Secured vs. Unsecured Business Loans at a Glance
A small business will usually need quick access to funds for growth and general cash flow management.
Business owners can usually choose between secured and unsecured business loans. Both have their own pros and cons, so you should have a full understanding of each one to make an informed decision.
Read through the article below to learn more about both kinds of business loans.
What Is a Secured Loan?
A secured loan lends you money in exchange for an asset as collateral. The lender can take custody of the collateral if you don’t pay back the loan.
They usually have lower rates than unsecured loans, but you can lose the collateral if you default on the loan.
Costs
Outside of the competitive interest rate, there are also additional fees to consider. Below are several components of secured loans:
- Interest rate – These loans normally have lower rates since you’re also providing collateral
- Origination fees – Upfront and ongoing fees charged by lenders
- Appraisal and valuation costs – Required for asset-backed loans
- Insurance costs – One of the eligibility criteria for collateral, like residential property insurance
- Prepayment penalties – You may be charged early repayment fees depending on the lender
Features
This type of loan requires you to put an asset on the line. But you may want to consider these features to see if it’s right for you:
- Collateral requirement – These loans need collateral as security for the lender
- Lower interest – Collateral lowers the lenders’ risk, resulting in lower rates than unsecured loans
- Higher loan amounts – This might make them better for major purchases
- Longer repayment terms – This means lower monthly repayments
- Credit score impact – How much you can borrow is also usually based on the value of the collateral, not just your credit history
What Can They Be Used For?
A secured loan may be used for various purposes. Here are some common uses for this type of loan:
- Vehicle financing or auto loans
- Business expansion
- Debt consolidation
- Major purchases
- Emergency expenses
- Investment opportunities
What Is an Unsecured Business Loan?
An unsecured business loan is a type of financing that doesn’t require collateral. Small businesses can borrow money based on creditworthiness, their business cash flow, bank statements, and financial history.
A fast, unsecured business loan can be a good option for firms without valuable assets or those who don’t want to risk them.
You can apply online, get conditional approval, and possibly receive funding in your business account within one business day.
Unsecured business loans usually don’t have hidden fees or charges. But make sure you read all the terms and conditions carefully.
Costs
An unsecured business loan comes with costs that can affect how much you’ll need to pay. These factors include:
- Interest rate – This type of loan typically comes with higher interest due to higher risk than a secured business loan
- Origination fees – Some lenders charge fees upfront for processing unsecured small business loans.
- Penalties for early repayments – Most lenders charge this to cover lost interest income
- Late payment fees – The longer you don’t pay, the higher the price you’ll need to pay on top of the loan amount
- Annual rate – An unsecured business loan may have annual fees that increase borrowing costs
- Variable interest risk – Rates can fluctuate for unsecured finance, potentially impacting monthly payments
- Personal guarantees – A personal guarantee could put your personal assets at risk if you default
- Impact on credit score – Late payments can harm your credit score
- Other costs – Check the loan term thoroughly to catch any additional costs
Features
Unsecured business loans can be a flexible business lending option. Here are the key features of an unsecured loan:
- No collateral required – An unsecured loan normally relies on creditworthiness, not collateral
- Credit-based approval – Lenders assess the creditworthiness of the business owner based on business and personal credit history and financial information. You can get conditional approval in just a few business days
- Shorter application and approval process – You can apply online in just minutes. You can link your online banking, and lenders determine how much they can lend you. You can usually get the funds fast within one business days.
- Fixed or variable rate – These fast business loans typically offer variable or fixed interest rates
- Use for various business purposes – These loans cover various financial needs: working capital, marketing, purchasing inventory, equipment upgrades, maintaining business revenue during seasonal fluctuations, or debt consolidation
- Shorter repayment terms – They normally have shorter repayment terms for short to medium-term financing needs
- Higher interest rates – You don’t have to provide collateral, so lenders mitigate the risk by giving higher interest rates
- Lower borrowing limits – Unsecured business loans often have lower loan amounts than secured loan
- Personal guarantees – Lenders may ask small business owners for personal guarantees, which makes them responsible for the business loan if the business can’t pay
- Credit score impact – Paying an unsecured business loan on time can help improve the business’s and its owner’s credit profiles
- Regulatory considerations – These loans are subject to various regulatory guidelines, and lenders may need to comply with specific laws
What Can They Be Used For?
Unsecured business loans are a collateral-free financing option for small businesses. Common uses include:
- Working capital
- Smaller purchases
- Expansion and growth
- Marketing and advertising
- Equipment and technology
- Debt consolidation
- Seasonal purchase inventory
- Emergency expenses
- Hiring and training
- Renovations and upgrades
- Business opportunities
- Cash flow management
- Research and development
Alternative lenders like Lumi can help give your venture the financial boost it needs. We provide transparent loans to help you achieve your business goals.
FAQs
Our FAQ provides answers to common questions about unsecured business loans. Read on to further navigate the business financing world.
Are Unsecured Loans Riskier?
Yes. These loans are usually riskier for lenders than secured ones as they lack collateral, resulting in higher interest rates and stricter creditworthiness requirements for most businesses.
Can I Pay Off Unsecured Business Loans Early?
Yes. You can typically pay off an unsecured business loan early without penalties. But check the business loan terms, as some may have prepayment clauses that result in early repayment fees.
Conclusion
Knowing the difference between secured and unsecured business loans can help you choose which one is right for your business. After all, you’ll need to consider your needs and circumstances.
Furthermore, you can consult financial experts to understand your financial position and make a more informed decision regarding which of the loan options is better for you.
