What are Business Loans?
Business loans are funds given to a business entity by a bank (financial institution), a private investor or a government agency. Business loans are used to finance the operation of the business; the loans pay for the materials, resources and property used to create manufacture and supply the entity’s product or service. Like all types of financing, a business loan must be repaid to the lender by a certain a date with a predetermined amount of interest.
A business will attempt to secure a loan for a variety of reasons, including expanding existing business operations, improving or updating capital, compensate for shortfalls in operating capital, create a new business or venture or develop a new idea within an existing business model.
Securing a Business Loan Through a Bank:
The most common way to secure a business loan is through a local financial institution (i.e. a bank). The majority of banks (both regional and national) supply business loans to individuals who qualify. That being said, the process to secure a loan—and the calculation of the attached variables—will depend on a number of factors associated with the macro-economy, the profitability of the business and the financial standing of the owner.
A lender will assess interest obligations based on the prime rate set by the Federal Reserve, the business’s (or business owner’s) credit rating, the political climate, the operation’s risk and the presence of capital. Typically, the bank or lending institution will utilize the Cost-Plus Loan pricing model to construct interest payments and other variables tied to the loan. This model consists of four factors: the cost the bank incurred for raising the needed funds (were the funds obtained through customer deposits or money markets?), the operating costs of providing the loan and a risk premium to compensate the bank for the amount of risked involved with the financing and a profit margin that offers the bank an adequate return on its capital.
Government Business Loans:
In addition to financial institutions, friends, family or private investors, the government is a reliable and common avenue of financing for business owners. It must be noted, that government loans are merely facilitated by the United States government. The funds are delivered by banks and financial institutions, while the government acts as the guarantor to the financing. The following list provides examples and attached qualification procedures for popular business loans provided by the United States government. All loans may be applied for on the SBA’s government website, located at www.sba.gov.
The government provides loans to business owners (or prospective business owners) through a variety of programs. Loans are structured based on sector, location and owner of the business—the government will encourage diversity and innovation by offering business loans—at better rates—to individuals who bolster the eclecticism or efficiency in the marketplace. Specialized business loans will be offered for agricultural businesses, companies that produce or research alternative energy sources, female business owners, veterans, owners who suffered through a natural calamity and for the pursuit of education, housing etc. To view a full list of loans provided by government programs visit the following government website: https://www.govloans.gov/loans.
7(a) Small Business Loan:
These types of business loans are the most basic and popular type of loan offered by the Small Business Administration. All 7(a) loans are provided by participating lenders—not all American banks participate with the program, but most do. All business entities that are considered for financing under this program must: meet the size standards instituted by the SBA, be for-profit, not already have the ability to provide the financing internally and be able to demonstrate repayment capabilities. The maximum length of the loan offered under this program is 25 years for real estate purchases and seven years for working capital. The maximum loan amount offered with the 7(a) small business loan is $2 million.
The majority of loans provided under this program are offered to specialized businesses, such as those that operate in rural areas, provide a very specific good or export to foreign nations.
Business and Industrial Loans:
The Business and Industrial Guaranteed Loan Program aims to improve and finance businesses that operate in rural communities. Candidates for this form of finance may be individuals, cooperative organizations, corporations, partnerships, public bodies or Indian tribes. To qualify for this type of business loan, the borrower must be engage in a business that will: provide employment, promote the development and use of water for agriculture, improve the economic climate and reduce the reliance on nonrenewable energy resources.
These loans are all guaranteed; the interest rates attached will be negotiated between the applicant and the lender. The maximum repayment for property loans will not exceed 30 years, while working capital may not exceed seven years. A borrower may not exceed $10 million worth of loans under this program.
Short-Term Lending Programs:
These loans are offered to help small businesses secure the financing they need to participate in transportation-related endeavors or contracts. The funds are used to meet the short-term costs associated with performance or capital contracts that are already being financed.