Pros and cons of alternative business lending

Qualifying for business funding may be challenging if you’re a startup or don’t have a prime financial profile such as having bad credit or low revenue. In these cases, instead of applying in person at a traditional bank or credit union, you can now consider a range of alternative business lending options.

Alternative lending often relaxes eligibility requirements, helping you get funding even with less-than-ideal business qualifications. Many alternative lenders will also fund your loan quickly through a streamlined online application. This approval process allows you to receive funding to quickly cover a financial need or emergency.

Read on to learn how alternative lenders operate and find out alternative lending pros and cons.

What are alternative lenders?

Small business financing can come in many different forms. Beyond the traditional business loan and business credit card options you already know about, alternative lending options include business loans from online lenders and payment processing companies, crowdsourced business loans, merchant cash advance loans and invoice factoring.

Many reputable alternative lenders use their platforms and technology to get small businesses the financing they need. But business owners should know that these financing options all work differently, and they need to read the fine print before they borrow.

Types of alternative lenders

Small business financing goes beyond traditional business loans and business credit cards. If you’re looking for alternative business finance options, look online, as many reputable alternative lenders use their online platforms and technology to get small businesses the financing they need.

But business owners should know that these financing options all work differently, and they need to read the fine print before they borrow.

Online lenders

Business loans from online lenders work similarly to business loans from traditional banks and credit unions. Online lenders offer many types of business loans, including the term loans and lines of credit you’ll find at banks. But they also offer some of the loan types listed below, like merchant cash advances and invoice factoring.

You may not have heard of many top online business lenders. They work with businesses rather than consumers and typically do not have physical locations applicants can visit.

Peer-to-peer lending

Peer-to-peer lending allows your business to get financing through multiple private investors. Lending usually occurs through a platform similar to a crowdfunding platform, such as LendingClub. You will then pay back the loan within a specified time period and possibly with interest.

Peer-to-peer lending gives you the chance to get a business loan without needing strong credit or finances to get approved. The platform may not consider your credit or may accept poor credit when approving you for the investor-funded loan.

Crowdfunding

Online platforms offer crowdfunded loans funded with small investments from individuals such as family, friends or individual investors. A company called Kiva falls into this category, offering small, zero-interest loans to startups and established small businesses alike.

These loans must be repaid, but other types of crowdfunding do not. You may instead reward investors with merchandise or equity in your company.

Merchant cash advance

Merchant cash advances let businesses get an advance on their credit card sales.

Like other types of bad credit loans, MCAs have flexible requirements, so this type of funding can be advantageous for businesses with regular, ongoing sales they can use as collateral. However, business loan rates tend to be on the high side.

Invoice factoring

With invoice factoring, a business owner sells outstanding invoices to a company. You’ll receive up to 85 percent of the total invoice amount. From there, the invoice factoring company will collect payment from their customers. The lender will send you the remaining amount minus fees.

Alternative business lending pros

If you’re considering one of the alternative business finance options we outlined above, you should know about all the benefits you could get. Here’s an overview of the alternative business lending pros that can apply to some types of funding.

Flexible eligibility requirements

The first benefit of alternative business financing is obvious. These loan options can make it possible to get the funding you need — even when you cannot get approved for a business loan from a traditional bank.

With many available options, you can check the business financing requirements from each and only apply for funding you’re likely eligible for.

Some options don’t require a personal guarantee

Because some loan options like the merchant cash advance and invoice factoring involve selling a percentage of future profits, they can often be acquired without a personal guarantee.

No personal guarantee means the business owner does not put their personal credit at stake when they receive funding. Business owners worried about defaulting on a traditional loan might find that reassuring.

Easy application process

Many online business financing companies make it easy to apply for funding online and at any time of the day or night. This can be a major benefit if you don’t want to apply for a business loan in person or if you want to compare loan options beyond the bounds of your geographic area.

No restrictions on how you use funding

Many business financing options from alternative lenders don’t require you to submit a comprehensive plan detailing how to spend the funds. This means you can get approved for funding and use your loan funds for whatever purposes suit your business needs best.

Get the money your business needs quickly

Loan funds from banks may take weeks to arrive. Approval for U.S. Small Business Administration loans can take 30 to 90 days, and even then, you still have to wait for disbursement.

By comparison, many online lenders can get you your money within a week. Some even offer funding within 24 hours of applying.

Alternative business lending cons

While the advantages above can make alternative business financing options a good choice, there are some disadvantages you should know about and consider.

Higher costs of borrowing

Some types of business funding are offered with competitive fixed interest rates and fast funding. But other alternative loan types are both complicated and costly, especially if you’re applying for a loan designed for someone with bad credit or a fast business loan.

As an example, merchant cash advance loans charge something called a “factor rate” instead of an interest rate. A factor rate is represented as a decimal, such as 1.15. To calculate the total cost of borrowing, you multiply the amount borrowed by that decimal. MCAs are known for being expensive compared to traditional loans, and factor rates can make it tricky to compare costs.

Some don’t build business credit

Since loan options like invoice factoring and merchant cash advances use a business’s future income as collateral, the companies offering these options typically do not report payments to the business credit bureaus. Ultimately, this means some types of business funding will not help you build your business credit score.

Shorter loan terms

Many small business loans from alternative lenders are offered in shorter terms, usually falling within three to 24 months. In some cases, loan terms may only be a few weeks long. Alternative lenders may also require an aggressive payment schedule of daily or weekly payments. These payment terms can lead to higher payments, making it difficult for small businesses to keep up.

Research required

Because alternative business funding options are so wide and varied, you’ll need to do plenty of research before you move forward and apply. You’ll need to know when payments are due and the rates you’ll have to pay to get funding. You should also spend time reading lender reviews to ensure you’re working with a trustworthy company.

The bottom line

When you’re funding a small business, there are more options to consider now than ever. You can still get a business loan from a traditional bank or apply for a business credit card, but alternative lending can help you get faster funding or expand your loan options when your personal credit is on shaky ground.

Frequently asked questions

• What is alternative business lending?

  Alternative business lending is a type of business finance secured from sources other than a traditional bank or credit, such as a private direct lender or crowdfunding platform.

• Why is alternative lending important?

  Alternative lending is important because it gives businesses that may not qualify for a business loan from a bank or credit union a way to secure funding.

• What are the disadvantages of alternative lending?

  The disadvantages of alternative lending include higher costs of borrowing, no building of business credit, shorter loan terms and required research to find loans.