What is a business loan and how can my company get one?

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When you’ve just formed a new company and are in the early stages of trying to grow your business, start-up costs can be a huge burden. Setting up premises, hiring staff, taking out securities and insurance, overheads, collateral and launching marketing activities – it can all start to add up incredibly quickly. Bearing that in mind, most company owners want to have a good idea of precisely how much they’ll need to get off the ground and start trading.

Well according to one study by researchers at Geniac, the average UK start-up spends around £22,756 in its first year. To a lot of aspiring entrepreneurs, that’s going to sound like a pretty tall order. And although it’s perfectly possible to launch a successful business with less money than that, it’s also worth pointing out you can secure that kind of funding (and much more) for your business relatively easily.

All you’ve got to do is apply for a small business loan – and to help you do that, we’ve created this handy guide that explains various loan types, what to look for in a loan, and how to apply.

What is a business loan and how do they work?

Simply put, a business loan is designed specifically for commercial purposes – and there are different loan products that lenders offer to business owners depending on why the loan is needed and what the money will be spent on. But no matter what type of loan you’re on the hunt for, banks and non-traditional lenders will typically offer you three distinct features to choose from, that will dictate how and when your business loan needs to be repaid.

Fixed or variable rate
The first is whether you’d like to apply for a fixed rate business loan or a variable rate business loan. If you choose a fixed rate loan, your interest rate will remain the same throughout the duration of your repayment contract – or it could stagger to various fixed interest price points, after a certain amount of time. Meanwhile, a variable interest rate loan will see your rate of interest rise and fall depending upon the market.

Variable rates are often desirable at first glance, because there’s always the prospect your repayments could go down in time. But when it comes to repaying a business loan, it’s typically best practice to choose a fixed rate product, so that you know exactly how much you’ll be expected to pay on a regular basis to settle your loan.

The next choice you’ll need to make when selecting a business loan is whether you’d like to take on a secured loan or an unsecured loan.

Secure or unsecured
A secured loan is a lending agreement that’s backed by some sort of asset – for example, a property or expensive equipment that can be used as collateral. In turn, your lender ultimately claims ownership over that asset if you fail to repay your loan as per the original terms of your agreement.

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On the flip side, an unsecured business loan is not backed by an asset. That being said, some lenders tend to ask for a director’s guarantee, which will in turn place a company director liable, if a loan is not repaid in full. Typically, smaller loans are unsecured, and do not require a guarantee – but when the amount starts to increase, that’s when a guarantee or some form of collateral security may be required.

It’s also worth noting that, although they are safer for consumers, unsecured business loans tend to carry higher fixed interest rates as a way of compensating your lender for taking on a bigger risk.

Short-term or long-term
Your final choice in terms of selecting a loan product is whether you’d like to opt for a short-term or long-term loan. This often depends on how much you’d like to borrow, what you’ll be using the money for and the sort of interest rates your lender may be offering. Various banks have minimum and maximum loan terms, and they may offer you different rates based on your personal or company circumstances.

Generally speaking, you should be shooting to repay your business loan in the shortest possible amount of time to lower the accumulated interest that has to be repaid, in addition to your original loan amount. That being said, you should always opt for a loan repayment plan that is comfortably manageable within your company budget.  Don’t get overambitious, because you may end up regretting it later.

Who offers small business loans?

If you’re seriously thinking about taking out a business loan for your new or existing company, your first port of call should be your local high street. More than likely your current personal or business banking provider may already offer various business loan products suitable for your business needs.

For example, Barclays offers 9.9% APR representative loans of £1,000 to £25,000 – and depending upon what type of business you’re running, you can borrow up to £100,000 unsecured. If you’d like to explore this route, Quality Company Formations can help you to get started by setting up a business bank account with Barclays.

Barclays isn’t the only high street provider able to offer great business loans. HSBC, Lloyds, NatWest and Santander all have a range of base rate, fixed rate and commercial fixed rate loans available.

You can apply online for most business loans under £25,000. If you want to borrow more than £25,000 or would like to chat about rates or products, it will be worth phoning or visiting a lender to get more information.

Another point worth considering is your ability to obtain a small business loan for your business will often be linked in some way to your own personal credit history. Commercial lenders typically look at loans on a case-for-case basis and assess them accordingly. That means your personal finances could be weighed into the decision on whether to extend an offer of a loan to your company.

