If you want short-term finance to get through a difficult period or are in the position to expand your organisation, unsecured business loans may be an alternative for you. But before running out and applying for one, it’s important to understand what they are and how they work.
What Is an Unsecured Business Loan?
For those of you who have never heard of them, unsecured business loans are a style of loan that does not require the company borrowing money to pledge any personal or corporate assets as security. However, these loans need the applicant to demonstrate a favourable credit rating, an exceptional financial history, and an excellent cash flow projection to the lender. The lender assumes a greater risk in approving the loan and hence charges a higher interest rate.
The lending company is aware that the borrower may fail and be unable to repay the loan, which is why the payback amortisation is more than on a secured business loan. Through a comprehensive cash flow analysis, the borrower must demonstrate that making regular monthly payments, including interest, is feasible throughout the loan term. The loan length is often shorter than that of a collateral-based or secured loan; the interest rate charged is determined by the loan period.
Types of Unsecured Loans
While the interest rates on an unsecured loan are greater than those on a secured loan, they might still be less expensive than those other alternative funding solutions. Lines of credit, such as a credit card, are unsecured and need a continuous borrowing and payment schedule, which results in a high-interest rate.
In contrast to revolving credit, unsecured term loans require the borrower to repay the loan in equal monthly payments until the debt is entirely paid off at the end of the loan period. An organisation may utilise this form of loan to combine debt repayment or to help their business expand.
What Happens in a Default?
In the event of a payment default on a secured loan, recovery of collateral assists the lender in recouping its losses. However, unless a company director or owner provides a personal guarantee, there is nothing that can be done in terms of recoupment with an unsecured business loan. Frequently, the lender will pursue debt collection, and in severe cases, the borrower will be left in a precarious position and will almost certainly be forced to file for bankruptcy.