SoFi

When you’re running a business, you may come up against unforeseen expenses or an opportunity to grow your company pops up and you wonder about small business financing. But without working capital to cover those costs, it can be challenging.

If your business has substantial commercial property assets, one type of financing you might consider is a commercial equity line of credit.

What Is a Commercial Equity Line of Credit?

A commercial equity line of credit (CELOC) is a type of credit offered by banks and other lenders that allows businesses to use their commercial property as collateral for financing needs. These credit lines work in a similar way to other lines of credit. Rather than receiving a large lump sum of funds up front, you are approved for a maximum amount and then you can take out funds up to that max at any time. You pay back and owe interest only on what you have borrowed.

A commercial equity line of credit is generally secured by commercial property. In the event that the CELOC borrower defaults on the loan, the bank or lender can seize and sell that asset to cover the remaining balance.

Lines of credit can be useful because there are times when you need some cash now and some later, particularly with something like a renovation project. You won’t have to take out multiple small business loans if you need more money over time; you simply borrow against your line of credit.

How Does a CELOC Work?

To qualify for a CELOC, a business must own commercial real estate with sufficient equity. Lenders typically require a comprehensive appraisal of the property to determine its current market value. The amount of credit available is usually based on a percentage of the property’s appraised value, minus any existing mortgages or liens. Businesses must also demonstrate a stable financial history, adequate income, and a good credit score to gain approval.

Once approved, the lender establishes a credit line up to the approved amount. The business can draw on this line of credit as needed, up to the maximum limit. The funds can be accessed through checks, a credit card linked to the account, or online transfers.

CELOCs typically have variable interest rates, which are tied to a benchmark rate such as the prime rate. Interest is only charged on the amount borrowed, not the entire credit line. Repayment terms can vary, but generally include monthly interest payments and a minimum principal payment.

Types of Property for Your Collateral

When securing a CELOC with commercial real estate, you’ll want to check with the lender to confirm the types of property they will accept. Generally, commercial property valued up to $5 million may be eligible.

Common examples of what may be included:

•  Office

•  Retail

•  Warehouse

•  Multi-family

•  Light industrial

•  Mixed-use

Pros and Cons of a Commercial Equity Line of Credit

Like any type of small business financing, there are benefits and drawbacks to taking out a commercial equity line of credit.

Pros

•  Access to cash when you need it over time

•  May have lower rates than business credit cards

•  Can help with cash flow during slow seasons

•  Allows you to leverage business opportunities that arise

•  Can help build business credit with on time payments

Recommended: How to Check Your Credit Score for Free

Cons

•  Interest rates may be high depending on your credit scores, annual revenues, and the value of your property

•  There may be extra fees, like for appraisals or late payments

Recommended: Types of Small Business Loan Fees

Commercial Equity Line of Credit Uses

You can use a commercial equity line of credit for nearly anything that pertains to your business. A few examples of situations in which a CELOC could be useful include:

•  Cover gaps in your cash flow when you’re waiting for clients to pay you

•  Pay for a larger inventory order so that you save what you spend per item

•  Pay for payroll, office expenses, office equipment, or remodeling

If you are a real estate investor, a commercial property line of credit will use the property you are purchasing as collateral, helping you get a lower rate on the CELOC.

Recommended: What Are Partnerships Business Loans?

Who Is a Commercial Equity Line of Credit Good for?

If you need short-term financing and expect to need funds over time rather than all at once, a line of credit could be an option to consider. Whether you have a slow period that you need to cover expenses for or are looking for capital for a real estate investment, a CELOC provides steady access to cash that is available when you need it.

Qualification Factors

Each lender will have slightly different requirements for applicants, and some require you to be an existing bank customer for at least six months.

Getting your finances in order is a good first step if you are interested in applying for any small business loan, including a line of credit. Lenders may require businesses to have a certain yearly revenue or time in business, and you may be asked for your profit and loss statement, tax returns, or other financial documents.

Additionally, lenders may require applicants meet a minimum credit score requirement.

But one of the most important qualifications is the collateral. Generally, the higher the value of the commercial real estate you’re using for your asset, the more you will qualify for. Some lenders will determine the amount you qualify for based on the value of the property.

Where to Find a Commercial Equity Line of Credit

Start simply by seeing if the bank you already do business with offers a commercial equity line of credit. Since some lenders require CELOC borrowers to be existing customers, this may be an important consideration.

But that’s not your only option. There are also lenders who specialize in commercial equity lines of credit, and some online lenders may be more willing to work with you if you have less-than-excellent credit. Potential borrowers with a credit score on the lower score of the spectrum, however, may end up with a higher interest rate.

Recommended: Florida Small Business Grants

The Application Process

Before applying for a line of credit, calculate how much you need, both immediately and down the road. Calculate cash flow to see how long you can operate with what you have, then determine how much you want to ask for.

