A simple guide to business loans and finance
Whether you’re looking to expand your business or simply need a quick cash flow boost, there are a few things to know about business lending. Learn what’s involved and how to prepare if you’re considering applying for a business loan.
There are several types of business loans in Australia including equipment finance (sometimes called a goods loan or chattel mortgage), invoice finance and overdrafts.
You can usually choose to pay either a fixed or variable interest rate and select a frequency of repayments that suit you – usually monthly, quarterly, or yearly. The regular repayment amount is typically worked out over a 1 to 30 year loan term. You can use different types of security such as cash, residential property, commercial property, or business assets to secure your loan. If you don’t want to put up security against a loan, you could consider an unsecured business loan, though these tend to be for smaller amounts.
Business loans can help fund expansion and growth along with managing cash flow. A business loan may be suitable for your business if you need funding for things such as a business acquisition, start-up costs, capital investment, property acquisition or development, or refinancing other lending.
With so many loan options, it’s important to know your business needs and align them with the most suitable loan type. The options vary depending on:
Here are some common types of business loans:
A business loan is a lump sum of money lent to your business. The amount lent to you can vary as well as the loan term (the period in which you repay the loan), interest rate, interest rate type (fixed or variable), fees and security.
A business overdraft is a type of line of credit that's usually linked to your business transaction account. You can access it when you need to spend or pay bills when you don't have enough money in your account. You reduce the overdraft/line of credit with the funds you have deposited back into the account when you can - as long as the overdraft stays under the approved limit. Interest is generally only charged on the money you use, not the total limit of the overdraft/line of credit.
This type of business finance is typically used to relieve the strain on your cash flow, by providing funds to cover expenses (such as purchasing stock and paying invoices and wages) until you get paid by your customers.
A lease, also known as finance lease, allows you to use an asset (like a car, machinery or equipment) for an agreed period of time. The lender buys the asset at your request and it is rented to you over a fixed period of time (the term of the contract). Once the lease period ends, you return the vehicle or equipment and pay the residual value/balloon payment.
A hire purchase allows your business to buy assets over an agreed period of time. The lender buys the asset at your request and allows your business to use it in return for regular repayments. When all the repayments and final repayment is made, your business owns the asset.
A chattel mortgage (we call it a goods loan) is a popular type of business asset finance used to buy vehicles and equipment. With a chattel mortgage, your business buys and owns the asset from the beginning of the loan term and makes regular repayments for an agreed period of time until the loan is fully repaid.
Sometimes known as accounts receivable finance, this is a quick way to access cash to pay outstanding invoices. You can typically access up to 85% of the value of your approved unpaid invoices.
In general interest is calculated on a per annum (p.a.) basis but is paid monthly. For example, if you take out a loan for $50,000 and the interest rate on the loan is 5%, the simple interest formula is: $50,000 x (5/100) = $2,500 in interest per year.
To estimate your monthly interest, calculate:
$2,500/365 x (no. of days in the month).
Interest rates vary depending on a number of factors, take a look at Westpac business loan interest rates to get an idea of what to expect.
When choosing between a fixed or variable rate it helps to know the various pros and cons of each to work out which might suit your needs.
Fixed rates are a great way to help manage your cash flow as your rate is locked in during the fixed period. This means you have certainty of repayments because your rates won’t change even if the RBA cash rate decreases or increases. However, during the fixed period you won’t be able to make extra repayments to your agreed monthly repayments without attracting fees and charges. There may also be break costs if you terminate your fixed period contract early.
With a variable rate, the rate and repayments may change over the life of the loan. This means if rates go up you’ll have to pay more interest and your repayments will increase. However, if the rates go down you’ll pay less interest. You’ll also have flexibility to make extra repayments to pay the loan off faster as well as the ability to redraw additional cash you have if this is an option for your loan.
With a fixed interest rate the interest rate of your loan stays the same for a specified period.
A variable interest rate may go up and down during your loan term.
The main difference between a secured loan and an unsecured loan is whether an asset such as commercial or residential property, or other business assets are used as security against your loan.
A secured loan requires an asset to be provided as security. This may be property, inventory, accounts receivables or other assets. This security covers the business loan amount if you're unable to pay it back.
An unsecured loan doesn’t need physical assets (such as property, vehicles or inventory) as security. Instead, your lender will often look at the strength and cash flow of your business as security.
If you don’t have an asset to provide as security for a business loan, you may be asked for a guarantor or directors guarantee. A guarantee allows lenders to recover any outstanding debts from the guarantor if you can't make your repayments.
First party guarantee: You guarantee the loan by providing security from an asset that you own, usually a property. This is the most common type of guarantee.
Third party guarantee: In some cases you’ll need someone else (a person or entity that is not you - the borrower) to guarantee your business loan. They’ll need to provide security from 1 of their assets.
If you can’t make your business loan repayments, the guarantor will be asked to pay them for you. In some cases, if the repayments aren’t being made, the guarantor may need to sell their nominated asset to cover the remaining debt, or offer further security.
To increase your borrowing power, many small business loans are secured by an asset – usually property. The amount of equity available in the property helps to determine how much you can borrow.
Equity is the difference between what you owe if you have a mortgage on the property and what the property is currently worth. You can estimate your equity by subtracting what you owe on your mortgage from the amount your property is currently worth.
Current property value – amount you owe = equity
Generally, we'll lend you up to:
Credit score also plays a part in borrowing power. A business credit score is a numerical indicator of the financial health of your business. This indicator is used by both banks and online lenders to assess your finance application and the risk in lending to you as a business.
It can be difficult to get approved for business loans with bad credit. But it may not be as bad as you think. Check out our article on how to find business loans with bad credit.
There are several factors that can impact your business loan eligibility. Including your business history and experience, income, or capacity to repay a loan, business assets, security, collateral or capital and loan purpose.
Your business trading history and experience help give lenders confidence in the sustainability of your business performance.
When considering business loan eligibility, the lender is likely to expect evidence of how much money your business makes under recent and normal trading conditions. Be prepared to share your business and personal financial history.
When considering your capacity to repay a loan, conditions such as a repayment schedule, interest rates and loan terms are key considerations when calculating your loan.
Providing collateral can help reassure lenders and having security assets may help lower the loan risk on the lenders' part. You could offer property, land, vehicles, or other assets as collateral to support your application.
Why do you want to borrow money? Is it to pay vendors/suppliers, for staff training, to expand your business, or even to handle litigation costs? Lenders need to know the details, the amount you would like to borrow, when you’re planning to commence repayments and term of the loan.
To start the application for a business loan you will need:
As you go through the application process further documents and identification might be requested.
Getting a loan for your business often comes down to understanding your options and matching them to your objectives. Business loans are available from many different lenders, with a myriad of choices tailored to the financial situation of your business. By understanding what’s required you’ll be able to prepare for success when you’re ready to apply for a business loan.
This information is general in nature and has been prepared without taking your objectives, needs and overall financial situation into account. For this reason, you should consider the appropriateness of the information to your own circumstances and, if necessary, seek professional advice.
The taxation position described is a general statement and should only be used as a guide. It does not constitute tax advice and is based on current tax laws and their interpretation. Customers must seek their own independent tax advice in relation to their individual circumstances.