Types of Unsecured Business Loans
Collateral – A borrower’s asset that is given up to the lender if the borrower is unable to pay back the principal and interest on the loan; making the lender the new owner of the collateral.
Credit Score – A numerical expression based on the analysis of a person’s credit files, to represent the perceived likelihood that the person will pay debts in a timely manner.
These are two terms that one must be familiar with when contemplating a business loan, simply because banks consider both of these when determining whether or not to approve the loan. Many small business owners may not have one or the other (sufficient collateral or a high credit score), leading them to search for unsecured business loans, which only require borrowers to posses one of these requirements.
An unsecured business loan is a business loan that is not backed by collateral. In most cases, this leaves unsecured business loan lenders to rely solely on the borrower’s credit rating. Collateral serves as a means for the lender to get back the money that they have lent, should the borrower default on the loan. It is a back-up plan for lenders to make sure that they get their money back no matter what. If a borrower does not have collateral, a lender may require the borrower to have a near perfect credit score. This is because the lender can only rely on the borrower’s past borrowing and repayment habits to determine if he/she is likely to repay the loan. Consequently, it is virtually impossible for a potential borrower with a low credit score to receive an unsecured business loan, because their credit history suggests that they will not repay their loan on time, if at all.
However, there are lending companies that offer a different kind of unsecured business loan; one that is not based on the borrower’s credit rating. These lending companies provide a type of unsecured business loan called a merchant cash advance. A merchant cash advance is a lump sum of cash given to a merchant in exchange for a small percentage of the business’ future credit card receivables.
Since a merchant cash advance is based on a business’ future credit card receivables, rather than the borrower’s credit score and/or collateral, it can only be utilized by retail business owners who process credit card transactions.