Keep in mind that you will be paying on your CELOC as soon as you borrow from it. As you repay the funds, it frees up more of your line, so you may not need a line of credit for as large a sum as you may originally think. A more moderate sum may suffice if you continually pay back what you’ve used and then take out more.

Applications will generally ask for some basic information about both you as the business owner and the business itself, including:

•  Name, address, phone number

•  Date business was established

•  Employer identification number or Social Security number

•  Name of all owners and their personal details

•  Gross revenue

•  Details on bank accounts and current loans

If you are using your commercial property as collateral, you may also be required to provide details on it, including:

•  Property type

•  Address

•  Current market value

•  Loan balance if you have a mortgage on it

Depending on lender requirements, you may be asked to submit additional financial documents:

•  Business and personal tax returns

•  Balance sheet

•  Profit and loss statement

•  Schedule K-1

•  Personal financial statement

Recommended: Business Cash Management, Explained

Finding A Commercial Equity Line of Credit

If you own commercial property and need access to working capital, you may be able to leverage your asset with a commercial equity line of credit. Be sure to shop around, as interest rates and terms can vary from one lender to another based on your qualifications.

If you’re seeking financing for your business, SoFi can help. On SoFi’s marketplace, you can shop top providers today to access the capital you need. Find a personalized business financing option today in minutes.

FAQ

What is a commercial equity line of credit?

A commercial equity line of credit gives you access to working capital, and you can borrow up to your maximum approved amount. You pay back only what you have borrowed plus interest, and are able to continue to borrow against that line over time.

Can you take a HELOC on commercial property?

Each lender will have their own requirements for a home equity line of credit (HELOC). While some may consider commercial property, generally HELOCs are for primary or secondary residences, and some investment properties.

Can I get an equity line of credit?

If you own commercial real estate that can be used as an asset and meet a lender’s qualifications, you may be able to get an equity line of credit for your business.

Is an equity line of credit a good idea?

An equity line of credit can be one solution for business owners that have commercial real estate they can leverage as collateral and who need access to funds over time rather than all at once.

Photo credit: iStock/

SoFi's marketplace is owned and operated by SoFi Lending Corp. See SoFi Lending Corp. licensing information below. Advertising Disclosures: SoFi receives compensation in the event you obtain a loan through SoFi’s marketplace. This affects whether a product or service is featured on this site and could affect the order of presentation. SoFi does not include all products and services in the market. All rates, terms, and conditions vary by provider.

Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.

Third-Party Brand Mentions: No brands, products, or companies mentioned are affiliated with SoFi, nor do they endorse or sponsor this article. Third-party trademarks referenced herein are property of their respective owners.

SOSMB-Q324-010

Building a business often requires financing, but it can be hard to get approved with a credit score that’s low or that hasn’t been established yet.

Some lenders offer no credit check business loans. Each lender has its own requirements, which may include things like minimum annual revenue amount, time in business, and the requirement to put up collateral.

Keep reading to learn more on no credit check business loans, how to get one, and alternative sources of funding.

Can You Get a Small Business Loan With Bad Credit?

When evaluating applications, lenders often consider both a business’s credit score and the personal credit score of the owner. If either of these is low, it can hurt your chances of getting approved for a loan or can result in higher rates if you are approved.

The different types of business loans usually require a minimum personal credit score of 670. Online lenders that offer bad credit business loans have a lower threshold, often as low as 580, which is “poor” for some credit agencies and “fair” for others. Building business credit may help you qualify for better terms and larger loan amounts.

As you get financing, considering these steps may help you work toward building a business credit score:

•  Make debt payments on time

•  Keep credit utilization low by avoiding maxed-out credit lines

•  Grow revenue to offset existing debt

Recommended: Paying Back SBA Loans

Can You Get a Business Loan With No Credit Check?

Banks and other traditional lenders that are willing to give loans to business owners want to be sure that the loan payments have a decent chance of being paid back. That means assessing the ability of an applicant for a loan to make those payments. How could a bank or other type of lending organization make such an assessment without even being able to look at the credit history of the business? The challenge is clear.

That said, there are financing opportunities that small business owners can seek out if there is no credit check. Some lenders do offer them, but they are considered risky and often have high interest rates and origination fees.

Recommended: Small Business Loans With Only EIN

Pros and Cons of No Credit Check Business Loans

No credit check loans offer significant advantages and disadvantages. Pros of no credit check business loans include:

•  Quick and accessible funding for individuals with poor or no credit history, bypassing the lengthy approval processes associated with traditional loans.

•  They can offer a pathway to rebuilding credit if timely payments are reported to credit bureaus.

However, the downsides are substantial. Cons of no credit check loans include:

•  Very high interest rates and fees, making them more expensive in the long run.

•  Risk of predatory lending practices is higher, potentially trapping borrowers in a cycle of debt.

•  The lack of credit checks means lenders are not assessing the borrower’s ability to repay, which can lead to financial strain and default.

While no credit check loans can be a lifeline for those with limited options, they should be approached with caution and as a last resort.

