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Small Business Loan Terminologies: Everything You Need to Know

Estimated Read Time: 5 Minutes

Pooja Jaiswal , 2 July, 2024

Today, we’re exploring the world of small business loans. Whether you’re a startup looking to scale up or an established small business aiming to weather cash flow storms, it is essential to understand the types of financing available and the small business loan terms associated with them before you apply.

We’ll look at some of the most commonplace business loan terms to kick things off.

Overview of Small Business Loans

Small business loans are financial aid that enable businesses to fund their daily operational expenses. Business loans are provided by traditional banks or alternative funding lenders to startups and small businesses, providing them with the funding they need to boost thriving companies.

For example, business loans can be used as working capital to reduce cash flow issues, financing for a small business acquisition, debt repayment, or funding for business expansion.

Importance of Understanding the Business Loan Terminologies

Understanding the terminologies is crucial to maintaining clear and smooth communication with lenders. When you know every term, you can anticipate the consequences of the loan terms and, ultimately, make informed decisions. Armed with better knowledge, you can negotiate better terms with lenders and plan your finances accordingly.

It helps you anticipate cash flow needs, manage legal obligations, and avoid unexpected costs. Ultimately, it empowers you to make informed decisions that support your business’s financial health and long-term growth.

Business Loan Terminologies SMEs Must know

Most Common Loan Types

There are many types of business loans available in the UK. Here is the list of the most common types of loans

Secured Business Loans

Financial institutions such as Banks provide secured business loans, which are backed by a business asset or property as security. This loan can fund business expansion and the acquisition of new machinery and tools.

Lenders view secured loans as low-risk, so they are willing to lend a considerable amount at favourable interest rates, making them attractive to borrowers.

Unsecured Business Loans

In contrast to secured loans, unsecured business loans are becoming one of the most preferable business financial options among SMEs. Unsecured business loans refer to financial aid that is accessible without collateral. It includes various funding options for SMEs, such as term loans, business lines of credit, invoice factoring, etc. However, it is essential to note that lenders require a personal guarantee.

Term Loan

Term loans provide businesses with money to repay over a fixed period. They include short, medium, and long-term loans. This type of loan provides borrowers with a fund that can be used to cover emergency expenses when investing in businesses. The rate of interest is usually less than that of a line of credit.

Line of Credit

A line of credit is a form of revolving credit that allows you to withdraw money as and when needed, unlike typical short-term loans, which pay a lump sum. Under this type of loan, interest is charged only on the withdrawal amount.

Invoice Financing

It enables businesses to borrow money against the value of their outstanding invoices. In this type of loan, the borrowers sell their invoices to a third party. The lenders then collect consumer payments, and in exchange, they charge a certain amount known as an advance rate.

Common Financial Terminologies

APR (Annual Percentage Rate)

APR represents the annualised cost of borrowing money. It includes the cost of borrowing, interest, and any fees associated with the loan. In addition to interest, lenders often charge loan fees such as closing costs or an origination fee.

For example: Here’s a comparison of two merchant cash advance (MCA) offers:

 Offer 1Offer 2
Loan amount£10,000£10,000
Interest rate12%12%
Fees3% of the loan amount4.5% of the loan amount
Interest calculation12% of £10,000 = £1,20012% of £10,000 = £1,200
Fee calculation3% of £10,000 = £3004.5% of £10,000 = £450
Total cost£10,000 + £1,200 + £300 = £11,500£10,000 + £1,200 + £450 = £11,650

In this example, although both offers have the same interest rate, offer 1 is cheaper overall because it has lower fees than offer 2. It illustrates the importance of considering the interest rate and additional fees or charges when evaluating loan or cash advance offers.

Amortisation

It means repaying the loan in periodic instalments, which include the principal amount plus interest.

Balloon Payment

When you must repay a loan in less time than it would take to earn the required amount, you can use this payment arrangement.

Cash Flow

Cash flow refers to the amount that goes in and out of business. The cash flow statement is used to operate the business and conduct a financial analysis. It is considered one of the most important metrics in finance and accounting.

Collateral

Collateral refers to an asset used as security against the loan. It is an asset, such as equipment or property, that banks or lenders can seize if the borrower fails to repay the loan amount.

Credit Score

Credit Score represents a borrower’s creditworthiness. Since banks are picky about credit scores and prefer to work with borrowers with good credit, unsecured loans may be a better choice for borrowers with low credit scores.

Debt-to-Income Ratio (DTI)

DTI is a percentage of your monthly gross income, representing how much debt you have against the income. Lenders use it to determine your borrowing risk. Although a DTI of 43% is typically the highest ratio, a borrower can have and still get qualified for a loan, but lenders generally seek ratios of above 36%.

Debt Financing

Debt financing is when a company raises money by selling debt instruments to investors. It is a method of financing in which companies take on debt or lump sum money.

Personal Guarantee

Personal guarantees are promises the borrower makes to repay the loan amount in the event of business failure. They provide extra security for the lender and encourage them to fund the small business. Personal guarantees allow lenders to pursue the borrower’s personal assets, such as bank accounts, real estate, etc., before they pursue their business assets.

Loan Term

Business loan terms refer to the duration, amount, interest, and time required to repay the loan amount. The term can vary based on the type of loan; it can range from a few months to 25 years.

Repayment Schedule

A repayment schedule provides a detailed overview of periodic business loans over a specified period. It includes payment frequency (monthly, quarterly or at another interval), payment amount, interest, and the number of payments.

Prepayment Penalty

Lenders charge this fee if the borrower pays all or large portions of the loan. Lenders charge this to cover the loss of interest they have otherwise lost.

How can Nucleus Help?

Now, let’s talk about how Nucleus can back you up with their Nucleus Business Loan (NBL) and Revenue-Based Loans (RBL). These aren’t just your run-of-the-mill financial products; they are specially designed for SMEs.

First, there is NBL, which is flexible and doesn’t require collateral. NBL is perfect for SMEs across hospitality, healthcare, and more sectors, offering from £10,000 to £2 million. You can tweak the repayment terms to fit your cash flow, whether for repairs, upgrades, or boosting working capital.

RBL is great for businesses with fluctuating incomes. You can borrow up to twice your monthly revenue and pay back flexibly based on your monthly sales. They’re handy for managing cash flow and investing in marketing or new equipment. Both options are designed to be quick and straightforward to apply for so you can get back to focusing on your business.

Summary

Knowledge is power. As you navigate the terminology and options available, remember this insightful quote by Benjamin Franklin: “An investment in knowledge pays the best interest.”

Armed with a clear understanding of loan terms and financial jargon and supported by innovative solutions like those from Nucleus, you’re better equipped to make informed decisions that can propel your business forward. So, take charge of your financial future, seize the best opportunities, and apply for a loan with Nucleus when you’re set.


BY Pooja Jaiswal

5 MIN

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