Understanding how business financing works and application for finance does not have to be onerous or complex in nature. If your business is expanding or you need to purchase an asset and require an advanced cash lump sum, then a term loan may be the most suitable option for you. A term loan is one of the most common financing options available for established businesses to access more cash to grow your business without disrupting current cash flows.
How Does a Term Loan Work?
Most people would assume that business loans are subject to a more complex approval process, but this is not the case, since they are not regulated by the National Consumer Credit Act. That said, lenders will require a business proposal that outlines the financial history of the business in detail.
Apart from assessing your financial history and ability to service debt obligations, an application will be ranked to evaluate the loan risk. This is graded by means of a letter and number system, anywhere from A to D where, A may be ranked as low risk while D is ranked as high risk. The numbering of 1-15 to evaluates factors such as operational strengths and how well established your business is.
A new business may score 14 while a business in operation for 30 years scores 4. An example to demonstrate this would be a 2B rating would indicate a strong application while a 14D would potentially be declined a term loan.
Each lender will have a unique sliding scale system and will consider the individual circumstances of each applicant.
Term Loan Options
When deciding on what type of term loan best suits your purpose it may be beneficial to engage with a professional to understand the loan advantages that best suit your personal circumstances. Lenders will consider many factors such as the type of industry you operate within, the associated industry-specific risks, operational experience and any security you are offering to minimise the potential of financial failure.
Different Term Loans
- Secured term loans – these require collateral, in other words, you offer an asset as security such as commercial property, equipment or vehicle. These loans are usually between 2-5 years in length with the exception of real estate.
- Unsecured term loans– these loans are possible to secure without collateral and are not bound by the asset but rather by the creditworthiness of the entrepreneur.
Term loans can be further divided into –
- Short-term loans – this loan, as it suggests, is repaid in the short-term and is recommended for short term goals, those that are 1 year and less in duration and provide an immediate return on investment
- Medium-term loans– these loans are typically between 2-5 years and can be secured by what they are used to purchase. These medium-term loans are suitable for businesses looking to finance expansion or purchasing specialized equipment. There are certain tax benefits in ownership and savings in interest costs.
- Long-term loans– traditionally the length of repayments can last up to 25years and most suitable for long-term goals such as financing commercial property, purchasing a building or asset with an extended return on investment
Term Loan Amounts
One of the most frequently asked questions is how much am I able to borrow. A business loan can be anywhere between $250,000 and $5 million. Understandably loans above $5 million will attract more stringent lending criteria.
The amount ultimately awarded is very specific to criteria such as the strength of your application, the lender, loan product and credit history. The commercial finance market is different to the consumer market, and how your proposition is presented to the credit provider will make a difference to how your loan is structured and how much you are charged. Interest rates fees and repayment structures cannot be researched online as this is subject to your specific loan application.
Term Loan Features
Once you have decided what type of term loan suits your business there are additional loan features that are available to you. Deciding on which one represents the most value to you will be based on your unique needs.
A line of credit facility operates in the same way a credit card does which allows you to withdraw a pre-determined amount at any time and does not require approval from your lender. Should you be considered a low-risk applicant this could be a substantial amount and repayable as you choose.
An Interest only facility provides a degree of flexibility in terms of repayments as it allows you to manage a temporary period of reduced income or unexpected expenditure. This facility is usually granted for a term of up to 5 years subject to negotiation and allows you to choose a variable or fixed rate. Bank bill facilities may even be an option ask your lender if you qualify.
Redraw facility – Should you be making repayments over and above the minimum amount due you are not only reducing the total time and interest on the loan, you are essentially building up a redraw and have access to these funds for any eventualities. This facility is not designed for regular use but rather as a safety net.
An Overdraft facility is essentially a credit facility subject to fees, interest charges, terms and conditions. Your credit history and security will be evaluated prior to approval. It is important that you make yourself aware of any on-demand repayments and penalty fees should you exceed your available balance.
Offset Accounts basically mean you have a separate account that runs in conjunction with your loan and functions like a transaction account with interest rates equal to that of your loan account. This is great if you are looking to settle your loan sooner and some lenders may even offer 100% offset accounts so worthwhile enquiring about this facility.
Advice, Tips and Considerations
Deciding on which loan best suits your needs will stem from understanding your financials goals and figures. Having a well-prepared proposal to include net and gross profits, expenses, projected income, timelines and current cash flows allow you to achieve a successful loan application.
If you’re unsure, then get in touch and we can help guide you through the process, negotiate fees, interest rates, flexible payment options and leverage product features.
Loan Term FAQs
Why do I need a guarantor?
Some lenders may request a guarantor against a term loan as the perceived risk may be considered too high. Even if you have proven your income and ability to repay the debt a guarantor assumes the responsibility of paying the credit provider if you are not able to.
How long does a term loan take to process?
There is no direct answer to this and depends entirely on the lender, your circumstances, how urgently you require the funds and loan purpose. This could take several months to just 2 days to process. Lenders want your loan approved as much as you do, and this may take quality time to prepare the best fit for you.
Who can apply for a term loan?
Business term loan applications are accepted from individuals who apply for funds for the purpose of business operations or a business entity. In other words, you will have an ABN or ANC and been in operation for more than 6 months.
Do all loan applications require a business plan?
All lenders will request information from you about your loan purpose, ability to repay etc. not only to ascertain your eligibility but to ensure the product is suitable for the application. If you are applying for an SBA loan this will require a business plan.
What is the maximum credit provided on an SBA 7(a) loan?
While the SBA does not stipulate minimum loan amounts the maximum is $5 million. This loan can be used for most typical business purposes such as equipment and expansion but may not be used for buying out partners or refinancing existing debt..