How to Get the Best Business Expansion Loans
As a small business owner, you may be ready to take the next step in growing your company, but you may not have the capital to make that dream a reality. So how do you move forward? Some type of financing may be the obvious answer. A business expansion loan is meant for that exact purpose.
What are business expansion loans?
A business expansion loan is meant for owners of established businesses who are looking to take the next steps to grow their business. That could mean opening a second location, adding employees, adding a product line, or even increasing production and purchasing more equipment. There are many reasons a business needs capital for expansion expenses, but not all loans can be used for every need. Many types of loans can be used for business expansion purposes though, so it’s important to know how each one works.
Types of business expansion loans
Not all business expansion loans are created equal and not all options are going to be open to every small business. Here are some of the more common loans that can be used for business expansion.
Term loans: This is the most traditional type of loan, where you borrow a certain amount of money and repay that amount according to a set schedule of interest and principal payments. Many term loans are through traditional lenders like banks. Interest for these loans is usually through an APR, with approval being based on factors such as credit score, time in business, annual revenue, business plan, business projections and, potentially, collateral.
The big difference here will be whether this is a short- or long-term loan, and whether the lender is a bank or an alternative lender. A bank loan will be the hardest to qualify for because of the credit score requirements (usually a minimum of 680). Bank loans also may require collateral.
If you don’t have solid credit, you may want to look at an alternative lender. Many of those lenders will offer loans for business owners with credit scores as low as 500, as long as you have strong revenue (typically at least $100,000 a year). Bank term loans have some of the lowest interest rates (5 to 10%) while term loans from an online lender might have an APR between 7 to 30%.
SBA loans: SBA loans are guaranteed by the U.S. Small Business Administration (SBA), but are generally granted through a traditional financial institution. The guarantee by the SBA means it takes away some of the risk from the lending institution and may be a little easier to get. Applying for an SBA loan can be time-consuming and require a lot of paperwork, but these loans also have low interest rates and long repayment terms. They also may require a strong credit score. There are several types of SBA loans, but they can’t all be used for all types of expenses or expansion. Be sure you look at the loans that can be used for the expenses you need covered. APRs for SBA loans usually range from 6 to 13%.
Equipment financing: If your business expansion involves buying a lot of new equipment, this could be a good bet. Equipment vendors work with lenders to figure out a financing program for everything from manufacturing equipment to computers for new employees. APRs for this type of financing range from 8 to 25%. You’ll need a good credit score for equipment financing, but you probably won’t need collateral. In most cases, the equipment you’re financing acts as the collateral for the loan.
Invoice financing: With invoice financing, your business’s invoices act as collateral on a cash advance. As your customers repay their invoices, you’re responsible for repaying the cash advance, along with a fee that acts as interest. The fee ranges between 2 and 4 percent of the invoice value. If your customer becomes delinquent, you’re still responsible for paying back the advance on their invoice.
Invoice factoring: With invoice factoring, you sell one or more invoices to a factoring company, which gives you a percentage of the total invoice value upfront in cash. The company holds back the remaining invoice value, minus a fee it charges, until your customer pays their invoice. In most cases, the factoring company handles collecting on the invoice. However, you may still be on the hook for repaying the advance, even if your customer doesn’t pay. Factoring fees are usually between 3 to 5 percent of the total invoice.
Merchant cash advances: Generally you don’t need collateral or good credit for a merchant cash advance. An MCA is not a loan, but an advance that you repay with a percentage of your future credit card sales each day. MCAs can be very expensive, with an APR as high as 70 to 200%.
Microlending: If you need a loan under $50,000 and don’t have enough credit history or time in business to get a loan through a bank, you might consider microlending. Microlending is done through the SBA and nonprofit organizations. Microloans typically have higher interest rates (8 to 15%) than banks, but lower rates than online lenders.
How to apply for business expansion loans
The application process for a business expansion loan will vary greatly based on the type of loan and the lender. But there are certain documents you should have handy and questions you will want to ask yourself regardless of the path you take.
Looking for business funding? Learn more about small business loans here.
What documents do you need generally need?
- Tax returns: Most lenders will want to see your personal and business tax returns for the past three years. These establish a track record of profitability for a lender and give a snapshot of your financial situation.
- Bank statements: Most lenders will want to see at least three months’ worth of your most recent bank statements.
- Financial statements: To establish a snapshot of your current state of business, have your balance sheets and income and cash flow statements ready.
- Business plan: Since this loan is all about expansion, where do you see your company going? Your business plan should not only have numbers to back up why now is a good time for you to expand, but it should also explain how you plan to use the funds and continue to make the business profitable.
- Financial projections: Your projections should include a projected operating profit, a projected income statement, a balance sheet and cash flow forecast.
- Collateral: Think through your tangible business assets, as many lenders require collateral to protect themselves against loan default. You may also offer personal collateral (such as a home) if you don’t have good business collateral options.
- Legal documents: Get copies of your business license, articles of incorporation, third-party contracts, franchise agreements and/or commercial leases to show a bank or lending institution.
What qualification factors are considered?
The three most important qualifications for most loans are your personal credit history, time in business and your annual business revenue. In general, most traditional lenders look for a credit score of 680 and above, two years in business operation and $100,000 in annual revenue. Many also want collateral. However, that all depends on the type of loan and the lender. For some financing methods that can be used for business expansion (invoice financing and invoice factoring, for example), it’s the customers’ creditworthiness that matters more because that’s how the lender gets paid back.
For a merchant cash advance, a company will care more about how much revenue a business is bringing in. Alternative lenders in general have lower requirements than banks and credit unions. Most alternative lenders require a credit score of 500 or higher, one year in business and $100,000 in annual revenue. Some might consider as low as six months in operation and $50,000 in annual revenue.
How long does it take?
How long it takes for a loan to be approved and funded depends on the type of financing and the lender. Bank loans may take longer both in terms of paperwork and consideration time, which can be anywhere from one to three months. The same can be said of SBA loans, which are technically run through a bank and often take 60 to 90 days. Microloans can also take a while and may require you to take a business training class once you are approved. An online lender, meanwhile, tends to offer quicker approval time than a bank, with funding sometimes coming anywhere from that same day to two business days.
Is a business expansion loan right for you?
If you’re considering a business expansion loan, you’ll want to know the projections for your business. Are there signs of growth in your sector that will support the cost of the expansion and make it worthwhile? What will the payoff of this expansion actually be by the time it is complete? Doing some market research should help answer those questions. Determine the demand for your product or service now and figure out whether that demand is growing. Take a look at what your competition is doing as well.
On the other hand, if you have answered all of those questions and feel like business expansion is the right move, don’t feel like your options are too limited. As an already established company, there are probably several ways to finance your business’s future. The key is ensuring you get the best terms for the future prosperity of your business. Explore all your financing options. Make sure you know the interest rate you would pay with each option, including fees.
The bottom line
A business expansion loan can give you the necessary boost you need to take your business to the next level. But that’s only if you are confident in your financial projections and your ability to pay for the additional debt. Choose a financing option and a lender that will give you the best terms based on the qualifications of your business.