A secured loan places the burden of risk on the borrower. An unsecured loan shifts the burden of risk more to the lender. A small-business loan is secured when backed by specific collateral, typically business assets, such as equipment, inventory or real estate. Secured loans, including those secured by the Small Business Administration (SBA), typically range from $50,000 to $5 million.
By Brad Nakase, Attorney
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A business loan can be a powerful tool for expanding your business or refinancing your debt in today’s fast-changing economy, and both secured and unsecured options can come in handy. Many small business owners, however, are not familiar with the difference between these types of business loans. Understanding what sets them apart can help you select the type that’s best for your business.
The main difference between a secured business loan and an unsecured business loan is the use of collateral. This collateral offers lenders an additional guarantee that helps mitigate their risk when issuing small-business loans. For secured loans, collateral can include business equipment, real estate, vehicles, accounts receivable, inventory, or another asset. If the borrower defaults, the lender can seize the collateral as repayment. Conversely, unsecured business loans rely heavily on your creditworthiness and often feature higher interest rates and shorter repayment periods. Unsecured loans may require a personal guarantee or a UCC lien to offset the risk to the lender.
Secured business loans are loans backed by collateral, meaning an asset such as equipment, inventory, or real estate owned by you or your business. The lender will place a lien on the collateral. Examples of secured loans include mortgages, construction loans, equipment and auto loans, and home equity lines of credit. Because you could lose property if you default, secured business loans are not without risk. However, in exchange for taking that risk, you will find secured loans may have lower interest rates than unsecured loans, and financing terms may also be better, meaning you might have more time to pay off the loan.
Advantages of Secured Loans
Secured loans typically provide higher borrowing limits, lower interest rates, and longer repayment periods. Examples of secured loans include term loans, SBA loans, business lines of credit, and equipment financing. These loans are often easier to qualify for if you have collateral. However, there is a risk of losing your collateral if you default on the loan. Additionally, the application process may take longer because lenders may need to appraise the assets used for collateral.
Unsecured business loans are not backed by collateral. Instead, they rely solely on how creditworthy you are, which rests on factors such as your personal and business credit history. Lenders tend to view unsecured loans as riskier than secured loans, so they usually require that borrowers have a satisfactory credit history and pay them back more quickly. Because the loan is not secured by a valuable asset, unsecured loans also may carry higher interest rates than secured loans.
Advantages of Unsecured Loans
Unsecured business loans come with a variety of benefits that make them an appealing option for many small business owners. Here are some key advantages:
These benefits highlight why unsecured loans are a valuable option for many small businesses, especially those in need of quick funding or lacking significant assets for collateral.
A no-collateral business loan, also known as an unsecured business loan, is a loan that doesn’t require the borrower to provide collateral, such as a car, cash, or other company assets, for approval. Unsecured loans or loans without collateral aren’t backed by a specific asset. Unsecured business loans are riskier for the lender but less risky for the borrower. If the borrower defaults on their loan, the lender can’t seize any assets, but they can raise interest rates and fees or send the loan to a collection agency.
When applying for an unsecured business loan, check that your business fits the lender’s minimum requirements to apply. Lenders often set requirements for minimum time in business, annual revenue, and credit score. These may be listed on their website. You may also need to sign a personal guarantee, which allows the lender to seize personal assets if the loan is not repaid.
Some common types of unsecured loans include:
Unsecured loans generally have faster approval processes than secured loans, enabling you to access funds quickly. However, they come with higher interest rates and shorter repayment terms. By comparing different lenders and loan options, you can find the right unsecured loan for your business needs.
Within the Small Business Association’s 7(a) program, every offered type of loan requires collateral to secure the loan, if the loan amount goes above certain thresholds. However, it is possible to get an unsecured SBA loan for smaller monetary amounts. For example, under the Standard 7(a) loan, lenders do not need to take collateral for loans going up to $25,000. However, for 7(a) loans that go above $350,000, collateral must be secured. That collateral needs to be worth as much as possible, up to the amount of the loan. For instance, a business owner might need to offer real estate or a boat to cover such a high loan amount.
Implications of Secured and Unsecured SBA Loans
The nature of an SBA loan – whether it is secured or unsecured – has major consequences for a business owner’s credit score and business finances. In general, secured loans are less expensive, but there is more of a risk for the borrower. By contrast, unsecured loans tend to be more expensive, but the business owner borrowing money faces less risk.
Specific SBA Loan Types and Collateral Requirements
Secured loans come with several benefits: higher borrowing limits, lower interest rates, and longer repayment terms. However, these advantages are paired with risks, including potential loss of assets if payment obligations are unmet. Meanwhile, unsecured loans are faster to obtain and pose no immediate risk to property, but they often carry higher costs and stricter eligibility criteria. Emma, like other business owners, must weigh these factors carefully.
Whether to opt for a secured or unsecured loan depends on your business’s specific needs and your capacity to meet loan requirements. If your business has substantial assets to leverage and you are confident in repayment, a secured loan can provide advantageous terms. Conversely, if you need fast access to funds without risking property, unsecured loans are a more viable option. Carefully analyzing your business’s financial situation and goals will help ensure you make an informed decision.
As a business owner, it is essential to evaluate both the risks and rewards of any loan and choose the option that best aligns with your business goals and financial situation. Both types of loans have their distinct advantages and can be tailored to meet diverse business needs.
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