Working Capital Loans: Options for Your Small Business
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Working capital loans help small business owners cover everyday expenses, such as rent or payroll, and can also come in handy during a seasonal slowdown. If your business is facing a cash crunch, a working capital loan may be the right solution to keep your operation on track.
What is a working capital loan?
A working capital loan is a short-term business financing option that enables a company to continue functioning during a challenging time. This may be due to limited cash reserves or an inability to liquefy assets to cover operational overhead.
Working capital on its own represents the money a business has on-hand to pay its immediate or short-term obligations. You can calculate your working capital by subtracting your debts from assets such inventory or accounts receivable:
If your working capital is a positive figure, that would indicate the business has enough funds to pay upcoming bills. But if your working capital is negative, that could mean you’re not effectively managing your assets and you may have trouble paying an unexpected expense. A working capital loan could provide relief in such a situation.
When should a business get a working capital loan?
Working capital loans for small business needs are ideal for situations when you’re short on capital because of a temporary and identifiable issue. Working capital loans are often best-suited for supplementing seasonal slowdowns or large one-time purchases. Here are a few examples of uses of working capital loans:
Seasonal businesses like ice cream shops or Christmas tree farms aren’t likely to have a steady stream of customers throughout the year. In the slow months, a working capital loan can help with operating costs until business ramps back up.
A manufacturer might receive a large order from a new retailer, but not have the money to invest in creating that inventory — a working capital loan would be able to cover the supplies. The manufacturer should be able to pay the loan back in full as soon as the customer pays the business.
Other situations exist where a business might look to working capital loans to help bridge a gap during hard times: For example, a slow economy or a recession might lead to multiple clients delaying payment. This tends to impact the business’s ability to meet payroll on time.
Working capital loans can also come in handy for one-of-a-kind business growth opportunities. This can include covering the expenses involved with moving to a larger building or purchasing heavily discounted inventory when a competitor goes out of business.
How much working capital do you need?
Determining how much working capital you need would require you to make accurate financial projections. Consider your monthly cash flow and factor in any upcoming changes, such as a drop-in customers or new contracts with clients. These calculations should indicate how wide of a gap you can expect in your working capital.
Types of working capital loans
You can get business working capital loans from traditional financial institutions like banks, or alternative institutions like online business lenders and financing companies. These lenders may offer working capital loan options in the form of short-term loans, lines of credit or merchant cash advances.
A single online lender may offer all of those types, plus speed that you might not find at a brick-and-mortar bank — this is why we’ve focused on online lenders in the picks below. Online lenders typically offer fast turnaround and simpler applications, but watch for potentially higher fees. It’s always a good idea to compare offers between several lenders, including your own bank or credit union.
Loans that typically range from three to 18 months, short-term loans are often found through an alternative or online lender. Fast repayment terms and fast time to funding can be advantages versus a standard term loan, but look out for higher rates and fees and potentially confusing terms.
- National Funding
National Funding’s small business loans are available between $5,000 and $500,000. You may also be able to receive funds within 24 hours. Repayment terms range from four to 24 months and National Funding accepts daily or weekly payments. National Funding does not publicly disclose its rates.
- PayPal Working Capital loans
A PayPal Business Loan offers loans between $5,000 and $500,000 with weekly repayments over a set term between 13 and 52 weeks. Its sister product, PayPal Working Capital, allows business owners using PayPal to make and accept payments to get an advance on future transactions. Fees for the PayPal loan, which is also called a LoanBuilder loan, depend on the amount and term, but LoanBuilder can give you an idea of what it might cost.
Lines of credit
A business line of credit is one of the most flexible financing options, as you’ll only pay fees on what you use. Lines are available through online lenders, as well as traditional banks and credit unions. The downsides can sometimes include lower amounts and required collateral, but a line of credit may be one of the best working capital loans for startups. It’s possible to find a business line of credit with just a few months time in business.
OnDeck offers a small business line of credit, in addition to short-term loans between $5,000 and $250,000. Its line of credit is available for amounts between $6,000 and $100,000 over a 12-month term. Weekly payments would be automatically drafted from your business checking account. The APR for an OnDeck line of credit is between 10.99% and 39.90%.
A FundBox line of credit goes up to $100,000. You’ll only need two to three months in business, and while the company seeks $50,000 in annual revenue, it may approve borrowers who generate less income. Rates start at 4.66% for a 12-week repayment plan.
U.S. Small Business Administration loans are best known for long-term financing, but it is possible to get an SBA loan for a relatively short term and smaller amount. For example, exporters seeking working capital may apply for up to $5 million with a maximum term of three years. An SBA 7(a) loan used for working capital may not exceed 5 to 7 years. The SBA’s line of credit program, with terms between five and 10 years, is also designed for seasonal businesses, builders, and other businesses with short-term needs.
