Short-term business loans — how can they benefit SMEs?

What is a short-term business loan?

As the name suggests, short-term business loans are designed to provide businesses with finance for the short-term. Agreements typically range from three months to two years; anything over two is considered medium or long-term. 

So, if your loan term is one year, your terms will state that you’ll need to have paid off the balance in full by then. If you require a loan for a very short period of time, you may also want to look at business overdraft alternatives such as revolving credit facilities. 

Businesses can typically access short-term loans for up £1million, however the amount you can actually borrow will depend on your business’ financial health, how the lender operates and what you’ll be using the loan for (i.e. what you’ll be spending the money on).

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Why do businesses use short-term loans?

Short-term business loans can be used for a range of purposes. Companies typically obtain them with the aim of enabling continuity or achieving a business growth goal. 

Common usages include:

• Business expansion

• Cash flow

• Bridging receivables

• Stock or machinery purchase

• Recruitment

• Renovation / refurbishment

A business might be in need of short-term finance to address issues or gaps; perhaps it relies on manual processes that are slowing it down and needs a cash injection to purchase new technology in order to remain competitive.

Choosing the right short-term business loan

Before you decide which type of short-term loan to go for, you should start by defining your requirements and boundaries in terms of things like interest rates, etc. 

How much do I want to borrow?

Bear in mind that the less you borrow, the less interest you’ll pay. You may be able to extend the loan amount you need, depending on the lender.

What interest rate can I afford?

Work out how much interest you can afford to pay. Yearly interest rates can vary from between around 5% to 10%. 

How quickly can I pay it back?

Make sure you are able to pay back the loan within the specified term length and account for possible “unforeseen circumstances”. Usually, the shorter the term the lower the interest rate is likely to be.

Are there any additional costs?

Some lenders charge application and administration fees, so always look out for these before signing up for a short-term business loan.

Short-term business loan eligibility

Shorter terms mean this type of finance solution is often more flexible.

Traditional banks are less willing to lend to small businesses than they were before the 2008 recession, however there are lots of new lenders on the market who specialise in short-term loans for SMEs. The eligibility criteria for short-term loans is also usually less strict compared with long-term loans, however it always depends on the individual lender.

Keep in mind that lenders will or may:

• Prefer the borrower to own a business account

• Require a minimum turnover of £80,000 per year

• Take your credit score into account when making a decision

• Require an asset to secure the loan against

Types of short-term business loan

Short-term loans can take many forms, each of which designed for a different purpose. Among the most common types of short-term loans are:

• Term loans— businesses that sign up for a term loan agree to pay off their balance and fixed interest within the “loan term”, e.g. one year. 

• Merchant cash advances— suited to businesses without many assets, but who have a good volume of card transactions every month, a merchant cash advance uses your card terminal to 'secure' lending.

• Invoice financing— is a method of borrowing money based on what a business’ customers owe; instead of waiting weeks for your invoices to be paid, the lender advances most of the value straight away.

• Asset finance— companies use asset finance to purchase or replace equipment-from computers to vehicles-by spreading the cost over a set period of time.

• Lines of credit— a line of credit is a flexible solution that provides businesses with access to a fixed balance of funds to boost cash flow and pay for unexpected expenses.

Short-term business loans: the pros & cons

As with any type of business finance, it’s important to be aware of the advantages and disadvantages before making an informed decision. Although short-term loans are a popular finance solution for SMEs, they’re not suited to everyone.

Advantages

• The time is takes for your application to be approved and money to reach your bank tends to be quicker

• As the term is shorter the total interest paid is usually lower

Disadvantages

• Interest rate charges and repayments can be higher compared with long-term loans

• You may have to pay a fee if you pay off your loan before the end of the loan’s term

What next?

Use the Funding Options platform to find out what type of short-term finance your business could be eligible for. Our algorithm searches the market to find the right finance options for your situation. Our experts are also on hand help you apply to the lender(s) you choose.