemics, fires, and other damaging situations outside of the control of a business owner.

There are several types of disaster loans, including mitigation assistance, physical damage loans, economic injury disaster loans, and military reservist loans.

More details, how to apply, and information about requirements can be found on the SBA’s disaster loans site.

Line of Credit

Lines of credit are a great, flexible, alternative option for small businesses looking to secure financing outside of the SBA. They function somewhat like a credit card, where the borrower has a large amount available but they only need to pay back what they use, as they use it — and it’s only available for a set period of time.

Business lines of credit are typically used for short-term, smaller expenses, like payroll and inventory — not major investments like real estate to open a new location.

Business lines of credit tend to provide between $1,000 and $250,000 of credit to borrowers. Qualifying for a line of credit usually includes taking a look at business financials like profit and loss statements, personal and business tax history and credit scores, and bank account information. 

You can get a secured line of credit (which involves putting up collateral, but tends to be easier to qualify for, and have higher limits and low interest rates) or an unsecured line of credit (no collateral, but harder to qualify, low limits, and higher interest rates).

There are many different lines of credit lenders, ranging from brick-and-mortar banks to online institutions to scammy payday lenders. Be sure to avoid payday lenders at all costs —- the shockingly high interest rates keep people borrowing more and more from them, and people end up trapped in a cycle of debt.

To learn more about how a line of credit can work for your business, talk with your accountant and trusted bank.

Merchant Cash Advance

Merchant cash advances are popular loan options for small businesses, as they’re a sum of money provided for business financing, to be paid back with a fixed percentage of daily or weekly card sales, plus a fee. The payment is taken automatically from a small business’s payment processor, which makes repayment very simple for busy owners. 

Merchant cash advances tend to be easier to qualify for, and not every lender looks at credit score. Instead, they look at the health of your business as a whole and determine if they will provide the advance.

However, merchant cash advances are offered by many types of companies, and they are not regulated, so only pursue a merchant cash advance from a company you trust.  

How do I qualify for a small business loan?

Small business loan eligibility requirements

The eligibility requirements for small business loans vary widely among loan programs, so search up the type of loan you’re considering and find the requirements or eligibility page.

Depending on the loan type, a business may need:

1. To have a fair, good, or great credit score

2. To have a strong business plan

3. To be a for-profit business in the U.S.

4. To have no existing debt obligations to the U.S. government 

5. To have proof of need for the loan

6. To have reasonable invested equity

7. To have good character as determined by the lender

8. To be able to show that you’ve pursued other forms of funding

9. To have a net worth below a certain threshold

10. To be in an area where a declared disaster has happened

11. To be able to show that you’ll be able to repay the loan

Small business loans application process

Entrepreneurs applying for loans will need to prepare a variety of documents, and either complete an online application and/or attend several calls and meetings. Every loan option will have slightly different application requirements, so dive into the website of whoever loans you’re considering and find the application page. 

Some of the documents needed to apply for a business loan include:

1. Credit history (personal and business credit scores)

2. Personal and business tax returns

3. Business financial information like annual revenue and profit, balance sheet, accounts receivable and accounts payable aging

4. Business plan

5. Social security card

6. EIN

7. Proof of collateral

8. Leases and other contracts

9. Disclosure of other debts

10. Licenses and permits

11. Proof of ownership and affiliation

The application and documents must be presented to the lender in whatever format they request, and then the applicant will be notified if they’ve qualified for the loan or not.

Continue learning about loans with our guide on How to Apply for a Business Loan.

Are small business loans hard to get?

Not necessarily! Some types of loans have stringent requirements or require collateral, but others are more lenient: small business lenders of all kinds can provide options for businesses in various financial situations. There are even options for business owners with bad credit, like merchant cash advances.

Gathering all the documentation and paperwork you may need before you get started can make the process a lot easier. Also, talk to your accountant and your peers in your industry to find out what kind of loan options would best suit the specific needs and nuances of your business. 

Best small business loans

Some of the best small business loans include:

• SBA 7(a) loans: this type of loan can be used for most business expenses and can go as high as $5 million — though eligibility may be stricter than other types of loans. 

• Microloans: when businesses only need a little bit of a boost, these loans from community institutions help financially and often come with management advice and support.

• Lines of credit: they’re very flexible and you only need to pay back what you actually use.

• Merchant cash advances: if you work with a reputable institution that you trust, paying the loan back with a percentage of daily sales gives your business a break on slower days.

Get the funding you need and set your business up for success

Seeking out business loans is a normal part of opening or growing a small business. Talk to your accountant, lawyer, and peers to learn which kinds of loans may be best for your business. Gather your paperwork and documents, fill out an application, and get ready to take your business to the next level.

To learn more and dive into the details about 10 different small business funding options for restaurants  — which are often also available to other small businesses — read The Complete Guide to Restaurant Financing and Loans.