Are you looking for a way to finance a business expense or need to relax your cash flow tensions? A working capital loan could be the right option for you. They are more flexible than other business funding options, but they are not for everyone. This article will explain what a capital loan is, how you can use it, what the pros and cons are, and alternatives to capital loans. Let's dive in.
What Is a Working Capital Loan?
A working capital loan is a type of business financing that enables business owners to cover everyday, short-term expenses. Think of it as the capital needed to work, and cover your necessities. Some loans are geared towards specific purchases — such as commercial real estate loans — where the loan can only fund a specified item or set of items.
Not so with a working capital loan. There can be limitations on how you can use the funds, but generally speaking, you can use the capital for many purposes, which we’ll discuss momentarily.
Many businesses rely on working capital loans to get through certain parts of the year. For instance, some companies have incredibly busy summers (think outside wedding venues, businesses near major tourist attractions, etc.) and make most of their money during the summer months. During the slower winter months, they will use a loan to maintain adequate cash flow and protect their assets until the busy season picks up again.
Working Capital Loan Uses
As previously mentioned, these funds can be used for everyday expenses but cannot finance large purchases or investments. Typical uses of working capital loans include the following:
- Payroll: When your business needs to maintain company payroll during slow times, these loans can keep you afloat and your employees paid.
- Rent/Mortgage: Nearly every business (even home-based businesses) has a monthly payment for rent or mortgage. They can be the biggest monthly expense for some business owners, outside their salary.
- Utilities: If you live in an area that experiences hot summers or cold winters, the utility bills can drastically increase during those months. If that coincides with your slow season, a loan for your working capital can get you through.
- Inventory: There may be times when you need to rapidly increase your inventory, but do not have the cash on hand to do so. This is a perfect time to get a business loan so you can take advantage of the increase in sales.
- Debt consolidation: Depending on the lender, you may be able to consolidate your business debt payments into one monthly payment. This is especially helpful if you have high-interest business credit cards.
Many other purchases qualify, but these are common uses for businesses that get a loan for working capital.
Pros and Cons of Working Capital Loans
As with any business funding, there are advantages and disadvantages. Here are the top considerations to bear in mind before pursuing this type of loan.
- Numerous allowable expenditures
- Easy to qualify with good credit
- Many are unsecured loans
- Flexible payment terms
- Cannot be used for large purchases or investment purchases
- Can be difficult to obtain without good credit or collateral
- Interest rates can be high depending on your credit
- Working capital loans are often tied to and affect personal credit scores
Alternatives to Working Capital Loans
There are many ways to finance your business needs, cover those everyday expenses, and keep your operations on track. Here are some other financing options for you to consider:
- Business Credit Cards: These tend to have high-interest rates that can pile up quickly, but they are an option if you do not have time to wait for a loan decision.
- Business Line of Credit: A line of credit operates similarly to the same way a credit card does. Once you get approved for a certain amount, that amount is waiting until you use it. You only pay interest on the borrowed portion, and your credit amount replenishes once you repay the line, allowing you to use it over and over again until the term is up.
- Invoice factoring: Factoring or invoice factoring, is a form of lending where the lender purchases unpaid invoices, and you receive the cash right away, minus a fee.
- Equipment Financing: If you need to purchase equipment for your business, equipment financing could be easier to procure because the equipment is the collateral for the loan.
Working capital loans are great products and enable you to get the items you need to maintain business operations. We're not a one-size-fits-all company; Midwest Business Funding will work with you to find the best capital loan terms because your business is unique and requires funding that fits.