An LLC, which stands for Limited Liability Company, is a type of business structure that is flexible in nature and protects business owners from personal lawsuits and business debts. This is a particularly popular small business structure due to the fact that it advantageously combines the protection of a corporation, mainly shielding personal assets, with the simplicity in terms of operation that comes with a sole proprietorship or partnership (tax flexibility).
In many cases, LLC owners will seek financial assistance like LLC business loans at different stages of their business lifecycle, including initial funding needs and then funding for major expansions. The start-up phase, growth phase, and the maturity phase are all times in which an LLC business might seek additional financing. The following information will outline everything you need to know as an LLC business when it comes to LLC business loans, including how they work, requirements, and how to qualify. Read on to learn more.
What is an LLC business loan?
An LLC business loan is not in and of itself a specialized loan product. Instead, it defines a type of business loan that is issued to an LLC. Generally, LLCs can access multiple types of business financing. While this is great in terms of flexibility, it can be confusing when it comes time to select the right one for your needs. When it comes to an LLC business loan, though, it can provide funds that can be used for inventory, equipment, cash flow, or even debt consolation. It can be used for short or long-term costs but does often come with some eligibility requirements, like time in business, industry, minimum annual revenue, and credit score. This type of business loan is offered through banks, online lenders, and credit unions, along with some Small Business Administration (SBA) loans.
How LLC business loans work
In many cases, LLC business loans require a personal guarantee as part of the process. This means that you as the owner will repay if your business can’t. In most cases, the interest, fees and repayment structure will depend on the lender’s assessment of risk. This includes looking into factors like the LLC’s financial health, the borrower’s creditworthiness, and even broader factors like economic conditions, meaning most loans are based on lender evaluation and underwriting. The following is a closer look at various factors that go into how an LLC business loan will work:
- Interest Rates: Interest rates are determined by factors related to the perceived risk of default by the borrower, which includes:
- Creditworthiness: This can be proven with a strong personal and business credit score. The higher this number, the lower the risk that is taken.
- Cash Flow and Financial Health: A lender wants to know that a business can manage to repay a loan, which is proven with strong revenue and profits, along with income statements and proof of cash flow.
- Time in Business: Established businesses are considered less of a risk and could enjoy a lower interest rate than their startup counterparts.
- Collateral: Assets like equipment or real estate can secure the loan for the lender and reduce their risk, thus lowering an interest rate.
- Lender and Loan Type: Various types of loans (more on this below), such as merchant cash advances, term loans, or SBA loans will carry different risk levels and come in at different interest rates.
- Fees: When it comes to additional fees for a business loan, the following are factors that will contribute to the overall Annual Percentage Rate (APR):
- Origination Fees: These are upfront costs, based on the loan application process and is often set as a percentage of the total loan amount.
- Processing/Underwriting Fees: These fees are related to processing the loan and include provisions for administrative work.
- Closing Costs: These fees accrue when the loan is finalized.
- SBA Guarantee Fees: Some SBA-backed loans come with specific fees that can be passed to the borrower.
- Payment Penalties: Late payments and early prepayment fees can also be charged to the borrower.
- Repayment: Repayment terms define how long a borrower will have to repay the loan, along with their schedule for payments. This is determined by:
- Loan Type: The nature of the loan often dictates the range of terms. Generally, short-term loans are repaid between 3 and 36 months. Long-term loans can extend from 10 to 25 years.
- Loan Amount and Purpose: The use of funds will also alter the term length.
- Business Cash Flow: Monthly, weekly, or bi-weekly repayment terms will often be determined by a LLC’s cash flow.
- Fixed or Variable Rates: The repayment schedule will also be based on the type of interest rate chosen. For example, fixed rates might be consistently set as monthly payments, while a variable rate might include a fluctuating payment structure.
Types of business loans available to LLCs
When it comes to choosing the right type of LLC business loan, your best option will be based on individual factors. For example, how you use the funds and your business maturity will greatly alter your choice for LLC business loans. The most commonly sought business loans available for LLCs include SBA loans, business lines of credit, financing for equipment, short-term loans, and loans that offer alternative financing options. Read on for more information about each of these types of loans:
SBA loans for LLCs
SBA loans are not LLC specific. However, they are a government-backed type of financing that is designed to reduce the risk of financing for small businesses. It is a government guarantee which encourages private lenders like credit unions or banks to provide capital to small businesses that might otherwise not qualify. The U.S. Small Business Administration (SBA) does not lend money directly. Instead, they set the guidelines for loans made by lenders and guarantee a portion of the loan amount, often set between 75 and 85%. Eligibility for this type of loan includes meeting the SBA’s definition of a small business and other criteria.
Business lines of credit for LLCs
A business line of credit, known as an LOC, offers revolving access to capital and is flexible overall. It also lets the business borrow up to a set limit and pay interest on only what is used. To qualify for a LOC, a business must have an Employer Identification Number (EIN), business bank account, personal credit score, LLC formation, personal guarantee and filings. Types of LOCs include SBA CAPlines, which is a government-backed line of credit that is for short-term needs, bank LOCs, with lower rates but stricter guidelines, online lender LOCs, which are fast, convenient and good for quick needs and smaller financing. Determining which type of LOC is best for a business will be based on your business needs, the costs, and the speed of the loans. A LOC works best when you need ongoing access to working capital, need flexibility in terms and repayment, and are considering a short-term need. This includes situations like managing unexpected expenses, covering seasonal dips, and bridging cash flow gaps.
