Do I Need Any Collateral to Apply for a Small Business Loan?

Every entrepreneur, small business owner, or an ambitious individual looking to expand operations must secure financing. One of the ways to get the financial head start required to realize your goals – whether you are starting a new project or working to expand your existing activities –A small business loan is the option for you. 

However, there are many different types of loans and nuances in the application process, and one common question is this: do I need collateral?

Factors like the lender, loan amount, and the nature of the business make collateral requirements differ. 

Therefore, it is crucial to learn the most common requirements to ensure that you have a higher chance of accessing the type of loan that fits your funding needs and business financial capabilities.

Let’s Understand Collateral

Collateral – this is something like a deposit. It is an asset that the borrower gives to the lender as a guarantee, which means that the borrower will be forced to part with it if the borrower has no opportunity to return the funds. 

For example, one of the most common examples of collateral is the real estate of a business owner. If the owners cannot repay the funds ahead of time, the facility will be offered to the lender for resale. Other possible options are various business equipment and inventory.

Yes, you might need collateral if: 

  • You’re applying for large loan amounts. Lenders are more likely to require collateral for larger sums to help mitigate their risk. 
  • Your business has a limited history of higher minimum and grace credit scores. Collateral provides further security for the lender. 
  • You are requesting especially favorable loan terms, like a low-interest rate or extended repayment term length. Lenders require collateral to reduce their risk where the terms favor the borrower. 
  • Your business is based in a risky industry or has unstable cash flow. Collateral allows the lender to restructure a sum if the borrower ultimately defaults. 
  • You’re a new business with no history to speak of, whether a start-up or a relative newcomer. Borrowers use collateral when they do not have historical financial data to rely on.

No, you might not have to use collateral if:

  • You’re applying for a smaller loan amount – lenders are more willing to forgo no collateral for smaller loans with a lower risk factor. 
  • Your business has an appealing credit history, and your business plan is well-written, displaying your business’s stability and growth potential. 
  • You have a great personal credit score – a higher personal credit score can greatly increase your likelihood of obtaining loans without collateral, especially for startups. 
  • Your business’s cash flow is regular and forecastable – regular cash flow is also a type of security for the lender, and they may thus waive the collateral requirement. 
  • Lastly, you’re applying for a loan with alternative lenders or web platforms with non-traditional assessment standards like cash flow-dependent lending, or invoice financing.

So, which one to choose? 

There’s no one-size-fits-all answer. The need for collateral depends on your unique situation and the type of loan you’re looking for. Assess your business’s financial state, credit history, and plans with caution before deciding on a loan approach. 

Remember that there are ways to improve your loan application and potentially secure a no-collateral loan, even if your business has few assets. This could be as straightforward as developing an excellent credit rating, leveraging a business co-signer, or demonstrating ownership of your business’s valuable assets.

The Indian Scenario: Collateral and MSME Lending

The Indian MSME sector plays a central role in boosting the national income, as it provides for approximately 96% of the industrial units and creates over 120 million jobs. To effectively function MSMEs need finance, and the issue of the necessity of the accompanying collateral is to be considered.

Currently, a report has demonstrated that almost 80% of MSMEs in India do not have access to formal credit. One major hindrance is the need for collateral, especially when launching a new company or operating in inadequately banked areas.

To tackle this problem, the Indian government has introduced several solutions, like the Credit Guarantee Fund Trust for Micro and Small Enterprises, partially or even fully guaranteeing the loans which helps lenders feel more comfortable providing loans to MSMEs without the requirement for collateral.

Takeaway

Although collateral is one way to secure a small business loan, it is not the only option for business funding. Entrepreneurs in India and their MSMEs can improve their ability to secure collateral-free MSME loans by learning the available options, developing credit over time, and locating possible causes. 

In their quest to raise funds, advisors are always available to assist any Indian applicants receiving the loan. 

In this context, Indifi provides a hassle-free platform as well as a variety of adjusted solutions to ease the obtaining of competitive collateral-free small business loans.

Leave a Reply