Other Sources of Funding for Small Businesses

There are small business loan alternatives that may work in place of a no credit business loan. Consider the alternatives below:

No Credit Check Personal Loans

No credit check personal loans may be an option worth exploring. However, it’s important to note that personal loans generally cannot be used for business purposes. Make sure you check for any restrictions against using a personal loan for business purposes before applying for one.

Recommended: Credit Score Required for Business Loans

Payroll Loans

Payroll loans are designed to specifically fund employee paychecks in the event of a short-term cash flow issue. Approval and funding times are usually fast to cover last-minute gaps in capital. These loans are seen as a last resort by many because they come with very high interest rates.

Equipment Financing

Equipment financing can help you get funding in place for machinery or office equipment. The actual assets are used as collateral, although you may also need to offer a personal guarantee.

Merchant Cash Advances

A merchant cash advance is based on future sales through your point-of-sale system, also known as your POS system. You can borrow a lump sum, then pay back the loan using a percentage of your daily sales.

Traditional Small Business Loans

It may be possible to get a traditional loan without a credit check, but expect the lender to demand collateral or offer high interest rates. There will be limited options regarding loan types, as well.

Recommended: What to Know About Short-Term Business Loans

Explore Small Business Loans

Not having a good credit score will make it challenging to get a small business loan, but it won’t be impossible. No credit check loans may be a viable way for you to get the funds you need, though they typically come with higher interest rates and fees than loans that require good credit.

If you’re seeking financing for your business, SoFi can help. On SoFi’s marketplace, you can shop top providers today to access the capital you need. Find a personalized business financing option today in minutes.

FAQ

Can you get a business loan if you have no credit?

Yes, there are no credit business loans available. In order to qualify, your business usually needs to meet other requirements, such as certain revenue numbers, and be prepared to pay high interest.

Do small business loans require a credit check?

Not all small business loans include a credit check, but you may see higher rates and fees with loans that don’t rely as heavily on the applicant’s credit score.

Can I get a business loan with a 500 credit score?

It is possible to get a business loan with a credit score of 500, which is seen as either “fair” or “poor.” There may be a demand for collateral or high interest rates imposed.

Can you get a business loan with your EIN number?

It is unlikely you will get a traditional business loan with only an EIN number, but some less traditional lenders may offer financing. Lenders may also consider your personal credit score, business credit history, revenue, and overall financial health.

Photo credit: iStock/Anchiy

SoFi's marketplace is owned and operated by SoFi Lending Corp. See SoFi Lending Corp. licensing information below. Advertising Disclosures: SoFi receives compensation in the event you obtain a loan through SoFi’s marketplace. This affects whether a product or service is featured on this site and could affect the order of presentation. SoFi does not include all products and services in the market. All rates, terms, and conditions vary by provider.

Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.

Third-Party Brand Mentions: No brands, products, or companies mentioned are affiliated with SoFi, nor do they endorse or sponsor this article. Third-party trademarks referenced herein are property of their respective owners.

Disclaimer: Many factors affect your credit scores and the interest rates you may receive. SoFi is not a Credit Repair Organization as defined under federal or state law, including the Credit Repair Organizations Act. SoFi does not provide “credit repair” services or advice or assistance regarding “rebuilding” or “improving” your credit record, credit history, or credit rating. For details, see the FTC’s website .

SOSMB-Q324-003

Gross profit and EBITDA (earnings before interest, tax, depreciation, and amortization) both measure the profit, or earnings, of a business. However, they do so in different ways.

As a business owner, you may want to use both metrics to get a full picture of your company’s revenues and how efficiently it is operating so you can make the smartest choices, especially when considering small business financing.

Read on to learn the difference between gross profit and EBITDA, how each metric is calculated, and which one to use when.

What Is Gross Profit?

Gross profit is the total income a business earns after deducting the cost of goods sold (COGS) from its total revenue. COGS includes any of the expenses that are directly involved in creating a product or service, such as materials, labor, and equipment.

Gross profit tells you how much profit a business receives from its direct labor and materials. The higher the gross profit, the more efficient the business is at producing its core products and services. Gross profit is the first profit figure on a business’s income statement.

While gross profit accounts for costs directly involved with products or services, it does not include expenses that are not directly involved in production, such as salaries for administrative staff, rent for a corporate office, office computers, and marketing expenses.

How Is Gross Profit Calculated?

The formula to calculate gross profit is as follows:

Gross Profit = Revenue – COGS

Revenue is the total income derived from the sale of products or services. COGS refers to the direct costs of producing the goods sold by a company. When you subtract COGS from revenue, you end up with gross profit.

Gross Margin vs Gross Profit

Gross profit margin (or gross margin) and gross profit mean essentially the same thing – they both show the amount of revenue left after covering the COGS. The only difference is in how they are expressed: Gross profit is shown as a dollar amount, whereas gross margin is shown as a percentage.

