- Microloans can help small businesses get started and grow through small dollar loans.
- Although they are generally considered to be a great way to create a credit file for your business, very few lenders in the United States offer microcredits.
- Unlike some commercial loans, microcredit can be used for a wide range of items or needs.
- This article is intended for entrepreneurs who want to learn about microcredit, how to get one and the merits of using it.
If you are starting a business and you need money to start, or you are looking to grow your small business and you need money to hire employees or buy new equipment, you have probably considered applying for a loan. If you don’t have a long credit history, however, many traditional loan options may not be available. However, a lesser known solution called microloan can give you a small injection of money with reasonable interest rates, while strengthening your company’s local economy.
What is a microloan and how does it work?
In the realm of business loans, there are many loan options for small businesses. Each type of loan has its own terms and conditions of payment, interest rates and qualification requirements. Microloans are no different.
A microcredit is a small loan ranging from $ 500 to $ 50,000 which must be repaid in the short term. Generally provided by nonprofit organizations, these loans make up only a small portion of business loans in the United States, with Kabbage esteeming only 400 financial institutions they currently offer them to entrepreneurs. These loans tend to have interest rates of between 12% and 18%, with the intention of helping small businesses to get off the ground and continue to grow.
In many cases, the US Small Business Administration provides funding for microcredit nonprofit organizations to act as a intermediary lender through the SBA microcredit program. Although the SBA’s lending program does not “review, endorse or have the authority to approve or deny a micro loan,” the government agency sets guidelines for the micro loan program, such as the previously mentioned maximum amount of $ 50,000. . Other regulations include a maximum loan term of six years, a clause that funds cannot be used to pay off existing debt or buy property, and a requirement for the “microborrower” to attempt to obtain a loan from a private source prior to request for a microcredit.
Microloans are useful for short bursts of capital that you will use for things like buying inventory, paying employees, and reducing seasonal costs. They are also a great way to help your business create credit.
Key takeaway: Microcredit is financed by the SBA through intermediate credit institutions in order to give an advantage to budding businesses.
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Who should consider getting a microloan?
Upon their foundation, microcredit is built to help small businesses become operational. Therefore, if you are looking to get a small amount of finance quickly to start a business and you don’t necessarily have enough credit to get a loan from traditional lenders, a microcredit may work for you. Microlenders generally have less restrictive loan requirements, making microcredits much easier to obtain than traditional options.
In addition to helping small businesses get off the ground, many microlenders use their loans to combat existing inequalities in the way capital is supplied to small businesses in some parts of the country. While it is quite difficult for any promising person to obtain a traditional bank loan for a small business, the odds of being refused for financing are substantially higher for women is coloured people trying to get their adventure off the ground compared to their white male counterparts. The outlook is even worse mainly non-white communities in difficulty.
To this end, microcredit lenders or mission-based / mission-based lenders tend to lend these loans to minority or female-owned businesses, businesses that serve disadvantaged communities or low-income entrepreneurs. That’s not to say that white-man-owned businesses can’t get microcredit, but lenders tend to consider the overall scale of a microcredit borrower and their activities, with the overall mission the lender wants to support.
Key takeaway: The microlenders focus on brand new companies and certain groups of entrepreneurs.
Do you qualify for a microloan?
Since microcredits are often viewed by professionals as an “initial” type of loan to help a business create credit before switching to a traditional loan, entrepreneurs generally find them significantly easier to obtain than regular loans. While the process is faster and less rigorous, experts suggest that there are still a few things you can do to prepare for the loan application process.
The following are things you can do now as a new small business owner to improve your chances of being approved for a microcredit.
1. Establish a business plan.
As a newly coined entrepreneur, you have probably already created a general business plan for how you will move from a startup to a profitable company. If you’ve previously applied for a commercial loan from a traditional bank, you’ve probably already completed this step. Being able to show prospective lenders your plans and demonstrate how seriously you take the business will give you some peace of mind in arranging the loan. If you have not yet created a business plan, you must outline how your company will make money, what goods or services the company will treat and how you will attract new customers, among other things. [Read related article: The Do’s and Don’ts of Writing a Great Business Plan]
2. Get your credit and financial houses in order.
When applying for any type of loan, it is important to take a closer look at your monetary situation. The correct calculations of how much you can pay each month give you a basis for how much you can realistically borrow and how long your repayment period should be. Although a microlender is generally more relaxed about the money they are providing to small businesses, they still need to be reimbursed. Otherwise, there are as many financial problems such as default on a traditional loan. You should also make sure that your corporate and personal credit scores are in good shape. Although microcredits are typically suitable for companies with little or no credit, lenders often look at an applicant’s personal credit history to see how that person manages their money. Find mistakes and correct them, lower your credit balances, if possible, and clean up some other aspects of your credit report and you should be an easier endorsement for most lenders. [Read related article: 8 Factors That Keep You From Getting a Small Business Loan]
3. Prepare collateral or loan guarantee.
Microcredit is provided to small businesses and entrepreneurs with little or no credit history. Without a reliable record to see how reliable a borrower is, most lenders will require some collateral in the form of collateral. Offering certain valuable assets as collateral can demonstrate to the bank that you commit yourself to repaying the full balance. In case of default of the loan, that guarantee will be lost and the credit score will suffer a blow.
Key takeaway: Microcredits may be easier to obtain than traditional loans, but there are a few actions you can take now to simplify the process.
The negative aspects of microcredit
While there are many reasons why microcredits are a huge advantage for the small businesses they serve, they also have some limitations that can hinder their overall usefulness. For example, the interest rates of most microcredits range between 12% and 18%. These rates are lower than the interest rates of most traditional loans, but are among the highest interest rates on loans provided by the SBA.
If you are looking for a loan worth over $ 50,000, a microcredit may not be the right choice for you. Microcredit not covered by the SBA can go up to $ 100,000, but those are generally provided to large companies. Likewise, if you need a repayment term of more than six years, you probably won’t be able to get a microcredit, since they are higher risks for lenders.
Key takeaway: Microcredits are faster and easier to obtain than conventional loans, but may have high rates and low funding ceilings.