Understanding Different Types of Small Business Loans

LanternUpdated August 16, 2022

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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.

Small business owners often rely on various types of business loans to help them manage cash flow, cover daily expenses, expand, remodel, or invest in equipment or property. Many factors contribute to the type of small business loan you choose, including your industry, how much cash you need, your business’s financials, and what you need funding for.With many business loan options to choose from, how can you decide which one is right for you? In this guide, we’ll break down each type of small business loan to help you choose the funding that will help you meet your business and financial goals.

Overview of Different Types of Business Loans

Since every small business has different needs, it’s important to understand the various small business loan options available so you can find a good match. The following table breaks down loan types to help you choose the best funding for your business.

Loan Type	What is it?	Things to keep in mind	Why borrowers might like it	Who might this loan be good for?
Term Loans	A fixed amount of money for which the lender sets a specified repayment schedule, which includes interest.	Loan terms and interest rates are based on borrower’s qualifications.	Predictable, fixed payments and set loan terms.	Small businesses that need to make large purchases that can be paid for over time.
SBA Loans	Loans backed by the U.S. Small Business Administration and offered by banks and other approved lenders for everything from working capital to commercial real estate purchases.	Application and approval process can be lengthy. Lenders typically require established business history and good credit.	Competitive interest rates and favorable loan terms.	Small business owners with at least two years of business history and credit scores more than 650.
Business Line of Credit	Small businesses can withdraw funds from the line of credit up to their approved maximum and pay back (with interest) as they use funds.	Interest rates can be higher than those for term loans, but if balance is paid in full each month, interest does not accrue.	Quick funding for working capital and other small purchases.	Small business owners who want cash readily available for working capital or small expenses.
Equipment Financing	A type of term loan to purchase equipment for business purposes.	Equipment acts as collateral.	Reliable funding to purchase expensive equipment with longer loan terms.	Most small businesses that rely on any kind of equipment.
Merchant Cash Advance	Cash advance for business expenses in return for a portion of a business’s future sales or receivables.	Less regulatory oversight can mean borrowers face a higher risk of unsavory lending practices.	Provides short-term funding for working capital or emergency expenses.	Borrowers who need fast cash and have bad credit or no credit.
Inventory Financing	An asset-based loan or line of credit to purchase inventory.	Your business’s inventory serves as collateral for the loan.	Helps maintain consistent inventory and cash flow needs.	Established businesses with high inventory turnover: car dealers, retails stores, wholesalers.
Invoice Factoring	Money given to a small business by a factoring company in exchange for ownership of the business’s invoices.	Factoring companies are responsible for collecting payment from customers.	Quick funding and no collateral required.	Small business owners with client invoices who need fast cash.
Online Business Loans	Various loan products from online lenders that typically have a quick application and approval process.	Typically have higher interest rates than traditional bank loans.	Easily search various loan options to suit specific needs. In some cases, application review, and approval can happen in hours.	Startups and established businesses that need funding fast.
Microloan	Loans (typically for $50,000 or less) commonly offered by nonprofit organizations and peer-to-peer (P2P) lenders.	Typically, borrowers don’t need collateral to qualify.	Great for small purchases and everyday business expenses.	Startups or newer businesses that don’t qualify for larger loans but need funding.
Commercial Real Estate Loan	A loan to purchase or improve a building or property that’s used for business purposes.	Most lenders require good credit and an established business history to qualify.	Get financing designed specifically for large real estate purchases needed to start or grow their businesses.	Established small businesses with good credit that want to expand.
Working Capital Loan	A loan to cover everyday expenses like payroll, monthly bills, and repairs.	Terms are generally relatively short, and total amounts are typically small.	Helps business owners manage cash flow.	Small businesses with seasonal revenue or those looking to expand.
Restaurant Loans	A loan for starting, expanding, or otherwise supporting various aspects of a restaurant business.	Restaurant loans are offered by both traditional banks and alternative lenders.	Help maintain cash flow while running a busy restaurant.	Startups and established restaurant owners who need cash for equipment and working capital.
Franchise Financing	A loan used to purchase rights to a franchise name and brand.	There are franchise financing companies that specialize in funding solely for franchisees.	Helps pay for inventory, expansion, working capital, and other costs associated with starting a franchise.	Prospective borrowers just starting their franchise and in need of startup funding.

Choosing the Right Loan for Your Business

As you consider different types of business loans, take time to assess your business. The following five questions can help you clarify your needs and qualifications so you can start to narrow in on the types of business loans that may be right for your operation:

1. What industry is your business in?

Certain types of small business loans are better suited for certain industries, and some lenders have rules about which industries they will lend to. For example, some lenders choose not to lend to cannabis companies, and some types of loans, like invoice factoring, are typically better suited for B2B operations. Check that potential lenders work within your industry before applying.