Once you have your gross profit, you can express it as gross margin by dividing gross profit by your total revenue:

Gross Margin = Gross Profit / Revenue x 100

Recommended: How Much Does It Cost to Start a Business?

What Is EBITDA?

EBITDA calculates earnings before interest, tax, depreciation, and amortization. It specifically shows a business’s operational profitability because it only takes into consideration those expenses necessary to run the business day-to-day.

If you’ve taken out various types of small business loans, EBITDA will paint the picture of what your company’s financial performance is outside of that debt. EBITDA also excludes expenses that are outside of a business’s control, including taxes, depreciation (a decrease in the book value of assets over time), and amortization (allocating the cost of an intangible asset over a period of time).

By eliminating the effects of financing and accounting decisions, EBITDA can be useful for comparing profitability among companies and industries.

While EBITDA is often confused with cash flow, these are two different concepts. Cash flow generally refers to the money that flows through a business, both in and out.

How Is EBITDA Calculated?

There are two ways to calculate EBITDA.

Option 1:

Start with net income (the bottom line of the income statement), and then add back the entries for taxes, interest, depreciation, and amortization.

EBITDA = Net income + Taxes Owed + Interest + Depreciation + Amortization

Option 2:

Start with operating income (amount of revenue left after deducting the direct and indirect operating costs from sales revenue), then add depreciation and amortization.

EBITDA = Operating Income + Depreciation + Amortization

Recommended: What to Know About Short-Term Business Loans

EBITDA vs Gross Profit Compared

EBITDA and gross profit have a few things in common, but there are also some key differences.

Similarities

Both gross profit and EBITDA are financial measurements of how profitable a company is once certain costs and expenses are removed.

Investors can look at both of these numbers to understand whether a business would make a good investment or not. Company management can use these numbers to evaluate performance and plan for future profitability.

Recommended: EBITDA vs Revenue

Differences

EBITDA and gross profit measure profit in different ways. Gross profit is the profit a company makes after subtracting the costs associated with making its products or providing its services, while EBITDA shows earnings before interest, taxes, depreciation, and amortization.

Gross profit is useful internally, as it can help a company understand how well it’s using its resources to generate profit from products or services. Outside investors and creditors may be more interested in EBITDA if they want to compare your business to another, or to your industry as a whole.

Example of EBITDA vs Gross Profit/Margin Calculation

Here is an example of how you would calculate EBITDA vs. gross profit and gross margin.

Let’s say you have an annual revenue of $1,000,000 at your shoe factory. The cost to make shoes – COGS – over a year is $25,000. Your operating income is $925,000. Additionally, you have these expenses:

•  Interest on a loan: $1,000

•  Taxes: $10,000

•  Depreciation: $4,000

•  Amortization: $5,000

To calculate your gross profit, you would use this formula:

Revenue ($1,000,000) – COGS ($25,000) = Gross Profit ($975,000)

Gross margin is shown as a ratio:

Gross Profit ($975,000) / Revenue (1,000,000) x 100 = Gross Margin (97.5%)

To calculate your EBITDA, you would use this formula:

Operating Income ($925,000) + Depreciation ($4,000) + Amortization ($5,000) + Tax ($10,000) + Interest ($1,000) = EBITDA ($945,000)

Recommended: What Is EBITDAR?

Pros and Cons of Using Gross Profit/Margin

Using gross profit to measure a company’s profitability has both pros and cons. Here’s how they stack up.

Gross profit assesses a company’s efficiency in terms of making use of its labor, raw materials, and other supplies. An increase or decrease in gross profit over a period of time can help business owners and managers determine the reason for the fluctuation and, if necessary, take corrective action.

However, gross profit should not be confused with overall profitability. That’s because this metric does not factor in the fixed cost of running a business, such as rent, advertising, insurance, office supplies, and salaries for employees not directly involved in production, and office supplies.

The Takeaway

Gross profit and EBITDA are two different ways to measure a company’s profitability. Gross margin shows profits generated from the core business activity, while EBITDA shows a business’s earnings before interest, taxes, depreciation, and amortization.

Business owners can benefit by knowing both. Calculating your gross profit can help you see how efficiently your company is using its labor and materials. Knowing your EBITDA can show you how your business compares to other companies in your industry.

EBITDA may also come into play if you’re applying for a business loan. Lenders will often look at EBITDA (as well as annual revenue, net income, and credit score) to gauge the financial health of a business.

If you’re seeking financing for your business, SoFi can help. On SoFi’s marketplace, you can shop top providers today to access the capital you need. Find a personalized business financing option today in minutes.

FAQ

Does EBITDA represent gross profit or net profit?

EBITDA (earnings before interest, tax, depreciation, and amortization) doesn’t represent either. However, it is closest to net profit. To calculate EBITDA, you take a company’s net profit (gross income minus expenses) and then add interest, taxes, depreciation, and amortization back.

How can you calculate gross profit from EBITDA?