SmartBiz specializes in SBA 7(a) loans with rates between 4.75% and 7.00% for amounts between $30,000 and $5,000,000. However, SmartBiz only considers terms starting at 120 months.
- Guidant Financial
Perhaps best known for its rollover for business startup financing, or ROBS plans, Guidant also offers SBA working capital loans between $75,000 and $150,000. Lenders are bound by the maximum rates set by the SBA.
Merchant cash advance
A merchant cash advance is different from a business loan or line of credit. As an alternative to those other options, it offers small business owners a lump sum in exchange for a portion of future earnings, typically their credit card sales. The advantage is fast funding, even if your credit score is poor — however, the big risk is that credit card sales may not pan out the way you think, leaving you responsible for paying the MCA back quickly and with potentially high fees.
- Rapid Finance
In addition to small business loans between $5,000 and $1,000,000, Rapid Finance offers MCAs between $5,000 and $500,000. Repayment terms would vary based on your credit card sales. Rapid Finance does not publicly disclose its rates.
- Uplyft Capital
Uplyft provides four tiers of advances with amounts ranging from $3,000 to $500,000. The company uses factor rates to calculate its borrowing costs. Uplyft factor rates range between 1.24 and 1.40 — the more you borrow, the lower the rate. To see how much an MCA might cost, multiply the advance amount by the factor rate. The starting cost of a $500,000 Uplyft advance, for example, is $120,000.
Accounts receivable financing
AR financing is an umbrella term for borrowing against your company’s unpaid invoices. It might involve using those invoices as collateral for a loan or line of credit, or selling the invoices to a financing company. The biggest advantage is that you’re borrowing money that your business has already earned, but there are risks if your customers don’t pay.
BlueVine offers several types of small business financing, including invoice factoring for amounts up to $5,000,000. Rates are as low as 0.25% per week, and the terms would be based on your invoice due dates. BlueVine advances up to about 85% to 90% of unpaid invoices.
- Noble Funding
Noble Funding also offers different types of business loans, including what it calls an AR line of credit. You could borrow between $500,000 and $8,000,000 against invoices that are less than 90 days old and valued for at least $500,000. APRs typically range from 7.50% to 12.00%, but this company is best suited for larger businesses, not necessarily as SME working capital loans for small and medium-sized enterprises.
Working capital loan requirements
Business lenders would likely require some time in business, a decent credit profile and steady annual revenue before approving you for a working capital loan. Though the exact criteria would vary by lender, there are a few standard requirements and documents a lender may request.
- Personal and business credit history
- Time in business and operating history
- Industry type
- Financial statements, such as cash flow history and projections, profit and loss statement and balance sheet
- Recent personal and business tax returns
- Bank statements from the last six months
Once a lender approves those documents, it would present you with a funding proposal and a loan agreement. Review your offer carefully to make sure the conditions are acceptable and practical for your business. If you’re not satisfied, continue shopping around. If the loan does meet your needs, you will likely need to fill out some paperwork to make it final. An online loan should be funded within a week or so.
Working capital loans: Pros and cons
There are several benefits of working capital that may give your business a boost, but this type of business financing could also have potential drawbacks. Consider the following pros and cons before taking out a working capital loan.
Pros of working capital
Online loans typically have fast time to funding and you could receive your money within a week.
Lenders do not typically place restrictions on the use of funds.
The application process for working capital loans is often less involved than it would be for longer-term financing.
Cons of working capital
Some forms of working capital come with high-interest rates.
Your business may have trouble keeping up with short repayment terms.
A lender may require collateral to secure the loan.
Alternatives to working capital loans
Long-term business loans may be a viable alternative to working capital loans, especially if you’re looking to make a large purchase or investment in your business. Long-term loans typically have repayment terms between three and 10 years. Longer terms could result in a lower interest rate and a more manageable payment schedule.
Lenders usually require collateral to secure long-term business financing. If you default on your debt, the lender would seize your collateral to recoup losses. Additionally, lenders may require more time in business and a stronger credit profile than they would for short-term working capital loans. But if you meet the requirements, a long-term loan may be a better fit than a working capital loan to cover a large business expense, where it would be advantageous to spread out the payments over time.
How much does a working capital loan cost?
Working capital loan APRs can range from 8% to 40% or higher, depending on the lender you choose and details such as your credit profile and business history. Online lenders are more likely than traditional lenders like banks to charge higher rates for smaller loans. Banks usually offer lower rates for larger loan amounts, though business owners with weak credit history or poor cash flow may not qualify.
The longer you’ve been in business and the better your personal and business credit score, the better your rate may be. If a lender accepts collateral, the valuable assets your business owns, like real estate or vehicles, could help you get a lower rate. Offering collateral could make you seem like less of a risk to lenders.
Lenders may also charge fees for things like loan origination and early repayment. Be sure to read the fine print before signing a loan agreement to avoid unexpected expenses down the road.