Businesses often find themselves running short of capital at one point or another. Especially small businesses that have been operating for only a few years experience financial turmoil more frequently and intensely than other businesses. That is why in today’s economy, providing small business loans to businesses that need them is an integral part of the system.
These loans help struggling businesses to keep their doors open and dig themselves out of tough spots. Financial institutes such as banks and the Small Business Administration (SBA) which is a branch of the government that enables banks to give out more loans have been the prevailing lenders for small business loans to organizations that need them.
However, alternative loan options have also appeared in the scene with the advent of the 21st century and particularly after the rapid progression of technology and internet, they have taken a stronghold in the business loan industry. Yet even today, many stigmas still exist regarding alternative lenders and alternative financing options that create hesitation and induce suspicion in business owners from utilizing them.
Let us take a look at whether they are a smart choice for funding your business in the long term.
Table of Contents
Popular Alternative Loan Options in the Market
There are some alternative loan options that are more widely utilized than others because of their convenience and utility. Online lending platforms such as Orumfy are the best way to engage with alternative lenders to ensure authenticity. These platforms also allow ease and transparency in the loan process which enables speed and efficiency as well. Some of the popular alternative loan options in the market are:
Peer to Peer (P2P) Lending:
This involves the direct borrowing of funds by a business owner from a business owner.
There is, of course, an online regulatory platform that broker the deal but only to the extent of determining the risk factor of the borrower after which a business owner or a group of them act as the lender by pooling their resources together and giving the loan.
In this type of loan, you set your asset as the collateral for the lender. Collateral is an asset that is pledged to the lender as long as the loan is being paid off if the borrower default then the lender keeps the collateral to cut his own losses.
For equipment financing, higher the value of the collateral, higher will be the loan offered.
Merchant Cash Advance:
- MCA is a type of financing in which the lender provides funding in exchange for a percentage of your daily credit and debit card sales. This option is usually afforded by businesses that have an extremely low credit score and require a quick inflow of cash.
Account Receivable Financing:
- At times when lenders use payments or invoices, collected from customers as a collateral, (this refers to “invoice financing” as well) refers to account receivable financing. In this way, you pay the lender and he tracks down the customers for the late payments reducing your business risk as well.
Is It Smart to Use Alternative Loan Options in the Long Run?
So now that we know what alternative loans are and what kinds are available in the market, the question is, is it smart to opt for them in the long run? The answer is neither straightforward nor easy. The truth is even though alternative lending has become a predominant source of business loans for the industry, more businesses default on them than on conventional loans.
Yet, that fact may be completely useless seeing as how more number of businesses opt for alternative loans than conventional loans altogether and so defaulting risk would be higher regardless. There are a few factors, however, that need to be considered before applying for alternative loans.
- They charge a much higher interest rate on loans as compared to banks and SBA loans. For example, invoice financing options may have an interest rate as high as 13% to 16%. In the long run, these interest payments may be virtually impossible to keep up with if your business does not flourish.
- Many alternative loans such as the Merchant Cash Advance and Revenue Based Financing (RBF) charge you a certain portion of your income as the fee for borrowing funds. As mentioned above, MCA uses a percentage of your future credit and debit card sales as collateral. This means when the peak season rolls around, you would lose a greater chunk of your income to the lender, leading to problems in the long run.
- Alternative loan options also, usually, do not fund you for an extended period of time which means if you are planning expanding operations or need a long-term loan program, alternative loans would not see it through. You would need to switch lenders in the middle which would cost more time, resources and money.
In light of these factors, it is actually not a smart idea to fund your business with alternative loans for the long run. It would instead be more intelligent to use alternative loans for short periods until your business is qualified and experienced enough to acquire long-term conventional or SBA loans.