Most banks offer free lending advice to business owners, and so if you’re concerned about how your personal credit history could impact your business, you should visit your local branch to chat about your options. Likewise, if you have a company accountant, they should be able to advise on your best course of action.

When in doubt, don’t forget to take your time and shop around. There are thousands of business loan products out there, and not all of them are created equal. If you need help sifting through the initial sea of potential products, mainstream comparison sites like GoCompare can also help.

Can I get a business loan from the government?

The short answer is: yes. The UK Government has offered more than £350m worth of loans to around 50,000 businesses in the UK through its Start Up Loans initiative.

Take a look at the Start Up Loans Company. Government-backed Start Up Loans are personal loans that can be made available to individuals interested in starting a new business in the UK. You can also apply for a loan for your existing business – although these loans are designed only for companies that have been trading for less than 24 months.

On top of funding, the company also offers 12-months of free business mentoring to businesses.

So, what type of loans can you receive from the government?

Start Up Loans are unsecured, and so they don’t require you to put forward any assets as collateral. The scheme allows you to borrow anywhere between £500 and £25,000. That being said, you can actually apply for more if you’re setting up a company with more than one person. The scheme allows individuals from the same company to apply for up to £25,000 each – allowing you and your partners to obtain up to a maximum £100,000 for one business.

Government Start Up Loans come at a fixed interest rate of 6% per year, and repayment terms range from one year to five years. There are no application fees or set-up fees associated with these products, and the Start Up Loans Company also offers free application support.

As part of your loan application, you’ll be expected to describe specifically what you intend to use the money for. You’ll also need to include your business plan and a cash flow forecast outlining how the extra cash will help your business to grow.

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Please note, there are some activities you cannot use a Start Up Loan for. These include:

  • Debt repayment
  • Obtaining a training qualification
  • Funding education
  • Investment opportunities that aren’t part of an ongoing business

If you’re unsure whether your business is eligible, you should check out the government’s full list of eligibility requirements.

To apply for a government business loan, you must live in the UK and be over 18. All you need to do is register with the Start Up Loans Company. You’ll then be appointed a dedicated business advisor who can assist you in creating a business plan (if you haven’t already got one), a cash flow forecast and a budget, before submitting your application.

What happens once you’ve submitted your application? Your advisor will look at three key aspects to decide whether your company should receive funding:

Credit worthiness
You’ll be required to undergo a personal credit check to review your recent and past financial behaviour. As with a high street business bank loan, bad credit could weigh against your chances of securing a government loan.

Personal affordability
Unlike commercial bank loans, Start Up Loans are personal loans you’re expected to use for business purposes. As a result, the government needs to assess your personal ability to repay a loan and whether you can afford to make the repayments. That’s why you’ll be asked to create a Personal Survival Budget as part of your application.

Business viability
Finally, whether you receive a government loan will depend on your business and expectations that it will be able to generate a sufficient amount of money to help you meet your monthly loan repayment obligations.

If you pass all of these hurdles and end up receiving your loan, there are no hidden product fees. Likewise, you won’t be charged an early repayment fee if you’re in the fortunate enough position to settle your loan prior to the end of your repayment term.

The bottom line

The way you choose to finance your business ultimately depends on your needs and what you’re comfortable with. Small business loans are incredibly common products that can be a fantastic way to help start, build or repair your company, if you’re in need of a helping hand. You’ve just got to remember to do your research first.

Have a serious think about the loan terms, types of interest rates available and how you’d like to secure your loan. Always shop around on the high street, and don’t be afraid to check out the UK Government’s unsecured loan scheme. At the end of the day, you should always consult a financial expert and get as much information and advice as you possibly can before taking out a business loan.

If you choose wisely and work hard, there’s no reason a small business loan can’t offer your company the boost it needs to succeed.

After more advice on starting and funding a new company? Check out the Quality Company Formations blog for all sorts of detailed guides on freelancing, generating passive income, address services, company formation and more.

About the author

James Howell

James Howell, Financial Controller of 1st Formations, is the driving force for the company’s financial department and is focussed on the success of the business. Throughout the growth of the business and harking back to his many years of previous experience in accountancy practice, dealing with all types of SMEs, he has developed a keen interest in all aspects of company formation and company secretarial work. In his spare time, James is a father to 2 young children but keeps up strong interests in both music and sport.

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