App version: 0.1.0

Working Capital Loans: Compare Top Options

What You Need to Know About Working Capital Loans; Working capital loans are one type of funding available to small businesses.
Julia Califano
Julia CalifanoUpdated November 12, 2023
Share this article:
Editor’s note: Lantern by SoFi seeks to provide content that is objective, independent and accurate. Writers are separate from our business operation and do not receive direct compensation from advertisers or partners. Read more about our Editorial Guidelines and How We Make Money.
Working capital is a term commonly used to define how much liquid cash a small business has available for expenses, such as operational costs, payroll, and inventory. Technically, working capital is defined as the difference between the business’s assets and its debts or accounts payable. When a business has enough cash to cover its operating expenses and invest in future growth, it has positive working capital. When it doesn’t have enough cash, it has negative working capital and the business may want to seek out working capital loans. There are numerous types of small business working capital loans available, depending on what kind of business it is and what its unique needs are. To ensure that you get funding that aligns with your small business, it’s helpful to understand how each loan product works.Keep reading to learn what a working capital loan is, the different types of working capital loans, how to apply for working capital loans, and alternative lending options for your small business.

What Is a Working Capital Loan?

If a small business has negative working capital or anticipates cash fluctuations, it may want to consider a working capital loan. This type of loan (also known as a business capital loan or working capital finance) offers businesses short-term financing to cover expenses like:
  • Monthly bills and/or debt payments
  • Payroll
  • Inventory
  • Operational expenses
  • Emergency expenses 
Unlike commercial real estate loans or large business loans, working capital loans aren’t intended for long-term investments or big purchases. Since working capital loans are typically smaller loans, there are many types of lenders who offer different kinds of financing, from working capital lines of credit to invoice factoring. Banks, credit unions, online lenders, peer-to-peer (P2P) lenders, and alternative lenders are all potential sources of capital for loans. Each has varying eligibility requirements and business loan terms. 

Who Might Want a Working Capital Loan?

Small business owners may measure their working capital to assess their overall financial picture, to evaluate operational efficiency, and/or to prepare accurately for future expenses and/or seasonality. If a small business has significant assets compared to its liabilities and also boasts a predictable cash flow, it might not require a working capital loan. Unfortunately, many small businesses don’t have predictable cash flow or sufficient assets, and thus have negative working capital. This situation can be the result of seasonality, sales cycles, holidays, or fluctuations in the economy, and it’s especially common for startups or less-established small businesses. Without reliable revenue, these businesses may turn to working capital loans. Some common businesses that may rely on working capital loans include:
  • Restaurants
  • Manufacturers with cyclical sales
  • Retailers with seasonal business
  • Building contractors
  • Startups 
  • Businesses looking to expand

How to Calculate Working Capital

To calculate your business’s working capital, you’ll need to identify your current assets and current liabilities. Current assets are things that currently belong to your business and could easily be converted to cash within one year or one business cycle (whichever is shorter). Examples of business capital assets may include:
  • Cash (checking and savings accounts)
  • Accounts receivable 
  • Inventory
  • Assets soon to be paid off or liquidated (like equipment)
  • Stocks, bonds, and mutual funds
Current liabilities are items you’ll need to pay within the following year or business cycle. These could include:
  • Rent
  • Utilities
  • Supplies
  • Principal and interest payments on any debt
  • Accounts payable
  • Accrued taxes
  • Long-term debt that will be due in the short-term
After adding up your current assets and liabilities, you can calculate working capital using the following formula:CURRENT ASSETS – CURRENT LIABILITIES = WORKING CAPITALFor example, if your business has $200,000 in current assets (property, cash, inventory, etc.), and $75,000 in current liabilities (rent, debt payments, taxes, payroll), your positive working capital is $125,000.$200,000 – $75,000 = $125,000Conversely, if your business has $100,000 in current assets, but $150,000 in current liabilities, you would have -$50,000 in negative working capital.$100,000 – $150,000 = - $50,000Positive working capital is a sign of good business health. It's usually an indicator that you’re in a good place to expand. Negative working capital can indicate financial troubles, which could ultimately lead to defaulting on debt payments or entering bankruptcy. 

Types of Working Capital Loans

If you need extra cash for your business, working capital loans can help. There are a number of different loan products that offer short-term solutions, but keep in mind that not all will be suitable for every business.

SBA 7(a) and 7(a) Express Loans

What it is: SBA 7(a) and SBA 7(a) Express loans are offered through approved SBA lenders, such as banks and certain online lenders. SBA loans give small business owners flexibility to use funds for a variety of working capital expenses. The SBA Express program has a faster turnaround time for review, with responses typically within 36 hours of application. The maximum loan amount is $500,000. In contrast, the standard SBA 7(a) loan has a maximum loan amount of $5 million, but may take longer for application review.  Why choose it: SBA-backed financing provides access to low-interest working capital loans for small businesses, ideal for covering both short- and long-term expenses. Additionally, small loans of $25,000 or less do not require collateral.Keep in mind: Lenders may have different eligibility requirements depending on the loan amount, business’s industry, and the lender itself. Typically, SBA loans are relatively difficult to qualify for. It’s important to have good credit, proof of your business’s revenues, and a business plan ready to present to your lender.