2. How much funding do you need?

Know how much money you need before choosing a loan type or a lender. If you are planning on making specific purchases or renovations, you may want to get pricing or estimates. This will show a lender that you understand your business needs and also help narrow your search to loans that match your funding needs.

3. What are manageable loan terms for your business?

Loan terms can refer to different things. Most often, loan terms refer to how long the loan repayment period will last if you’re making timely payments to your lender. Ask yourself if your business is in a position to take on long-term loans, or if you should consider short-term options. A term loan, for example, sets a specific amount of time. If you have a 5-year loan term, that means you’ll be making regularly scheduled payments for five years. The term also affects your monthly payment. Typically, the longer the term, the lower the monthly payment.Loan terms can also refer to additional features or business loan options that come with the loan. When you search for lenders, ask questions about additional terms and conditions on the loan to make sure it aligns with your needs and ability to pay.

4. How soon do you need money?

How quickly you need funding may influence how expensive a particular type of business loan is for you. Typically, the faster you get the money, the more expensive the loan, due to interest rates and fees. Essentially, you pay extra for the convenience of getting the money quickly. If you’re able to wait, it may help you secure a less expensive loan. But if you need emergency funding, a loan that offers fast cash may be a preferable business loan option.

5. What are the costs of different business loan types?

The cost of a small business loan goes beyond interest rates and monthly payments. While those are important in determining if you can responsibly pay back the loan, it’s also good to know if the type of business loan you choose has additional costs.These may include:

Origination fees
Prepayment penalties
Balloon payments
Late payment fees
Factoring fees
Monthly service fees
SBA guarantee fees

Do your research to ensure you understand all of the costs associated with the type of business loan you’re interested in so there aren’t any unpleasant surprises down the road.Recommended: Growing Your Landscaping Business or Launching One

Term Loans

Many of the business loan types available come in the form of term loans. With these loans you receive a sum of money upfront and agree to repay the funds, with interest, over a set period of time. Banks and alternative lenders offer term loans in varying amounts depending on the type of business loan, applicant’s qualifications, and terms and conditions. There are long- and short-term business loan options available. What you receive will depend on your business needs and qualifications. Typically, long-term business loans are more difficult to qualify for since they present more risk to the lender.Advantages: Predictable payments over the life of the loan and higher borrowing amountsDisadvantages: May require collateral to secure the loanWho it’s good for: Small businesses with good credit and a desire to expand Learn more about term loans.

SBA Loans

An SBA loan is guaranteed by the U.S. Small Business Administration and offered by approved sources like banks and some online lenders. The SBA has numerous loan programs with loan amounts up to $5 million available for everything from working capital to commercial real estate investments.Advantages: High borrowing amounts and low interest ratesDisadvantages: May be difficult to qualify and application process can be lengthyWho it’s good for: Borrowers with strong credit who don’t need cash quickly Learn more about SBA loans.

Business Line of Credit

Your Guide to Understanding Business Lines of Credit

A business line of credit is a type of business funding that gives borrowers access to cash, up to a set credit limit determined by the lender. Like a credit card, a credit line charges interest only on the money that you withdraw. Most lines of credit are revolving, while others may end after you’ve spent and paid off the full credit amount.Advantages: Flexible borrowing for short-term expensesDisadvantages: Lower borrowing limits and typically higher interest ratesWho it’s good for: Businesses that need funding for small ongoing expenses, assistance managing cash flow, or emergency expensesLearn more about business lines of credit.

Equipment Financing

An equipment loan can be used to purchase or upgrade necessary business equipment. The equipment acts as collateral for the loan, and the length of the loan is often equal to the expected lifespan of the equipment. Rates vary, depending on the type of equipment and your business’s qualifications.Advantages: Allows small businesses to build equity without having to put down additional collateralDisadvantages: Loan can only be used for the equipmentWho it’s good for: Small businesses that want to invest in equipment rather than leaseLearn more about equipment financing.

Merchant Cash Advance

Like a business line of credit, a merchant cash advance offers a borrower cash upfront, but payments are made by the lender receiving a percentage of future credit card sales. Automatic withdrawals can be set up directly from your bank account on a daily or weekly basis.Advantages: Fast cash, often within 24 to 48 hours of applyingDisadvantages: Frequent payments with potentially high fees; lack of regulatory oversight could result in undesirable lending practicesWho it’s good for: Borrowers that need but don’t qualify for emergency business loansLearn more about merchant cash advances.

Inventory Financing

Inventory financing loans are asset-based and used to purchase necessary inventory, maintain consistent cash flow, or support working capital. The inventory serves as collateral and lenders base financing on a percentage of the inventory’s value.Advantages: Helps prep for seasonal highs with no need for additional collateralDisadvantages: May require assessments (with fees)Who it’s good for: Small businesses with high inventory turnover or seasonal demandsLearn more about inventory financing.