Gross profit and EBITDA (earnings before interest, tax, depreciation, and amortization) use different formulas. To calculate gross profit, you subtract the cost of goods sold from total revenue. To calculate EBITDA, you start with net profit or income (the bottom line of the income statement), and then add back the entries for taxes, interest, depreciation, and amortization.

Are EBITDA and gross margin the same thing?

No. EBITDA (earnings before interest, tax, depreciation, and amortization) shows a business’s earnings before interest, taxes, depreciation, and amortization. Gross margin, on the other hand, is the difference between revenue and cost of goods sold, divided by revenue, and is expressed as a percentage.

Photo credit: iPhoto/Tevarak

SoFi's marketplace is owned and operated by SoFi Lending Corp. See SoFi Lending Corp. licensing information below. Advertising Disclosures: SoFi receives compensation in the event you obtain a loan through SoFi’s marketplace. This affects whether a product or service is featured on this site and could affect the order of presentation. SoFi does not include all products and services in the market. All rates, terms, and conditions vary by provider.

Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.

Third-Party Brand Mentions: No brands, products, or companies mentioned are affiliated with SoFi, nor do they endorse or sponsor this article. Third-party trademarks referenced herein are property of their respective owners.

SOSMB-Q324-009

A trade credit is a business-to-business (B2B) transaction where one business is able to procure goods or services from the other without immediately paying for them. It’s called a trade credit because when a seller allows a buyer to pay for goods or services at a later date, they are extending credit to the buyer.

Trade credit can be a great tool for a small business that can free up cash flow and grow a company’s assets. However, there are some drawbacks, including a short financing window and potentially high interest if you need to extend that window. Here’s what every small business needs to know about trade credit.

What Is Trade Credit?

Trade credit is a formal name for a common agreement between two companies where one company is able to purchase goods from the other without paying any cash until an agreed upon date. You can think of trade credit the same way as 0% financing but with shorter terms. Sometimes trade credit is also referred to as vendor financing.

How Does Trade Credit Work?

Sellers that grant their customers trade credit generally give them anywhere between 30 and 120 days to pay for the goods or services they received on credit. The range, however, can be higher or lower depending on the industry and individual seller.

Often, the seller will offer the buyer a discount if they settle their account earlier than the balance due date. If they do offer a discount, the terms of the trade credit sale are usually written in specific format. For example, if the seller offers a 5% discount if the invoice is paid within 20 days, but is willing to give the buyer a maximum of 45 days to pay the invoice, that agreement would be written as:

5/20, net 45.

If the buyer is unable to pay their invoice within the set time period (which is 45 days in the above example), the vendor will typically charge interest. If that happens, trade credit is no longer an interest-free form of financing.

Recommended: What Is a Trial Balance Sheet?

Who Uses Trade Credit?

Business trade credit is very common in the B2B ecosystem. Businesses that use trade credit include:

•  Accountants/bookkeepers

•  Advertising/marketing agencies

•  Construction/landscaping companies

•  Food suppliers

•  Restaurants

•  Manufacturers

•  Wholesalers

•  Retailers

•  Cleaning services

Pros and Cons of Trade Credit

For Buyers

Pros:

•  Frees up cash: Because payment is not due until later, trade credits improve the cash flow of businesses, enabling them to sell goods they acquired without having to pay for those goods until a future date. It can be a good option for companies expanding into a new market or that have seasonal peaks and dips.

•  Possible discount: Depending on the trade credit agreement, if the buyer pays the invoice within a certain amount of time, they may receive a discount on the goods or services they purchase.

•  0% interest: The cost of capital can be a burden on some small businesses. If the buyer can settle the invoice within the agreed upon time frame, there is no interest charged on this type of financing.

Cons:

•  Short payment period: The length of the trade credit payment term varies, but they are often less than 120 days, which is shorter than most types of small business loans. For a growing small business, this may not be enough time. Companies that need a longer repayment period may want to look into other types of debt instruments.

•  It’s easy to over-commit: With discounts and wholesale prices, it can be tempting to buy too much of a particular good. Not only does this create excess inventory, but it also creates a bigger debt obligation.

•  Possible penalties for late payments: Depending on the trade credit agreement, there may be negative consequences for late payments, such as interest or a fine. In addition, the company might report your late payment to the credit bureaus, which could damage your business’s credit score.

Recommended: Five Year Business Plan

For Sellers

Pros:

•  Beat out competitors: Companies offering trade credit may be able to gain an advantage over industry peers that don’t offer trade credit. Because it can be difficult for some small businesses to get a bank loan, they may seek out suppliers offering trade credit.

•  Develop a strong relationship with clients: Offering trade credit increases customer satisfaction, which can lead to customer loyalty and repeat business.

•  Increase sales: Trade credits are still sales even if payment is delayed. Trade credit can also encourage customers to purchase in higher volumes, since there is no cost to the financing. Therefore, a trade credit can provide the opportunity for growth and expansion.

