Unsecured business loans provide a critical form of funding for small businesses. In 2024, businesses relied on $261 billion in unsecured loans globally. That figure is expected to grow to more than $682 billion by 2024.
This type of funding is valuable because it can be used to cover everything from bills to the cost associated with increasing staff or growing your operations. Because they do not require any form of collateral, unsecured loans can also be more costly than some other types of borrowing.
In addition to being prepared for higher interest rates, knowing how to manage an unsecured loan effectively is important to avoid any negative consequences from borrowing.
1. Choose the right lender for your situation
Shopping around for the right unsecured loan for your business is another important step and should include considering different types of lenders and loans including loans from the government, as well as traditional banks, credit unions and online lenders.
Loans backed by the Small Business Administration (SBA) are one of the most common forms of borrowing and can generally be found through banks, credit unions and alternative lenders. There are many different types of SBA loans available, but they are all known for having set maximum interest rates, which can make them an especially affordable choice compared to other types of unsecured business loans.
In addition to SBA loans, credit unions offer other types of unsecured borrowing for businesses. These loans often come with more competitive interest rates, but you’ll typically need to be a member of the credit union and meet strict eligibility requirements. In addition, the application process can take an extended period of time.
Online lenders are yet another option for unsecured business loans. These types of lenders typically provide a fast application and an equally quick funding process. Once a loan is approved you may receive the cash in as little as 24 hours, which can be helpful when expected business expenses arise. The repayment terms offered by online lenders can also be more flexible, which is an important consideration when you’re looking for a loan to fit your unique needs and business budget.
2. Check your credit
Before applying for any loan, check your personal and business credit score. See if there are any errors on the report that you can get removed or if there is anything you can do to give your score a quick boost. That can help you secure a lower cost for your loans.
You should also monitor your credit score as you are paying off your unsecured business loan to make sure you are quickly correcting any issues that arise and avoiding errors that could damage your score.
Bankrate insight: How do you get a business credit score?
Establishing a business credit score takes time. To get started apply for an Employer Identification Number (EIN) from the IRS to separate your personal credit from your business credit. Opening a business bank account and a business credit card can also help build your credit profile, including establishing a track record of responsible debt payment.
3. Read your loan agreement
Before you sign any legal document, it’s important to make sure that you read it carefully and fully understand it.
Your loan agreement will outline how your loan works. You’ll see sections that show how interest is calculated when your payments are due and any loan fees. It also describes what happens if you miss a payment or have other problems with the loan.
Some common areas to look for in the agreement are:
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Terms and conditions |
The basic details of the loan include the amount, the term, the interest rate, and any fees, such as origination or early repayment fees. |
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Penalties for nonpayment |
This outlines the fees and penalties you’ll deal with if you miss payments. It may also indicate the loan’s grace period if there is one. |
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Acceleration clause |
This clause describes how the lender can demand immediate payment of the loan’s full balance if you default on the loan. |
4. Build payments into your budget
A business budget is an essential tool that gives business owners a true understanding of their financial status and the power to manage their business effectively. A budget can also help businesses manage debt repayment.
Your budget should describe how much money the company makes, how much it spends, where the income comes from and where it goes. Make sure that your business loan payments are built into your business budget. This can help you ensure that the loan fits your monthly, quarterly and annual budgets and also stay on top of repayment each month. Updating your budgets over time as your situation changes, is also an important step.
Each business will budget in different ways; some popular budgeting strategies include:
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Master budget |
This is a single master financial document that contains all of the company’s financial information, usually for a full year. It may have various lower-level budgets focusing on specific things, like labor or sales. |
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Operating budget |
This is a basic method of budgeting that looks at a company’s revenue and expenses over a period of time. |
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Cash budget |
A cash budget looks at a business’s cash inflows and outflows over a set period, such as weekly, monthly or quarterly. |
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Zero-based budget |
Zero-based budgeting sets the budget for every spending category at $0 at the beginning of each period. You then must justify the spending each period. This is a useful method for making sure your company uses funds as effectively as possible, but takes effort. |
5. Pay your bills on-time
Paying your bill on time avoids additional fees, penalty interest rates and damage to your credit.
Given the importance of timely payments, consider setting up automatic loan payments whenever possible or creating reminders about upcoming due dates. Automated payments ensure that your loan payments and other bills for your business are paid on time each month through recurring transfers. As a business owner this can save you time and also helps to avoid late fees for your loan. Autopay can be set up through either your bank using a bill payment feature or sometimes the lender will allow you to set up autopay.
