Growing businesses routinely have financing needs. It is part of the game. If you take a business from sole proprietorship to a thriving partnership, LLC, or corporation, expansion is unavoidable. And expansion requires financial investment. Everything from capital improvements to bringing on staff takes money. Fortunately, there are a number of financing options to choose from.
Commercial financing is offered by both banks and private lenders. Each lender establishes its own policies and procedures. However, it is worth noting the banks are subject to a stricter set of rules. Private lenders have considerably more flexibility when it comes to commercial lending.
Below are five types of short-term financing for commercial needs. Note that not every bank or private lender actively engages in all five of them.
1. Hard Money Loan
Hard money loans represent an option offered only by private lenders. You will not find banks engaged in the hard money industry. Rather, companies like Salt Lake City-based Actium Partners make hard money available to real estate investors, property developers, and the like.
Note that hard money lending is asset-based lending. This means that lenders base their approval decisions primarily on the value of whatever asset is being offered as collateral. Lenders aren’t so concerned with income, credit history, etc.
2. Bridge Loan
Both banks and private lenders offer bridge loans. A bridge loan is a short-term loan intended to meet an immediate financing need. Actium might provide a bridge loan to a property investor looking to quickly acquire an asset. The loan will be paid off with traditional financing arranged later on. Likewise, a bank may provide a bridge loan to help a company meet its expansion goals even while it applies for a traditional loan.
3. Invoice Financing
It is possible for some business entities to take advantage of invoice finance. This form of financing leverages the amount of money a company has in outstanding invoices to secure a business loan. A good example would be a private lender offering up to 80% of the company’s future receivables.
Invoice financing represents a feasible way for companies to solve their short-term cash flow problems by promising a certain percentage of future receivables to repay what they borrow. Note that invoice financing isn’t a good option for borrowing large amounts of money.
4. Merchant Cash Advance
Merchant cash advances are similar to invoice financing except that they are based on future sales. Rather than leveraging unpaid invoices, the business is leveraging future credit and debit card sales. A certain amount of every sale goes toward repaying the loan.
The big downside to merchant cash advances is this: they are extremely expensive. Rates can be as high as 100% in some cases. Moreover, merchants essentially work on repaying what they borrowed on a daily basis. They have to account for a certain percentage of daily sales being swallowed up in debt repayment.
5. Business Lines of Credit
Finally, business lines of credit are very similar to personal lines of credit. Companies use them like credit cards for all intents and purposes. The major advantage here is that businesses only pay interest on the outstanding debt. And like a personal line of credit, businesses have access to a certain dollar amount in perpetuity. It is really just revolving credit.
Financing is part of running a business. There are times when cash flow requires looking into something like invoice financing or merchant cash advances. There are other times when hard money and bridge loans are more appropriate. The key is understanding the need and the financing option best suited to meeting it.