Cons:

•  Delayed revenue: If your business has plenty of cash, this may not be an issue. However, if budgets are tight, delayed revenue could make it difficult to cover your operating costs.

•  Risk of buyer default: Sometimes customers are unable to pay their debts. Depending on the trade credit agreement, there may be little to nothing the seller can do other than sell the debt to a collection agency at a fraction of the cost of the goods provided.

•  Less profit with early payment discounts: If the seller offers a discount for early payment, they will earn less on the sale than they otherwise would.

Trade Credit Accounting

Trade credit needs to be accounted for by both buyers and sellers. The process, however, will vary depending on the company’s accounting method — specifically, whether they use accrual vs cash accounting.

With accrual accounting (which is used by all public companies), revenue and expenses are recorded at the moment of transaction, not when money actually changes hands. With cash accounting, on the other hand, a business records transactions at the time of making payments.

A seller who offers trade credits and uses accrual accounting can face some complexities if the buyer ends up paying early and getting a discount or defaulting (and never paying). In this case, the amount received doesn’t match their account receivables and the difference becomes an account receivable write-off, or liability that must get expensed.

Trade Credit Instruments

Typically, the only formal document used for trade credit agreements is the invoice, which is sent with the goods, and that the customer signs as evidence that the goods have been received. If the seller doubts the buyer’s ability to pay in the allotted time, there are credit instruments they can use to guarantee payment.

Promissory Note

A promissory note, or IOU, is a legal document where the borrower agrees to pay the lender a certain amount by a set date. While it’s usually used for repaying borrowed money, it can also be used to pay for goods or services.

Commercial Draft

One hitch with a promissory note is that it is typically signed after delivery of the goods. If a seller wants to get a credit commitment from a buyer before the goods are delivered, they may want to use a commercial draft.

A commercial draft typically specifies what amount needs to be paid by what date. It is then sent to the buyer’s bank along with the shipping invoices. The bank then asks the buyer to sign the draft before turning over the invoices. After that, the goods are shipped to the buyer.

Banker’s Acceptance

In some cases, a seller might go even further than a commercial draft and require that the bank pay for the goods and then collect the money from the customer. If the bank agrees to do this, they must put it in writing — this document is called a banker’s acceptance. It means that the banker accepts responsibility for payment.

Trade Credit Trends

Trade credit is widely used worldwide. In fact, the World Trade Organization estimates that 80% to 90% of all world trade relies on trade credit in some capacity. It’s so widespread, it’s given rise to a type of financing called accounts receivable financing (also known as invoice financing).

With invoice financing, a company that offers trade credit can get a loan based on their outstanding invoices, effectively enabling them to get paid early. When they receive payments from their customers, they give that money (plus a fee) to the financing company.

Recommended: Understanding Business Liabilities

The Takeaway

Trade credit in business is very common and occurs when one company purchases goods or services from another company but doesn’t pay until a later date.

Essentially an interest-free loan, trade credit can be particularly rewarding for young businesses or seasonal businesses that may find themselves occasionally strapped for cash. A key drawback of trade credit, however, is that the buyer is generally expected to pay the invoice relatively quickly, sometimes within a month or two. For many small businesses, that may not be enough time, and they might be better served by getting a small business loan.

If you’re seeking financing for your business, SoFi can help. On SoFi’s marketplace, you can shop top providers today to access the capital you need. Find a personalized business financing option today in minutes.

FAQ

What is an example of trade credit?

Let’s say a restaurant offers kobe beef on its menu and gets its beef from a food supplier in Japan. The supplier offers them a 5/30, net 60 trade. This means that the restaurant has 60 days to pay for a shipment of beef. If they pay the invoice within 30 days, however, they will receive a 5% discount on the purchase price.

Are there any benefits to trade credit?

Yes, benefits of trade credit include:

•  Interest-free financing for buyers

•  Improves cash flow for buyers

•  Increases sales volumes for sellers

•  Builds strong relationships and customer loyalty for sellers

When do businesses typically use trade credit?

Businesses use trade credit when they do not have the capital on hand to make a purchase or to temporarily free up cash for other expenses. Trade credit is also a good option for young businesses that may not qualify for other forms of business financing.

Photo credit: iStock/Hiraman

SoFi's marketplace is owned and operated by SoFi Lending Corp. See SoFi Lending Corp. licensing information below. Advertising Disclosures: SoFi receives compensation in the event you obtain a loan through SoFi’s marketplace. This affects whether a product or service is featured on this site and could affect the order of presentation. SoFi does not include all products and services in the market. All rates, terms, and conditions vary by provider.

Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.

SOSB-Q224-1878665-V1

If you’re in search of financing to launch or grow a small business, you may find that in some situations you don’t qualify for traditional business loans. That could be because you haven’t been in business long enough or because your credit scores aren’t strong enough for lenders to be willing to lend to you.

Whatever the reason, alternative small business loans may give you an option for getting the capital you need. These loans are offered by non-bank lenders and may be open to businesses that don’t qualify for more traditional financing. They do, however, tend to have higher interest rates and fees than other lending products.

