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How To Get A Small-Business Loan
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Article 4: Will You Need Collateral?
If you can’t make your small-business loan payment, the lender needs a way to recover its investment. That’s what collateral is all about.
On long-term loans, collateral is universally required. The bank will let you know how much and what type.
For short-term loans, borrowers may also have to provide some form of hard-asset loan security.
Even when banks make U.S. Small Business Administration (SBA) loans, guaranteed by the government, collateral is required.
Typically, for long-term loans, the lender will place a lien on real estate, machinery or business equipment. In other cases, collateral might be based on income projections, but this may require a history that demonstrates reliable income flow.
When a business loan is for buying real estate, the purchased property itself serves as collateral.
But even in the case of loans to pay for business expansion or to obtain operating capital, property such as a business owner’s residence may be used as collateral. If the borrower decides later to sell the house and buy a new one, the bank typically would transfer the lien on the first property to the new property.
Not all loans need to be secured by hard assets.
Comerica Bank’s Vice President Nancy Russell points out that for a line of credit or a one- or two-year loan, a bank will seek a Uniform Commerce Code (UCC) filing, akin to a mortgage deed of trust. The UCC is a lien on business assets, perhaps on accounts receivable or inventory.
A line of credit generally is renewable annually. In some cases, lenders who extend lines of credit require the business to have a period in which the debt is paid off each year to avoid relying on the credit line as an income stream.
“Some banks require a 30-day out-of-debt period once a year making sure you can live without” the line of credit, says Fullerton Community Bank Vice President Joan Earhart.
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