9 Types of Business Loans and Their Pros and Cons

Is yours an established business or a startup with cash flow problems? Either way, you may be looking to apply for a business loan to give you with more working capital so you can meet your daily business obligations. The good news is that lots of business loan options are available for small business owners.

Let’s take a look at the most common business lines of credit and at the types of business loans available today.

Looking for a business loan

lenders stand ready to make many types of loans to qualifying businesses.

Businesses and business loans go hand in hand. According to the Federal Reserve, the value of outstanding commercial and industrial loans in United States commercial banks in May 2022 was $2.6 trillion. If you’ve begun the process of looking for a small business loan, you may be confused about how many and what kinds of loans are available.

The truth is that lenders stand ready to make many types of loans to qualifying businesses. These include merchant cash advances, commercial real estate loans, cash advances, equipment loans, microloans, working capital loans, and personal loans.

The 9 most common types of business loans 

Since there are so many financing options available to both new and existing businesses, let’s take a look at the 9 most common types. Learning about these common types can help you make an informed decision about which lines of credit may be right for you.

1. Commercial real estate loans 

A commercial real estate loan is used to buy property in much the same way that a mortgage is used to buy a house. In the event of a default, the lending institution takes control of the property and sells it. These loans are typically based on the value of the commercial property, the business’s current revenue and debt, the creditworthiness of the business and the business owner, and/or the size of the down payment.

Pros 

• Interest rates tend to be on the low side for borrowing, tracking near home mortgage rates.
• Many lenders offer commercial real estate loans.

Cons 

• The best rates are only attained with a good credit score.
• Businesses with low credit ratings may pay high interest rates.

2. Merchant cash advances 

A merchant cash advance is a loan based on future revenue. Amounts are typically calculated by basing them on credit card receipts. Small business loans of this type can help a business meet daily expenses when the vast majority of sales are via credit cards.

Pros 

• Great for companies that do a lot of credit card sales.
• Available even with poor credit ratings.
• Easy to qualify for, in most instances.

Cons 

• High interest rates.
• Loan must be repaid daily.
• Can create future hardship for the business.
• Repayment amounts are a percentage of daily sales.

3. Microloans 

Microloans are an option for small businesses. They feature small amounts, usually less than $50,000, and low interest rates. They can be used to buy inventory and equipment and to pay for daily operating expenses.

Pros 

• Easy to qualify for.
• Typically offered by nonprofits.
• Low interest rates.
• Great for obtaining startup funding.
• Geared toward women and minorities (underserved business owners).

Cons 

• You may be out of luck if you’re not considered an underserved business owner.
• Loan terms may require a personal guarantee or collateral.
• Short repayment terms.

4. Personal loans 

Personal loans work well for businesses that are new or just getting established. The paperwork is often easy to fill out, and the basis of the personal loan is the business owner’s credit score and debt-to-income ratio.

Pros 

• Can be easy to obtain.
• Great for new businesses that haven’t had time to build up a credit rating.

Cons 

• Loan amounts are typically small.
• Interest rates can skyrocket with a poor credit rating and debt-to-income ratio.

5. Short-term business loans 

A short-term loan can provide your business with money fast. In some instances, the cash may be received in as short a time as 24 hours after completing and submitting the application. Repayment durations are typically between 6 and 18 months, but may be as long as 3 years. These loans can be great if the company has trouble with daily expenses or if it has unpaid invoices and irritated vendors.

Pros

• Businesses can borrow up to $500,000.
• Interest rates typically start at 8%.
• Fast application process.

Cons

• Interest rates may be too high for some businesses.
• May contain origination fees.
• May have prepayment penalties, meaning that you cannot pay it off faster than the term of the loan.

6. Small Business Administration loans 

SBA loans are government-backed, and they are guaranteed by the Small Business Administration. Since 85% of these loans are repaid by the government if the borrower fails to make the payments, lenders take on less risk than they do with other types of business loans.

• SBA 7a. Used for business expansion, for buying other companies, and for getting working capital
• SBA 504. Used for upgrades on existing business property, buying equipment, and purchasing additional real estate
• SBA Microloans . Great for getting working capital. Loans can be obtained for up to $50,000

Pros 

• Affordable loans with low interest rates.
• Great for businesses that cannot get other types of business loans.

Cons 

• The loan process can be slow.
• Extensive paperwork is needed.
• Business owners need a credit score of at least 680 to qualify for the loans.

7. Small business term loans 

Small business term loans are typically what business owners think of when they think of obtaining capital for their business. These are traditional loans with a predetermined repayment length and a fixed interest rate.

Pros 

• The loan amount can be up to $500,000.
• Interest rates are reasonable.
• Money can be used as working capital and for physical inventory and even machinery.

Cons 

• If the business fails, the owner can be made to repay the loan with his or her personal funds.
• Loan terms may require collateral.
• These are typically short-term, with maximum repayment lengths of 10 years.

Small business term loans are typically what business owners think of when they think of obtaining capital for their business.

8. Startup loans for businesses 

Startup business loans are great for businesses that are less than a year old. Potential options for startups include SBA loans, getting a business credit card, and microloans.

Pros 

• Easy to qualify, for most small businesses.
• Lots of options.
• Can be used to build better business credit.

Cons 

• May have high interest rates.
• Need to shop around for the best rates and terms.

9. Working capital loans 

When you need to borrow money to finance daily business expenses, a working capital loan may be best. These loans are used to pay employees and vendors, as well as for utility bills, business supplies, and rent or mortgage payments. They may also be used for advertising. They are not used for buying equipment or investments. Businesses with extremely seasonal sales tend to take out working capital loans to ensure that they can operate all year. (Note: these are not capital loans. Working capital loans operate differently.)

Pros 

• They are easy to obtain.
• Reasonable interest rates, unless a poor credit rating is involved.
• They don’t typically require a transfer of business equity.
• Business owners or businesses with high credit ratings may be able to get an unsecured loan.

Cons 

• They may use the business owner’s personal credit.
• Interest rates and terms can be undesirable for new businesses or for owners with bad credit scores.
• Businesses or owners with poor credit ratings will need to supply collateral in order to secure the loan.

How to find the best type of loan for your business? 

When you are looking at the types of small business loans, start by factoring company needs and what you would like to do with the money. Then look at your credit score and the credit score for your business. If your business is a startup that needs fast cash or a microloan, getting one or more business credit cards or acquiring a startup business loan may be best. Does your business need a physical building? Then you may want to start with a commercial real estate loan. If all of your business occurs via credit cards, which means that your revenue can be delayed, you may want to consider a merchant advance. If you need working capital, you may want to look at an SBA loan for your business financing.

No matter what type of loan you need, it’s always best to shop around for the best rates and to ask lots of questions about the loan before you sign the paperwork. Of course, if you need even more options to consider before you choose the business lines of credit that are right for you, you can also look at invoice financing, business equipment financing, and invoice factoring.

There’s lots of information about financing your business at Zenefits. The Workest blog is filled with information that could help you run your small business.