What Are Alternative Small Business Loans?

As you might guess from the name, alternative small business loans provide alternatives to more traditional financing offered through banks. These may include lending products similar to those provided by traditional banks or different products. Qualifications for these loans tend to be less stringent than, say, what’s required for SBA loans or lines of credit offered through a bank.

Because the requirements are less strict, alternative lenders take on more risk when they approve these loans. For that reason, they generally charge higher interest rates.

Recommended: Comparing Small Business Loans and Grants

10 Alternative Business Loan Types

If you don’t qualify for more traditional types of financing, like term business loans, alternative business funding offers nearly a dozen products that you might consider.

1. Business Line of Credit

Sometimes you don’t need your money all at once, in a lump sum. Having access to a line of credit allows you to borrow what you need when you need it. You pay back only what you’ve borrowed, plus the interest on that amount.

Many alternative lenders offer lines of credit. If your application is approved, you’ll be told the maximum amount of money that you can draw money against. If you borrow a portion and pay it back, you can borrow from the full line of credit amount again, up to that maximum.

For example: let’s say you’re approved for a $10,000 line of credit. You use $5,000 now and pay it back over a few months. Then later, you borrow the full $10,000, which is available because you’ve already paid back what you previously borrowed, plus interest.

2. Term Loans

If you’re having a cash flow crunch and need capital quickly, a term loan from an alternative lender can often put funds in your account the same day you’re approved.

The difference between an alternative term loan and a traditional bank term loan is that the period you have to pay back the former is usually much shorter, sometimes as little as six to 12 months. It’s a good idea to be sure you’ll be able to make the higher payments that a shorter term may require.

3. Invoice Financing and Factoring

If your business sends invoices to clients, you may be able to leverage them as collateral for financing in one of two ways. The first is invoice financing, which allows you to borrow the value of unpaid invoices to get a loan. The lender takes a percentage of the invoice value as a fee. Once you receive payment on the invoices, you pay back the loan.

The second is invoice factoring. It’s similar to invoice financing in that you can use your unpaid invoices to get access to capital. But instead of you being responsible for getting the payment from your clients, you essentially sell the invoices to the lender, usually for a percentage of what’s owed. The lender is then responsible for getting your clients to pay the invoices. When they do, you get back the remainder of what the clients owed, minus the lender’s fee.

4. Equipment Loans

Either traditional or alternative loans may in some cases require you to put up collateral like real estate, a cash deposit, or other assets. If you don’t have qualifying assets like these but need to purchase equipment like heavy machinery, a refrigerator for your restaurant, or computers, you might want to consider an equipment loan.

The equipment you’re purchasing acts as the collateral for the loan. That means that if you default on the loan, the lender could take that equipment to cover your debt.

While equipment loans can be considered alternative financing, they may still ask applicants to meet certain qualifications, which can include a minimum credit score, a minimum time in business, and/or minimum annual revenue.

5. Merchant Cash Advances

Another type of alternative funding is the merchant cash advance. If you don’t qualify for any other type of financing, this could be your best bet. Even if you don’t have good credit, you may still be eligible, since merchant cash advance loans are made based on your business’s credit card sales.

Unlike other types of loans, merchant cash advances don’t require a monthly payment on what you borrow. Instead, a percentage of your daily credit card transactions is deducted until you have paid back the loan in full.

Merchant cash advances charge what’s called a factor rate (which is different from interest rate). That fact can make it confusing to understand the true cost of one of these lending products. Here’s how to look at it. If you get an advance of $25,000 with a factor rate of 1.2, you would multiply the two numbers together to get the total cost you’ll pay back, which is $30,000, $5,000 of which is the fee. That means you’re essentially paying 20% on the loan.

6. Online Loans

Online lenders offer various types of business loans, including common term loans and lines of credit.

They typically come with less stringent requirements regarding credit score, annual revenue, and time in business. Traditional banks prefer to see two years in business. Online lenders don’t demand that. Applications are simpler; decisions come faster.

The downside: You may pay higher interest rates and be offered shorter repayment periods.

7. Short-Term Loans

Speaking of online lenders, short-term loans come online rather than through a traditional bank. In most cases, they must be paid off within six months to a year — at most, 18 months.

Short-term loans are a form of personal loan. The lender looks at daily cash flow rather than evaluating an applicant primarily on credit score and length of time in business. You could get funded in one or two days.

However, here, too, you are usually looking at a higher total loan cost. Rates and fees vary, but the APR is typically higher for short-term business loans than long-term loans. Be prepared for repayments that will be due far more frequently than monthly.

8. Business Credit Cards

A business credit card is a credit card for business rather than personal use.

Business credit cards can pay for business expenses like travel and supplies without the owner having to get a loan. They can fund large- or small-ticket items while earning rewards.

Be prepared for expensive annual fees and high APRs. Also, note that business credit cards are not legally required to provide all the legal protections that personal credit cards give users.