Invoice Factoring

Invoice factoring allows you to get fast cash upfront in exchange for unpaid customer invoices, which the factoring company is then responsible for collecting. This type of business loan can help B2B companies that deal in customer invoices and irregular billing cycles maintain regular cash flow.Advantages: You don’t have to wait for customer invoices to be paid for access to business fundingDisadvantages: Can be costly and you don’t control collection practicesWho it’s good for: Small businesses that process invoices regularly and have customers who reliably pay their invoicesLearn more about invoice factoring.

Online Business Loans

Online business loans are types of alternative business loans offered by lenders that aren’t traditional banks or credit unions. The types of small business loan products vary from lender to lender, but typically have a quick application and approval process.Advantages: Usually have a speedy application and approval processDisadvantages: May have higher costs than a traditional bank loan Who it’s good for: Small businesses who want more business loan options and faster fundingLearn more about online business loans.

Microloan

Business Line of Credit vs. Loan Comparison

Microloans are business loans, typically for $50,000 or less, that are often given by nonprofit organizations or mission-based lenders. These can be great types of loans to start a business or for newer businesses in underserved communities. Advantages: Credit requirements tend to be low and microloans may come with additional services like counselingDisadvantages: Lower borrowing amounts typically with above-market interest ratesWho it’s good for: Startups and newer businesses that don’t have established business historyLearn more about microloans.

Commercial Real Estate Loan

A commercial real estate loan is used to purchase or improve a building or property that’s used for business purposes. Getting one may help a small business build equity.Advantages: Business loan options designed specifically for commercial real estate needsDisadvantages: Can be difficult to qualify forWho it’s good for: Established small businesses who want to transition from leasing to owning their commercial property or expand their businessLearn more about commercial real estate loans.

Working Capital Loan

A working capital loan can be any type of loan product used to cover everyday expenses like payroll, monthly bills, and repairs. These are common loan types for small businesses that need assistance managing cash flow fluctuations as they build their business. Advantages: Quick access to funding for maintaining positive cash flow Disadvantages: Short-term and, depending on the type of financing, may be more costly than a longer-term optionWho it’s good for: Small businesses with seasonal revenue or ones that want to expand and need cash to handle daily expenses during growth Learn more about working capital loans.

Restaurant Loans

Restaurant loans can be helpful in starting, expanding, or supporting various aspects of a restaurant business. These types of business loans can be from traditional banks, alternative lenders, or P2P lenders, and they come in a variety of forms, including term loans, business lines of credit, equipment loans, etc.Advantages: Numerous business loan options to choose fromDisadvantages: You need financial stability to ensure repayment of long-term loan optionsWho it’s good for: Startups and established restaurants that want to expand, remodel, or manage cash flow during business fluctuations Learn more about restaurant loans.Recommended: Top Small Business Grants in New York

Franchise Financing

Top Franchise Loans Options & Tips for Qualifying

Franchising loan options are offered by a number of sources, including traditional banks, online lenders, franchise financing companies, and sometimes even the franchisors themselves. These types of business loans can help to cover the many costs associated with opening a franchise location. Advantages: Loans may be easier to obtain than they are for an independent small businessDisadvantages: It may be expensive to start a business under a larger franchiseWho it’s good for: New franchise owners who need help covering franchise fees and other startup costs Learn more about franchise financing.

Peer-to-Peer Lending

Top Options for Peer-to-Peer Business Lending

Peer-to-peer (P2P) business lending allows borrowers to get funding directly from other individuals (lenders), eliminating the need for a financial institution to act as a middleman. Borrowers and lenders can quickly connect using online platforms that facilitate the entire loan process. Advantages: Quick and easy access to funding that may be easier to qualify for; potentially lower APRs compared to traditional lendersDisadvantages: Less regulation compared to traditional loan types, and application review is based largely on personal credit scoreWho it’s good for: Small businesses that don’t qualify for other types of small business loansLearn more about peer-to-peer lending.

Alternative Lending Options

Alternative small business loans are any offered by lenders other than a traditional bank or credit union. This category may include:

Crowdfunding
Angel investors
Venture capitalists
Contributions from friends and family
Grants

Advantages: Many alternative business loan options are faster to get than traditional loansDisadvantages: Depending on the type of loan, borrowing limits may be lower and interest rates higherWho it’s good for: Small business startups or borrowers with poor credit who don’t qualify for a bank or SBA loanLearn more about alternative lending options.Recommended: Top Small Business Grants in Florida

Find Small Business Loans with Lantern Credit

Trying to figure out your best option for securing a small business loan can feel overwhelming. We’re here to help you spend less time on the loan search and application process so you can spend more time taking care of your business. How? You can easily compare lenders who match your business goals and qualifications so you can quickly secure the capital you need. Then, once you’ve got cash in hand, you can focus on actually getting down to business.

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About the Author

Lantern

Lantern is a product comparison site that makes it easy for individuals to shop for products and compare offers with top lenders. Lantern is owned and operated by SoFi Lending Corp., the digital personal finance company that has helped over one million people get their money right.

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