Term loans for LLCs
Term loans for LLCs often involve the provision of a lump sum that is then repaid over a fixed term, with either fixed or variable rates. Term loans can come from banks, online lenders or credit unions. It can also include SBA loans with longer terms and lower interest rates. This type of loan is considered advantageous for an LLC that needs a larger lump sum and would prefer a fixed repayment plan.
Equipment financing for LLCs
In equipment financing, the equipment itself serves as the collateral for a lease or loan. It is ideally suited for small businesses seeking to acquire tech, vehicles, or machinery with lower upfront costs. It works by pledging the assets worth financing, with the lender accessing the value of the equipment to create a borrowing base or 80% of its forced liquidation value. It can either be a fixed term loan or a revolving line of credit, and it is considered a lower risk for lenders due to the collateral, making it one of the best business loans for LLC.
Short-term and alternative financing options
Another option for a small business to consider are short-term and alternative financing options. This can include the already mentioned LOC. It can also include short-term loans that provide fast cash for working capital and are usually repaid in under a year’s time, making them optional business loans for new LLC. Some small businesses also take advantage of invoice financing, which means they sell outstanding invoices in exchange for immediate cash at 90% of their value. Merchant Cash Advance (MCA) is another alternative, providing quick cash in exchange for a percentage of future credit card sales.
LLC loan requirements lenders consider
A lender considering a loan will look at various factors beyond the existence of an LLC. This includes the following requirements, which are broken down in more detail above when discussing how rates, terms and fees are set:
- Personal credit score of the owners.
- Business cash flow and overall revenue.
- Time in business.
- Industry risk.
- Use of funds.
Remember, having an LLC is not enough to qualify for an LLC business loan, you must also prove to be a good risk by providing evidence of various other requirements, which will be more specific based on loan amount, lender preferences, and your business’s overall health.
Does an LLC protect you personally when taking out a business loan?
Yes and no. An LLC does protect you personally from business debt to a certain extent. However, if you take out a business loan and sign a personal guarantee (PG), which is often required for lenders of small businesses and those that are newer, then this bypasses the protection of the LLC shield. In other words, by signing this document as part of the lending process, you are guaranteeing that you will repay the loan you are getting even if your business goes under and cannot. Conversely, without a signed PG, your LLC’s assets are at risk but your own personal ones are not.
How long after forming an LLC can you get a business loan?
There is no hard and fast rule with regard to when you can get a business loan after your LLC registration. Lender requirements in terms of length of business existence vary and are greatly individualized. Generally, the newer your LLC, the higher scrutiny you will face and the fewer loan types you will qualify for, which can limit your loan options. Preparation, though, can alleviate many of these issues and can help you counter the negative impact of having a newly formed business. Therefore, preparation is often even more important than timing when it comes to getting an LLC business loan.
How to get a business loan with an LLC
Again, with each lender, the timeline will be slightly different, as will the order of actions. However, generally, as a business owner, getting a business loan with an LLC will include the following timeline listed below:
- Choose the right loan type based on what you need the money for, such as working capital, expansion or equipment.
- Check what you’re likely to qualify for based on your time in business, your business revenue, and your own personal credit.
- Compare lenders and terms at a high level and consider factors like rates, fees, repayment schedule and whether collateral or personal guarantees are required.
- Submit an application, keeping in mind the basic business and personal information lenders often request.
- Understand that lenders will deep dive into your business to access their risk. This means they will verify their risk before their final approval decision, a process called underwriting.
- Be aware that approval isn’t guaranteed and timelines do vary by lenders. Therefore, it’s smart to compare multiple options.
Preparing your LLC before applying for a loan
When it comes time to apply for an LLC business loan, you want to make sure you are ready for anything that might come your way. After all, readiness improves both clarity and credibility, so you want to do all you can to have everything in order before, not after, you apply for a loan. So, to be as ready as possible, do the following:
- Form an LLC properly.
- Keep your business and personal finances separate.
- Obtain an EIN.
- Open a business bank account.
- Organize your financial records.
While this set up and preparation doesn’t guarantee loan approval, it will greatly increase your chances of success. It will also give you a more accurate picture of the health of your business and will provide a level of clarity that can be immensely helpful going forward. Therefore, it’s worth doing even if it doesn’t guarantee your preferred outcome.
When an LLC business loan might not be the right fit
While LLC business loans are a great tool for many small businesses, they aren’t always the best financial choice in every situation. For example, if your business is very new, you lack consistent cash flow, you have a poor credit score (either personal or business), have no collateral, or you have significant existing debts or tax issues like liens, it might not be a great option to meet your needs.
Conclusion
LLCs have many financing options for their businesses. Therefore, it’s important to understand various loan type requirements and responsibilities for repayment. Hopefully, the information outlined above was helpful in explaining various aspects of LLC business loans, giving you a good idea of its value for your small business loan needs.