9. Crowdfunding

Money that flows into a business through crowdfunding is not actually a loan, as it’s not debt financing. Crowdfunding falls under the category of equity financing. You are offering shares of your company to family, friends, and acquaintances in your networks in exchange for money.

You could be pitching to venture capitalists (employees of risk capital companies who invest money in companies) or angel investors (individuals who offer their own money in exchange for a piece of the business).

Or you may not have to produce shares at all. The several types of business crowdfunding include reward-based crowdfunding, when individuals contribute to a brand’s crowdfunding campaign in exchange for a token of appreciation, and donation crowdfunding, when nothing is ever expected.

The most popular platforms for crowdfunding for businesses include Indiegogo, SeedInvest Technology, Kickstarter, Fundable, and StartEngine.

10. Microloans

Microloans for business resemble traditional bank loans–but they’re for smaller amounts. Few of them exceed $50,000. They can help business owners who have applications that haven’t been approved by traditional banks.

The SBA sponsors a small business microloan program. SBA-approved lenders offer financing up to $50,000 to qualifying companies.

Things to Know About Alternative Business Loans

As spelled out in the 10 options above, alternative business loans can be convenient, especially since you generally get your funds faster than you would with traditional choices. But the alternatives often have much higher rates.

Naturally, rates vary from one type of alternative loan to another, and from one lender to another. If the rate you’re offered seems too high, you may want to consider whether you can wait a little longer for the funds. If so, you may be able to work on building your credit or even hold off until your business has been operating long enough to help you qualify for lower rates.

Recommended: Mompreneurs: Generational Wealth and Real-Time Struggles

When to Consider Alternative Financing

Alternative business lending serves the purpose of providing financing when other avenues aren’t an option or when you can’t afford to wait for slower, more traditional routes. Otherwise, they aren’t necessarily the most ideal lending options. That’s why it’s best to explore other possible financing sources before deciding to pay more for an alternative business loan.

However, there are some situations in which it could be a good idea to take out one of these lending options. If you have a once-in-a-lifetime opportunity to grow your business, perhaps by purchasing another company or a costly piece of equipment at a great price, the added expense of the alternative loan might be worth it.

Or if you need an infusion of cash quickly (to cover payroll or other expenses, for example), and you can’t afford to wait until clients pay you, an alternative small business loan could be a good fit.
And finally, if you have a large project or order to fulfill, an alternative loan can get you the capital you need for upfront expenses. Then you may be able to pay back the loan quickly once your client pays you.

How to Qualify for Alternative Business Loans

When you’re trying to figure out how to get a business loan through an alternative channel, you may find that the process is similar in many ways to what you’d go through with a bank. You’ll generally need to provide information about your company, including how long it’s been in business and its revenues.

Alternative finance companies may or may not consider your credit score, depending on the type of loan you’re applying for. If your credit score is poor, there are poor credit business loans that look at other factors, such as your daily credit card sales or revenues, rather than your credit.

While you’re comparing small business loans and their terms, be sure to note the requirements for each. That way, you’ll know which ones you’re most likely to qualify for as well as get the best rates on.

The Takeaway

When it comes to business loan alternatives, small business owners do have choices about the type of financing they take out and the rates they pay. However, it can take some legwork to find the deals you like best.

If you’re seeking financing for your business, SoFi can help. On SoFi’s marketplace, you can shop top providers today to access the capital you need. Find a personalized business financing option today in minutes.

FAQ

What are some alternatives to small business loans?

People turn to business lines of credit, business credit cards, microloans, equipment loans, and merchant cash advances if they can’t qualify for a traditional small business loan.

What exactly is an alternative finance company?

Alternative finance companies offer business owners forms of finance that are outside the traditional finance system of banks and capital markets, such as an online lender.

What are some examples of alternative lending?

Alternative lenders are usually online, private companies that offer a range of products, including business lines of credit, invoice financing, and equipment financing.

Photo credit: iStock/Andrii Dodonov

SoFi's marketplace is owned and operated by SoFi Lending Corp. See SoFi Lending Corp. licensing information below. Advertising Disclosures: SoFi receives compensation in the event you obtain a loan through SoFi’s marketplace. This affects whether a product or service is featured on this site and could affect the order of presentation. SoFi does not include all products and services in the market. All rates, terms, and conditions vary by provider.

Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.

Disclaimer: Many factors affect your credit scores and the interest rates you may receive. SoFi is not a Credit Repair Organization as defined under federal or state law, including the Credit Repair Organizations Act. SoFi does not provide “credit repair” services or advice or assistance regarding “rebuilding” or “improving” your credit record, credit history, or credit rating. For details, see the FTC’s website .

Third-Party Brand Mentions: No brands, products, or companies mentioned are affiliated with SoFi, nor do they endorse or sponsor this article. Third-party trademarks referenced herein are property of their respective owners.

SOSB-Q224-1883324-V1