How Does a Business Loan Work?

business loans

If you own a small business, you know all about the joys and freedoms of entrepreneurship. And like every good business owner, you want to grow and expand your enterprise to deliver the best service to your clients and customers. But you may find that doing so requires additional business financing. Good news! You can apply for a small business loan.

How do business loans work, and what type of loan is right for you? Well, like most industries, the business lending industry is always changing, and every situation is different. These financing fundamentals can help you get started.

How Do Small Business Loans Work?

When you’ve been in business for a while, a lender can give you a business loan, which you’ll have to pay back with interest or a fixed fee over time. The loan will give you immediate access to the things you need to invest in your business – working capital, real estate, construction costs and other supplies.

[More: How To Secure A Long-Term Business Loan]

Types Of Business Loans

There are many ways to finance your business, but let’s have a look at some of the most common business loans.

  • Small Business Term Loan

When you think of a small business loan, a term loan is probably what you picture. It’s a traditional loan where you and your lender agree on how much money your business needs, and your business receives that agreed-upon sum, to be paid off in monthly payments.

These business loan terms are typically on the longer side, anywhere from 1 – 5 years, so you can get the capital you need to start your business and have the time you need to repay your loan. Rates are generally low for a traditional term loan from a bank,

  • Short-Term Loans

Short-term loans work a lot like traditional term loans because you still receive an agreed-upon sum of money from your lender which has to be paid back with a fixed fee. However, short-term loans come in smaller loan amounts with shorter terms.

Short-term loans normally have daily or weekly payments. But the considerable benefit of a short-term loan is that there is normally a quick application and ability to get the funds fast. Also, most funders who offer these short-term loans look at the whole health of the business when determining whether or not to approve the business.

  • Small Business Line Of Credit

A small business line of credit works much like a business credit card, without the physical card. This type of small business loan allows you to take out a line of credit with a monthly limit, but you only have to pay interest or fixed fee on the amount you borrow.

Unlike a credit card, however, a small business line of credit is more like cash – meaning you won’t have to pay extra if you need a cash advance.

Small business lines of credit can range from $10,000 to over $1 million and terms start at 6 months and go up to 5 years. These loans are a common way to get the financing you need and gives you a certain level of control over how much money you’re borrowing.

  • SBA Small Business Loans

SBA small business loans can be a little more complicated, but very rewarding. They’re long-term business loans offered by banks, but they’re partially guaranteed by the government’s Small Business Administration (SBA).

This allows lenders to take on less risk when they loan you the money and makes them more willing to do so. SBA Loans typically have lower rates, higher dollar loan amounts and monthly payments.

SBA loans can range from $5,000 to $5 million. Their repayment terms are never shorter than 5 years and max out at 25 years. SBA loans also offer interest rates as low as 6.5%, which can save you thousands over the life of your loan.

  • Equipment Loans

Certain businesses may need to invest in specific kinds of equipment. Bakeries need industrial-grade ovens to mass-produce baked goods. Health care businesses need medical equipment, like X-ray machines. That’s where equipment loans come in.

They are a type of self-secured business loan, meaning the equipment you buy with them acts as collateral for the loan. You can secure one for up to 100% of the equipment’s price, and your term will probably be equal to the projected life of the piece of equipment. And because the equipment acts as collateral, the lender takes on less risk, and lower rates

  • Accounts Receivable (Invoice) Financing

This is not a loan, but another alternative type of commercial financing. If your business has outstanding invoices, but you need the cash for them now, you can apply for accounts receivable, or invoice financing. Simply put, the funder takes on the risk of whether your customers repay you in exchange for a fee. And you get quick access to the cash you need. Because of this, keep in mind that rates or fees may be a little higher than some of the other options.

[More: Get Your Small Business Term Loan]

Application Requirements

Are you wondering how to get a business loan? Well, loan decisions usually rely on a set of creditworthiness criteria, such as credit score, time in business and annual revenue. If you’re just getting started, lenders may rely more on your credit history.

Generally, you’ll need the following documents, give or take, to secure your small business loan:

  • Driver’s license
  • Voided business check
  • Proof of ownership
  • Bank statements
  • Balance sheet
  • Profit and loss statements
  • Credit score
  • Personal and business tax returns
  • Business plan

Some loans require additional documents, like equipment quotes for equipment loans and outstanding invoices for accounts receivable financing. Having a strong business plan can make or break whether you qualify for small business financing.

[More: What Type Of Small Business Loans Are Used For Working Capital?]


Every business loan or other type of financing has different requirements for repayment or payments, and thus has its pros and cons.

  • Term loans generally offer longer repayment terms, which can be good for businesses that want to have a long-term monthly payment schedule.
  • Short-term business loans often require weekly or even daily monthly payments.
  • Equipment loans are a little different and change depending on the equipment you’re financing.
  • Invoice factoring – essentially, you make payments when you receive your invoice payment.
  • SBA loans and business lines of credit typically have longer terms which might be the right solution for the business.

[More: Private Financing Loans Available To Small Businesses]


Whether you’ve owned your business for decades or you’re just getting started, there’s probably a business loan for you. You can reach out to us anytime if you have questions about the process.

We hope this guide has provided the introduction you need to finance your business. Please visit some of our other articles to learn more:

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