Secured vs. Unsecured Business Loans: Which is Better?

Running a business requires funds. Whether it is to hire more staff or maintain operations. Choosing the right type of business loan can be challenging when it comes to funding. So how do you decide which loan is better? We will break it down so you can understand your choices and pick the right loan for your business.

What is a secured business loan?

A secured business loan requires you to pledge an asset as collateral. This means you offer something valuable such as property, machinery, equipment or even inventory to the bank as security. In return the bank provides you with funds at a lower interest rate and a higher loan amount.

The lender has your asset as security so they see you as a low risk borrower. This makes them more likely to offer better terms. If you cannot repay, the bank may claim your collateral and sell it to get back the money.

When should you consider a secured loan?

1.     You need a large loan amount

If you are expanding your business, starting a new manufacturing unit or buying expensive machinery, then a secured loan can offer a higher funding limit.

2.     Lower interest rates

Since the lender has collateral as security they offer lower business loan interest rates. This helps reduce your repayment burden.

3.     You have an asset to pledge

If you have property, equipment or other assets, then you can use them as collateral to get a better loan.

4.     Longer repayment period

Secured loans usually provide more flexible repayment terms which makes EMIs easier to manage.

Things to keep in mind

·         If your business faces unexpected losses and you can’t repay the loan then the bank has the right to take ownership of your collateral.

·         Since the lender needs to evaluate your collateral, it might take a few weeks or even months to process the loan.

·         You’ll need to provide property documents, valuation reports and other legal documents which can make the process slightly complex.

What is an unsecured business loan?

You do not need to provide any collateral for an unsecured business loan. The bank approves the loan based on your business’s financial health, creditworthiness and repayment capacity. Since there’s no asset involved, lenders consider these loans riskier and offer higher interest rates than secured loans.

When should you consider an unsecured loan?

1.     You need funds quickly

If you require immediate financing, then unsecured loans are processed much faster and sometimes even within a few days.

2.     You don’t have collateral

If you are a new business or a service based company without physical assets, then unsecured loans can be a good option. They offer funds without needing property or machinery as security.

3.     Smaller loan amount

These loans are usually granted for smaller amounts which makes them ideal for short term financial needs.

4.     Strong credit score and business revenue

Since banks rely on your financial track record, a good credit history increases your chances of approval.

Things to keep in mind

·         Since the bank is taking a bigger risk by lending money without collateral the interest rates are typically higher.

·         Lenders may limit the loan amount based on your revenue and creditworthiness.

·         Unsecured business loans have a stricter eligibility criterion. Getting approved can be difficult if your business doesn't generate consistent revenue.

How do interest rates differ in secured and unsecured business loans?

When choosing a loan, the interest rate is key as it affects your EMI and total repayment.

·         Secured business loans usually have interest rates between 10% and 17%. The exact rate depends on the collateral type and lender policies.

·         Unsecured business loans have higher interest rates ranging from 17% to 28%. Banks charge more because they take a greater risk.

If you are unsure about your EMI, then use a business loan interest rate calculator to get an estimate. It considers your loan amount, tenure and interest rate. This helps you plan your finances before you apply for the loan.

Secured and unsecured business loans serve different business needs. It is important to choose the one that matches your financial goals. Before you apply for a bank loan for business, take a step back and assess your financial situation. Understand your business objectives and consider how much risk you are comfortable taking.

No matter which option you choose, always compare loan terms and check if the repayment amount fits your budget. You can use a business loan interest rate calculator to plan your EMIs in advance. Most importantly, borrow wisely. A loan should help your business grow rather than create financial stress.