Every Small Business Should Understand Secured vs. Unsecured Business Loans
Not all business loans require collateral, Certain terms and restrictions may be found when you search for loans to finance your firm.
In particular, the possibility of collateral—assets a lender could seize if you don’t pay your loan—can be unsettling. To decide whether the types of loans best for you require collateral, you should ask: Is a business loan secured or unsecured?
A business loan can either be secured or unsecured. Many of the loan options that business funding experts highly recommend are secured. Other funding routes for which a greater number of business owners might qualify are unsecured.
What is a secured business loan?
Secured business loans are any type of funding you must back with collateral. That collateral could be property, equipment, or can be any other asset. The total value of all items you put up as collateral must be greater or equal to the loan amount.
Securing loans allows lenders to offer lower interest rates. Because secured loans give lenders something to recoup and sell if you can’t repay your loan.
What is an unsecured business loan?
Unsecured loans are any type of money you borrow without putting any collateral. Qualification for unsecured loans is typically based on your creditworthiness, cash flow, business tenure etc. These loans also leave lenders unprotected if you default. That’s why lenders often charge higher interest rates on them: They’re riskier for lenders, and collecting more interest helps to offset that risk.
Given the high risk that lenders face with unsecured loans, new businesses rarely qualify for them. Loan amounts are often low too, hovering around $50,000 at most.
What is better secured loan or an unsecured loan?
A secured loan can have a lower interest rate, but you’ll need collateral, like real estate collateral, to back the loan. An unsecured loan doesn’t require an asset, but you’ll likely pay a higher rate.
Why is secured loan important?
One of the main advantages of secured loans is that they enable businesses to access higher amounts of capital. Because the debt is secured against the company or personal assets, secured business loans tend to be less risky for a lender, which might offer lower interest rates and longer repayment terms as a result.
Are your assets safe with unsecured business loans?
Notably, some unsecured business loans can still put your assets in peril. These loans require you to sign one of two clauses that give lenders recourse if you default on your loan. Below are explanations of those two causes.
- Blanket lien. If you sign a blanket lien to obtain an unsecured loan, you might wind up in a worse place than if you’d declared collateral. That’s because a blanket lien gives a lender the right to seize any of your business assets if you default on the loan. All your property, equipment, inventory, and accounts receivable could be on the line. Collateral, on the other hand, permits lenders to seize solely a handful of items.
- Personal guarantee. A personal guarantee is basically a blanket lien for your personal assets. When you sign a personal guarantee, you give the lender the right to seize your personal property, bank account, and more. Notably, since this provision concerns your personal, not business, assets, the liability protections of corporations and limited liability companies (LLCs) don’t apply.
Pros and cons of a secured business loan
A secured business loan can seem intimidating since you risk ownership of certain assets, when you take out such loans there are plenty of reasons these loans are common. In fact, minus the potential for asset forfeiture, these loans are often the better choice. Below are some pros and cons to consider.
Pros of a secured business loan
- Lower interest rates and longer repayment terms
- Larger loan amounts
- Clearly defined collateral
Cons of a secured business loan
- Potentially longer loan application process
Pros and cons of an unsecured business loan
If the notion of putting up collateral scares you, then you should consider an unsecured business loan. For certain business owners, these loans can be the right choice. Below are some considerations know.
Pros of an unsecured business loan
- No collateral
- Easier qualification
Cons of an unsecured business loan
- Potential for blanket liens and personal guarantees
- Higher interest rates
- Smaller loan amounts
Small Business Loans
Although your choice between secured and unsecured loans depends on several factors, a few stand out as the most important. For starters, there’s the question of liability. Secured loans put certain assets of yours up for potential seizure if you default, whereas truly unsecured loans protect your assets. Of course, if your unsecured loan requires a blanket lien or personal statement, it’s riskier than a secured loan.
Either way, secured loans typically give you access to larger amounts of money, at lower interest rates, with lower monthly payments. That said, the application process for the best-secured loans, such as SBA 7(a) loans, can be lengthy and tedious. But the borrower-friendly terms are often worth that burden and the potential prospect of asset seizure. Plus, if you’re confident you won’t default, collateral is more of a formality than a threat.
- Secured loans typically have better rates, terms, and monthly payments.
- Unsecured loans avoid the burden of collateral, but only if they don’t require blanket liens or personal statements.
The process of applying for a secured loan can be time-consuming. Certain online lenders have stepped in to create a paperless application – minus any documents you need to scan – that expedites the whole process.
Looking for a loan? Learn the difference between secured and unsecured business loans, and how they work.
We offer an entirely online application for secured SBA 7(a) and bank term loans.
Also Read: Why SBA 7(a) Loans are most popular