Short-Term Loans

What it is: Short-term business loans are commonly used to secure working capital. With these loans, you receive a sum of money upfront and pay it back with interest over a set amount of time. Short-term loans typically have terms of 18 months or less. Why choose it: If you need cash fast and can repay the loan fairly quickly, a short-term loan may be a good choice. Because they’re less risky for lenders, short-term working capital loans may also be easier to obtain for a borrower with low credit or a less-established business. Keep in mind: Short-term loan products typically have higher interest rates and lower borrowing amounts than other term loan products.

Lines of Credit

What it is: A business line of credit is a working capital loan option that helps small businesses manage cash flow and cover small expenses. Similar to a credit card, borrowers receive a set credit limit from the lender to borrow against. Interest is charged only on the money withdrawn. Lines of credit are often revolving, though some end when the balance is paid off.Why choose it: If your business experiences seasonal fluctuations, sales cycles, or has emergency expenses, a business line of credit can be helpful to supplement cash flow. It’s typically easier to qualify for business lines of credit because the funding amounts are generally small and the debt is short-term. Keep in mind: Opening a business line of credit may involve additional fees and costs. The  borrowing limits are typically lower than they would be for a long-term loan.

Invoice Factoring

What it is: Invoice factoring is when a business sells its unpaid invoices to a factoring company at a discount in return for cash to cover working capital expenses. Since the factoring company now owns the invoices, it collects payments directly from your customers rather than you being responsible for collections. Why choose it: Businesses that offer products and services and have irregular billing cycles can use invoice factoring to help cover operating expenses rather than waiting for customers to pay. A factoring company offers the small business a percentage of the value of its outstanding invoice amounts upfront. That sum can then be used to reinvest in the business or pay small monthly expenses, for example.   Keep in mind: Since lenders take on more risk with invoice factoring, the costs can be high, including numerous fees and high APRs triggered if the clients’ payments are late. The small business also loses control over the collections, so it’s important to confirm that your factoring company follows ethical collection processes. 

Inventory Financing

What it is: Inventory financing is a type of short-term working capital loan that provides funds to buy inventory and then uses the inventory you buy as collateral for that loan. Why choose it: Inventory financing can be helpful for retailers who deal with cash flow fluctuations due to seasonality or revolving inventory. It allows businesses to pay for products upfront in anticipation of seasonal sales highs.Keep in mind: A number of factors can affect the amount of financing you receive and the interest rate you’re offered. For instance, since inventory depreciates over time, you may not receive a loan that reflects the full value of the inventory’s original purchase price.

Merchant Cash Advances

What it is: A merchant cash advance offers businesses cash upfront in return for repayment that’s taken as a percentage of the borrower's future credit card sales. Typically, automatic withdrawals are taken directly from your bank account on a daily or weekly basis.Why choose it: Merchant cash advances may provide a quick way to access cash for a variety of business expenses. If you have bad credit or a newly established business and don’t have other capital loan options, merchant cash advances can help. Keep in mind: This type of business capital loan presents more risk to the lender and thus can be expensive. Borrowers will pay more for the convenience of accessing cash quickly this way. 

Bank Overdraft Facility

What it is: When a business needs working capital, establishing a bank overdraft facility with a bank can give it access to cash even if its bank account is empty or overdrawn. In other words, the bank agrees to keep processing payments for a certain length of time while the business’s account balance is zero or less. Why choose it: For a small business that doesn’t have consistent cash flow or positive working capital, this can provide a backup plan to ensure that the bank continues processing payments until additional funds are received. Keep in mind: Interest is charged on the loan and there may be additional fees when an overdraft occurs.  Recommended: Working Capital Management Explained

Pros and Cons of Working Capital Loans

Working capital loans are typically smaller loans and are available from a variety of lenders. These factors make them accessible to a number of different types of businesses, from startups to well-established organizations.The pros of working capital loans may include:
  • May not require collateral (these are called unsecured loans)
  • Can help improve cash flow
  • Let you maintain ownership of your business (they don’t involve private investors)
  • May involve a faster loan process than other products
  • Come in numerous types of loan products 
A few potential cons may include:
  • Certain loans may require a higher credit rating
  • Interest rates may be high on certain loan products
  • Working capital loans may affect both your personal and business credit

How to Apply for a Working Capital Loan

The process for getting a working capital loan for your small business will depend on the type of loan product and the lender. In general, though, the following steps will help you find, apply for, and obtain a loan for your small business. 

