Consider Your Options
A Close Look at the Pros and Cons of Capital Programs Offered
In this age of technology, access to capital can come fast and easy. Some advertisers promise no down payment, no application fee, no financial statements, no credit check and they will have your $250,000 for working capital within 72 hours. Business owner, beware and be aware. The adage is true: “If it sounds too good to be true, it is.”
Consider the financial options available to businesses and the “pros” and “cons” to those options:
Non-profit organizations are established to fill a void in a region or geographic area to provide access to capital to business owners who are unable to obtain traditional capital from a bank, for various reason such as:
- the loan is too small
- the borrower does not meet the bank’s lending criteria,
- the borrower’s business is not an industry the bank wishes to finance
- the business is in an area or has a property type that does fit the bank’s credit box
- the business is a start-up.
These lenders are either 501c3 non-profits or Community Development Financial Institutions (CDFIs). Loans typically range from $1,000 – $100,000.
- Pros – They are offered to start-ups and they can utilize projections to evaluate the business. Oftentimes, they can offer credit to borrowers that have lower credit scores than traditional lenders and the interest rates are more reasonable than nonregulated lenders. Interest rates can range from 8.5% to 21%, depending on the lender.
- Cons – They take longer, typically 30-45 days. The borrower is required to provide financial statements or bank statements to substantiate their sales. The lender must underwrite the loans consistent with prudent underwriting standards.
Merchant Cash Advance (MCA) Lending
A merchant cash advance is financing for companies that have credit or debit card sales, such as restaurants or retail businesses. Unlike a regular loan, which is repaid on a fixed schedule (typically weekly, biweekly or monthly), MCAs are repaid daily. A percentage of your credit or debit card sales is withheld until the agreed-upon amount has been repaid in full.
- Pros – They’re quick. MCAs can be obtained very quickly — often within a week or so — with no heavy paperwork to slow things down. MCA providers will look at your business’s daily credit card receipts to determine if you can repay the money. They will likely require that you provide bank statements and credit card receipts during the application process.
- Cons – Your Annual Percentage Rate (APR) could be in the triple digits. The APR or total annual borrowing cost with all fees and interest included, typically ranges from 70% to 350%, depending on the lender, the size of the MCA, how long it takes to be repaid in full and the strength of the business’s credit card sales. This is far more expensive than traditional bank loans (whose APR is typically 10% or less), online small-business loans, (with APRs from 7% to 108%), and business credit cards, with 12.9% to 29.9% APRs.
These loans are typically short-term, less than nine months and fund working capital and inventory purchases. They are usually quick and operate like an MCA. They provide a fixed amount or percent of sales and are deducted daily from a borrower’s bank account. Loans backed by individual investors like Lending Club, Prosper, Funding Circle, and Foundation are peer-to-peer models.
- Pros – They are quick and they may help borrowers obtain capital to facilitate a new contract or pay employees when cash flow is short or ARs come in slow.
- Cons – Rates could range from 30% to 120%. For peer-to-peer models, rates can range from 8% to 24% for loans up to $250,000 over three years on average.
These are considered traditional commercial loans advanced to a business instead of to a consumer. Commercial loans are usually for a short-term (from 30 days to one year), secured (backed by a collateral) or unsecured, and are often advanced for financing equipment, machinery, or inventory. Banks usually require the commercial borrowers to submit monthly and annual financial statements and to maintain insurance coverage on the financed item. Commercial loans are provided to large or small companies, who will use the funds provided to make purchases, or make payroll and will pay back to the lender over an agreed upon time.
- Pros – Less fees and longer terms so that repayment is easier for the borrower. Commercial lenders typically are looking out for the long-term benefit of the business and the borrower.
- Cons – These loans take longer due to more stringent paperwork and underwriting criteria; and typically require a down payment, collateral, and a personal guarantee.
The U.S. Small Business Administration provides capital to businesses by working through local banks or through non-profit mission based lenders. The three primary capital programs provided by SBA are as follows:
7(a) Loan Program – Provided to eligible borrowers for starting, acquiring and expanding a small business. This type of loan is the most basic and the most used within SBA’s business loan programs. Borrowers must apply through a participating lender institution.
Certified Development Company (CDC) 504 Loan Program – Provides growing businesses with long-term, fixed-rate financing for major fixed assets, such as land and buildings. The loans are offered through non-profit partners of SBA called Certified Development Companies or CDCs.
Microloan Program – Offers very small loans to start-up, newly established or growing small business concerns. SBA makes funds available to nonprofit community-based lenders which, in turn, make loans to eligible borrowers in amounts up to a maximum of $50,000. Applications are submitted to the local intermediary and all credit decisions are made on the local level.
- Pros – Lower down payment, longer terms and lower fixed interest rates so the borrower can make lower payments and keep more cash for growing the business.
- Cons – Fees are higher than commercial loans; requires paperwork consistent with a traditional bank loan; requires collateral and a personal guarantee.
For more information on capital access programs or to get answers to questions you have about getting funds to grow your business, contact: AmPac Tri-State CDC, Inc., a local SBA partner committed to being a resource for businesses in the Inland Empire region. Reach our Grand Terrace office at 909-915-1706, or visit our website at www.ampac.com.
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