6. Pay more than the minimum – if it makes sense
Paying more than the minimum can be a good idea for some companies. Larger payments mean you’ll pay the loan off sooner than expected and get out of debt sooner. It will also reduce the amount of interest that accrues, saving you money.
There are cases where it isn’t a good idea, however:
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If your loan has a repayment penalty: Check to ensure your loan doesn’t have a prepayment penalty. If the lender charges it, you’ll pay a fee if you repay your loan early. You’ll also want to confirm the type of interest your loan has and how your payments are applied to your loan balance.
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If your loan has a factor rate: If your loan has a factor rate applied instead of an interest rate, paying the loan off early won’t actually save you any money. A factor rate is applied to the initial balance, and early repayment won’t reduce the fee.
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If it would negatively affect cash flow: If you put too much money toward loan payments, you might not have enough to cover other expenses. You’ll also want to consider opportunity cost. You might be able to use your extra cash more effectively, generating business growth that leads to more profits than the money you’d save by making extra loan payments.
7. Avoid having too much debt
Some debt isn’t necessarily a bad thing. Proper use of credit can help you grow your business more quickly, and you can use your new revenues to make loan payments.
If you borrow too much, you could be left with large loan payments that are hard to make, especially if business is slow and revenue less than expected. Excessive debt can also strain your businesses cash flow and its ability to cover operating expenses.
It’s better to limit your borrowing and grow at a slower, more sustainable pace than to try to borrow too much and put pressure on your company to make big loan payments.
8. Talk to your lender if you’re struggling
If you’re having trouble with repayments, reach out to your lender to discuss your situation. It’s better to take this step sooner rather than later in order to get help before the situation grows beyond control and impacts your credit. Many lenders are happy to work with you to help you manage your debt and would prefer that to you suddenly missing payments and going into default.
Your lender might be able to help you by offering a deferment or forbearance, giving you more time to come up with the funds to make your payments. They could also work with you to consolidate debt, restructure debt, refinance it, or, in the worst case, settle for less than you owe.
9. Avoid the consequences of not paying a business loan
If you don’t pay an unsecured business loan, there could be severe consequences. After a missed payment, your loan will enter delinquency. When this happens, the lender may assess late fees and other penalties.
If you miss payments for multiple months, your business loan goes into default. When this happens, the lender could immediately use the loan’s acceleration clause to demand full repayment. The lender could also bring legal action against your company to force payment, and if you signed a personal guarantee, your personal assets could be up for grabs.
Missed payments and loan defaults can also damage your credit, dropping your score and leaving negative marks that stay on your credit report for seven years. Bad credit can make future borrowing difficult, resulting in settling for bad credit business loans that are likely more expensive.
10. Refinance if it makes sense
If your business is struggling to keep up with loan payments, refinancing may be able to make your loan more affordable. By refinancing you may be able to obtain a lower interest rate or extend the loan’s repayment term to reduce the monthly payments, or both.
Before applying to refinance, review your business and personal credit score to assess your ability to qualify. Reviewing your debt-to-income ratio, along with your businesses revenue and profit is also a good step. The best qualified applicants have a solid credit score and a low debt-to-income ratio.
11. Keep personal and business finances separate
As a business owner, maintaining your business finances separately from your personal finances can be an important step, including when managing debt like an unsecured loan. By keeping your finances separate, it makes it easier to track your business cash flow and expenses and stay on top of bill payments, including for your loan. And without a business bank account, it can also be harder to obtain a loan in the first place.
Keeping your finances separate can also help you protect your personal assets should you default on a loan.
12. Have a plan to make payments in emergencies
Establishing an emergency fund or cash reserves as a business owner is an important way to navigate uncertainty or economic downturns that may impact your ability to continue making payments on a business loan. These types of funds can help keep your business going during such unexpected developments and protect your credit score from being impacted by unpaid bills. As a general rule, experts recommend having enough set aside to cover three to six months of expenses in an emergency.
Bottom line
As a business owner, understanding the various financial tools available to you and how to use them effectively can be key to your long-term success. When managed responsibly, unsecured business loans can be one of these valuable tools. But before borrowing, engage in due diligence to make sure your budget can accommodate loan repayment and you understand the loan terms and risks of borrowing.
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