1. Determine What the Loan Is for and How Much Capital You Need

While you may be seeking a loan for working capital, you still need to consider what exactly you will use the funds for. This will help you determine how much to ask for and which loan product is most suitable. Here are some factors to consider:
  • What type of working capital do you need to cover — payroll, inventory, bills?
  • How much money do you need?
  • How often will you be able to make payments?
  • What is your budget for payments?
  • Do you have other sources of funding?

2. Decide Which Type of Loan Is Right for Your Business

Based on the questions answered above, choose which type of capital loan aligns with your needs:
  • Short-term loan
  • Business line of credit
  • Invoice factoring
  • SBA loan
  • Merchant cash advance
  • Inventory financing
  • Bank overdraft facility

3. Assess What Your Business Most Likely Qualifies For

When choosing a loan and lender, check that your qualifications match the type of product you’d like to apply for. Consider:
  • Your personal and business credit rating 
  • What, if any, collateral you can provide
  • State of your business finances
  • How long your business has been operating
  • Whether you have positive or negative working capital

4. Choose a Lender

Now that you have an idea of your qualifications as a borrower, you can start to narrow down what types of loans and lenders may give you the best chance for approval. Take the time to do your research and compare small business lenders that align with your needs and qualifications. Don’t forget to check what the lenders’ fees, interest rates, loan terms, and conditions are to assess the full cost of the loan. It’s helpful to get the full picture of your potential financial commitment before submitting your application.

5. Prepare Documentation and Submit Application

Before completing an application for a small business working capital loan, gather all the necessary documentation. This may include:
  • Business financial records 
  • Personal and business credit reports
  • Cash flow projections
  • Your business plan (to show how the working capital loan will be used)
  • Identifying information, which may include proof of your citizenship
  • Business legal documents

6. Partner with a Lender to Secure a Capital Loan

After you’ve submitted your application, continue working with your lender to ensure that the process goes smoothly and you can receive funds in a timely manner. The process for short-term working capital loans is typically faster than for long-term loans, particularly if you decide to go through an alternative online lender. 

Alternatives to Working Capital Loans

If you’re looking for additional financing for working capital or have long-term financing needs, the following types of loans may be helpful:

Restaurant Loans

Restaurant loans help with costs when you’re starting or expanding a restaurant business. Many different types of lenders offer restaurant loans, including traditional banks, alternative lenders, and P2P lenders.

Franchise Financing

If you’re preparing to open a franchise, a franchise loan can help with the expenses. In addition to traditional lenders like banks, there are also franchise companies who specialize in offering loans specifically for franchise owners.  

Equipment Financing

Equipment loans are useful for purchasing business equipment with a loan term that’s typically equal to the expected lifespan of the equipment. With these loans, the equipment acts as collateral for the loan.  Interest rates can vary depending on the business’s industry, the type of equipment, and the borrower’s qualifications.

Personal Loans

If you don’t qualify for working capital loans, you may want to consider a personal business loan. Not all lenders allow you to use a personal loan for business purposes, but if you can find one that does, this type of loan can give you more flexibility than a business loan.Trade FinancingIf you operate an international business that deals with exports and imports, trade financing can help you leverage working capital. There are different types of trade financing that assign the risk that you won’t receive payments or goods to a third party, like bank guarantees and letters of credit.Customer AdvancesIf your practice has been to charge a customer at the same time or after they receive their product or service, consider shifting to charging in advance. Customer advances give you the cash you need to complete the order and frees up working capital.Vendor CreditIf you regularly purchase supplies, materials, or inventory from the same vendors, ask if you can open a credit account. This allows you to receive what you’ve ordered and then pay that invoice in 30, 60, or 90 days.

Find Working Capital Loans with Lantern Credit

It can be overwhelming trying to figure out your best option for securing a working capital loan. Lantern is here to help you spend less time on the loan search and application process so you can spend more time growing your business. With Lantern by SoFi’s online debt financing marketplace, you can compare working capital loan options (including SBA loans, lines of credit, and short-term loans) without scouring the web and checking multiple sites. With one short application, you’ll be matched with a loan option that meets your company’s needs and qualifications.Let Lantern help you find the right financing solution for your small business.

Frequently Asked Questions

What is a working capital loan?
How do you qualify for a working capital loan?
What is an example of a working capital loan?
LCSB1023001

About the Author

Julia Califano

Julia Califano

Julia Califano is an award-winning journalist who covers small business, personal loans, credit cards, and other financial topics for Lantern. She has over 20 years of experience writing and editing articles on personal finance and other consumer topics for major print and digital outlets, including DailyWorth, Good Housekeeping, Glamour, Self, the Slingshot Fund, Harper’s Bazaar, and Fordham Lawyer Magazine. She has also served as an editor at Time Inc., Conde Nast, and Hearst.
Share this article: