Business Funding

Commercial Loans: Everything You Need to Know

Read Time: 6 min

No matter what business structure you have chosen, there comes a point in time where the topic of commercial loans may come up. As a small business owner, you may find yourself needing to secure capital to cover expenses.

financial chart for commercial loan

With proper financial planning and budgeting, obtaining a loan does not have to be a burden. A business loan can give you a way to expand or obtain needed funds when the time is right.

But first, it is important to understand how these types of loans work, and what types are out there to make the best decision possible. If you are ready to dive deep into the nitty-gritty of commercial loans, you have come to the right place!

What is a Commercial Loan?

In the world of debt-based financing, a commercial loan is a type of product that allows one to borrow money for business expenses. Here are a few common examples of what the money can go toward:

The money must be used for the business. Various loan options are available to choose from based on the type of funds your business needs.

How Do Commercial Loans Work?

Before you apply for a commercial loan, there are a few pieces of information you will need to understand.

commercial business loans

In general, a bank or private lender will be the ones to provide this type of loan. In fact, large banks are responsible for almost half of all small business loans, with small banks responsible for another 47% and online lenders responsible for 24% These figures reflect that businesses often apply to more than one lender in a calendar year.

The process of obtaining this type of financing involves a research phase, where you learn about and select which business loan type is right for you. Then, an application phase and finally, an approval phase.

It’s important to make sure you can meet minimum credit score requirements and have at least one year of business history (the more the better). Additionally, you will need to produce financial documents such as cash flow documents, bank statements, tax returns, and more.

Types of Commercial Business Loans

There are several types of commercial business loans as mentioned before. Each one has a different set of repayment terms, rates, and requirements to go along with it.

The 7 most common types are:

  • SBA Loans
  • Commercial Real Estate Loans
  • Business Lines of Credit
  • Merchant Cash Advances
  • Traditional Term Loans
  • Short Term Loans
  • Equipment Loans

SBA loans

commercial loan

The Small Business Administration works to help small business owners obtain financing from banks and private lenders by guaranteeing SBA loans. Why do they do this? Because it reduces the risk financial institutions face by working with high-risk businesses. For instance, banks consider a business just starting out and opening a high-risk merchant account as risky.

Often, newer businesses do not have the history or documentation to prove their idea will be profitable. Because of this, entrepreneurs often find it difficult to obtain financing through traditional loans. The SBA incentivizes lenders and banks to provide funding for small business owners by taking almost all of the risk them. They guarantee the government will pay the majority of the loan back should the borrower default.

SBA loans are long-term (5-25 years) and require a strong credit score. It’s also important to provide documentation to show there is enough cash flow to repay the loan.

Commercial real estate loans

Many businesses require a commercial space to operate the business. Whether you need to finance the purchase of a space or upgrade the existing property, this type of loan was made to meet this need.

The property itself is put up as collateral for this type of loan. Because of this, interest rates are generally lower and the loan terms are for periods of 20-25 years.

This type of loan requires proof the business is generating revenue. Because of this, it is best for companies who have been in business for some time.

Business lines of credit

One of the most flexible commercial loan options is a business line of credit. Think of this as a very, very powerful credit card! While it’s not like a traditional loan, you are still borrowing money from a bank or lender.

The way it works is the bank or lender will grant you access to a specified amount of money. The business owner can withdraw however much they need (up to the maximum limit), as often as they like. They simply pay interest on the amount borrowed. Once the amount is paid back, the available balance is back to where it started and can be drawn from over and over without the need to reapply for a loan.

This is a great way to cover unexpected expenses. The only potential roadblock: your business needs a strong credit score to qualify for this type of loan.

Merchant cash advances

Another flexible method of borrowing capital for commercial use is through a merchant cash advance. With this type of product, the lender provides the owner of a business with a lump sum loan. The repayment occurs with each credit card sale made, as the lender will take a portion of each sale until the debt is repaid in full.

While the flexibility and ease of repayment are quite appealing, please note that the MCA is one of the most expensive options due to its high APRs. Make sure to calculate your numbers before choosing this type of loan.

Traditional term loans

Traditional term loans have been around for quite some time and are very straightforward. A borrower will be approved for a certain amount of money, which they pay back over a specific term plus interest.

Terms are typically for 10, 20, and 25 years periods. However, with the onset of medium-term loans, the terms can be as low as 2-5 years.

To qualify, you must have an established business with a history of revenue and a strong credit score.

Short-term loans

Sometimes life throws challenges our way, and short-term loans can help get us through. The short-term loan is ideal for one-time expenses, emergencies, or unexpected business opportunities.

The term can be as short as 3 months and last up to 18 months long. The applications can be filled out online in a matter of minutes. Because lenders can process these rather quickly, it’s not uncommon to receive funding within the same day.

This convenience does not come without a cost. Short-term loans have some of the highest APRs around. It is important to compare interest rates and decide which loan option is best for your business.

Equipment loans

Equipment loans are similar to real estate loans because the asset you are looking to finance will serve as the collateral. This is a great option if your business requires a new piece of equipment. You can obtain equipment from a vendor and begin using it right away, while the lender will only require monthly installments plus interest until the term or borrowed amount is paid back.

How to Apply for a Commercial Loan

After reviewing the wide variety of commercial loan options and choosing which is best for your situation, it is time to apply. Applications can be filled out at a bank, through a private lender, or online, depending on the loan type.

You will need to provide various financial documents to show you are able to repay the loan. Some of the most common documents requested by financial institutions are:

  • Cash flow documentation such as forecasts
  • Bank statements
  • Documentation of collateral
  • Balance sheets
  • A business debt schedule
  • P&L statements
  • Your business plan (for new businesses)
  • Tax return statements (both personal and business)
  • A description of how you intend to use the loan funds
  • Basic business information
  • Basic personal information
  • Your business credit score

Not all of these may be required as each loan has its own set of criteria. Speak to your bank or lender to learn more about what documents you will need to submit as part of the application process.

Obtain the capital you need

As you have learned, commercial business loans come in a wide variety of types. It will be important to have a clear understanding of any fees and repayment terms to ensure you can use the money responsibly and not default.

29% of small businesses fail because they run out of capital. Don’t let that be you. Obtain the funding you need to succeed.

Final Thoughts

Commercial loans are an excellent option for businesses that need additional funds. The commercial loan process can be different than traditional bank financing, but it’s worth exploring. Hopefully this article helped you determine if taking out a commercial loan is the right option for your business.