Every small business goes through tough times where cash flow is tight. With an ocean of options out there it’s tempting, yet daunting, to figure out which one is right for your business’ unique needs. There are numerous questions to consider when deciding on a small business loan. We want to help you navigate through the choppy waters. That’s why we have prepared a handy reference guide to help you better understand your options.

Should I Pay Upfront Fees to Understand My Loan Options?

In short: NO. Many companies claim to offer you better options and reviews for an out-of-pocket fee. If you are offered this “service”, it should be a big red flag that something is not right. Especially if the alleged terms being offered seem too good to be true. NEVER agree to up-front fees, even if you’re promised exclusive access to phenomenal rates.

Shady companies will try to disguise these upfront fees by calling them an application, processing fee or use some other verbiage to make it sound like a legitimate fee. Always ask specifically if there are any upfront fees, and if they say “yes,” reject whatever it is they are offering. Far too often, small business owners fall prey to this type of scam, so be vigilant.

How Much Will I End Up Paying?

Sometimes, the initial promised rate isn’t the same as what you end up paying. There are a few tricks involved in this, especially with companies that offer what’s called Merchant Cash Advances or MCAs. Unlike a personal loan which uses an Annual Percentage Rate (APR), business loans are structured using either APR or Factor Rate, though a Factor Rate is far more common. The total amount to be repaid should be your main focus since the length of term and structure affect the final repayment amount.

It is also important to note whether there will be a prepayment penalty should you decide to pay the loan off before its maturity date and any additional fees that are worked into the loan amount. It’s nearly impossible to avoid having fees attached to a small business loan but knowing what they are and which ones you can avoid will save you money. The most common include origination, broker, processing, consulting, success, and closing fees. Some of the terminologies may be a little different, but if you see fees attached that don’t fall into those categories, think twice about accepting the terms.

Sometimes, the initial promised rate isn’t the same as what you end up paying. There are a few tricks involved in this, especially with companies that offer what’s called Merchant Cash Advances or MCAs. Unlike a personal loan which uses an Annual Percentage Rate (APR), business loans are structured using either APR or Factor Rate, though a Factor Rate is far more common. The total amount to be repaid should be your main focus since the length of term and structure affect the final repayment amount.

How To Calculate The Actual Interest Rate

As mentioned above, you will likely be offered one of two options: APR or Factor Rate. Let’s break down each one to understand better how each one is structured and help you decide which is more advantageous for your needs.

Factor Rate

To calculate the factor rate, you will need to know two things. One, the principal amount. Two, the total amount to be repaid.

Let’s say you’re looking to borrow $10,000 and with the Factor Rate, your repayment will be $10,800. To find out the percentage rate, take the total amount ($10,800) and divide it by the principal amount ($10,000). This will give you the factor rate of 1.08. Your percentage rate will be the numbers after the decimal point, so 1.08 equals 8%.

Annual Percentage Rate (APR)

To calculate the APR, you will need to know four things. The principal amount, the monthly payment amount, the number of payments, and the length of the term.

Let’s use the $10,000 loan example again. So, the formula will look something like this:

  • Loan Amount: $10,000
  • Payment Amount: $452.27
  • Total Number of Payments: 24
  • Length of the Term: 2 years

First, multiply the monthly payment amount by the number of payments. $452.27 x 24 = $10,854.55 to be repaid at the end of the term. We can now use the same formula for the Factor Rate to determine the actual percentage rate: $10,854.55 divided by $10,000 gives us 1.085 or 8.5%.

As you can see, APR loans may end up costing you more in the long run. The longer the term, the more the final repayment number is going to be. Conversely, with Factor Rate loans, the term length doesn’t matter as the loan cost is fixed. Let’s use the same example of $10,000 as the principal amount and change the term from 2 years to 10 years. The final repayment cost of the loan will be a staggering $14,559.31 at 8%!

So, when comparing loan rates, it is imperative you figure out how it affects your bottom line. A low payment over a longer-term may seem enticing, but it may end up being the worst choice unless you’re prepared to absorb that loss of income over the course of time.

Beware of Prepayment Penalties & Other Fees

It is also important to note whether there will be a prepayment penalty. Any additional fees that are worked into the loan amount. Prepayment penalties are basically a way of ensuring the loan earns the maximum potential profit for the lender. In some ways, it is a penalty against you for trying to end the contract early, even though you’re doing the responsible thing and working hard to get out of debt. If the lender doesn’t require a prepayment penalty, ask if you can get a discount or other perks for paying the loan early. Some companies reward you for paying early but don’t expect it, and ask upfront before you sign the loan agreement.

Also, it’s nearly impossible to avoid having fees attached to a small business loan but knowing what they are and which ones you can avoid will save you money. The most common include origination, broker, processing, consulting, success, and closing fees. Some of the terminologies may be a little different, but if you see fees attached that don’t fall into those categories, think twice about accepting the terms.

Am I Personally Responsible & Am I Using Real Assets as Collateral?

Most (but not all) business loans will contain fine print that you are personally liable for defaulting on the loan. It really comes down to the type of loan you are seeking and the loan amount. If you are seeking an atypically large loan amount, you may be asked to guarantee payment by agreeing to a lien against your personal property.

However, not all business loans will include terms that state your personal or business assets are being used as collateral. For instance, term loans will likely require personal guarantee, while business advances or equipment financing will not. Bear in mind, though, that if there is no personal guarantee involved, the overall cost of the loan is higher. It’s the tradeoff the lender makes for carrying the risk of you defaulting on the loan.

If a contract does stipulate you are personally liable, you may want to consider if the terms are right for your business. Unless you’re in the very small percentage of business owners who negotiate for much high funding amounts, below-market rates or longer than usual terms, think hard about whether you’re prepared to risk your personal assets for your business.

Bank vs FinTech Lenders: Which One is Better?

This can only be answered by examining your business’ unique needs and goals. Banks rake in big money by offering you low rates with low monthly payments. However, this can cost you in the long run if you make only minimum payments and carry the debt for a long time. FinTech lenders can get you approved in as little as 24-48 hours but may carry higher rates. CreditHub® has the technology and partnerships with both to provide you with intelligence and funding options. Ultimately, you decide if you want to jump through hoops to save yourself a little amount of money or get approved quickly, paying a little more, but getting back to business faster.

Secrets of The Loan Industry You Need to Know

Keep these top five secrets of the small business loan industry in mind as you consider your options:

  • A short-term business loan will not build your credit score or history. Nor will it help you qualify for an SBA loan later on.
  • Brokers also charge fees. They may not tell you this up-front, so it’s your responsibility to find out.
  • When you sign a loan agreement, you may also be signing a Confession of Judgment. This states that you are admitting that you defaulted on the loan before defaulting on the loan. It’s a way for lenders to avoid lengthy court cases to sue you in the event you actually default.
  • It’s possible to carry multiple loans at once, but beware! Doing so can send your business into a debt spiral that can be difficult or impossible to emerge from.
  • Shopping around for options help you find good deals, but can be more time-consuming. Direct lenders have fewer options and brokers can shop for you. It’s up to you to decide which way to go. Which is more important – saving time or saving money?

Learn More about a Small Business Loan

CreditHub® business credit building platform improves your outcome when seeking funding. It helps you improve the factors lenders use as criteria when making a decision. We care about our customers finding the best possible deals and we want to help. Before you shop around, contact us to schedule a call or call us at 1-855-596-5281 and speak with a knowledgeable CreditHub® representative to help guide you through the process.