Online lending institutions have grown to hold somewhere in the neighborhood of ten billion dollars in outstanding credit loans for US small businesses, as of early 2015. Ten billion is certainly a lot of cash.
However, it’s a pretty paltry one percent spec of the bigger picture, considering traditional lenders (banks and finance companies) have over one trillion loaned out to the various small businesses they provide credit to (source).
Speculation has been brewing over the last few years that online lending will one day usurp the traditional bank lending industry, and while it might seem like there’s some merit to it, online lenders charge more for the convenience of their service, even if you have a bullet-proof credit rating. And if this is you, online lenders aren’t going to be the first (or likely final) place you look to for an SMB loan.
Interest Rates
Offline lenders will usually charge an interest rate of around 5 – 7% for a fixed rate, three year, short term loan.
Online lender’s rates range from the slightly elevated to the downright insane, charging anywhere from 8 – 120% based on your credit history!
Advantages of Taking Small Business Loans from Banks
- Bank loan officers allow you to put a face to a name: Borrowers can sit across from the bank official during and after the banking process, and can sit down with them when/if there’s a problem later on.
- There are more options offered: Banks have been around for centuries. Since they cater to borrowers with a prime or near-prime repayment ability, they have plenty of attractive repayment terms (eg., term, standard, etc.) to offer over online lenders, who target the segment of SMB borrowers who can’t get a traditional (low interest) bank loan – ie., the desperate ones who have nowhere else to go.
- Banks don’t infringe on your operation or profits: VC’s and angels, who were once the second best option if the bank won’t help you, will want to have more than just a financial stake in your business including a say in what vendors you use, when/if you can expand operations, and will always want a percentage of your profits. Banks just want their money back, with a predictable interest rate on top.
- Tax benefits: The Federal government doesn’t recognize interest paid out to venture capitalists, angels, or online lenders. They do offer tax relief on whatever percentage of profits you’ve used to repay your bank loan though.
- Low interest: As mentioned, banks are most attractive due to their low interest rates. Nobody in their right mind would choose to pay 30 – 120% interest (online) over the 7% fixed rate offered by most banks.
Advantages of Using an Online Lender
- Short application process: Simply fill out some online forms and you’ll typically get an answer within an hour – up to possibly a couple of business days, from most online lenders. Banks can take days, while you pace around your home or office not knowing whether they’ll say yay or nay.
- Fewer prerequisites: Online lenders do have certain criteria you must meet but most, if not all those prerequisites can be addressed through their online application process. Banks will have you running ragged all over town, getting special forms signed by existing lenders, vendors and customers, getting copies of all your business licences and permits, etc.
- Almost any business can get accepted: You do have to show you have the profitability to repay your loan, but most online providers won’t shun you because your credit score isn’t above 700 like a bank will.
- You get what you ask for if accepted: It’s important to know that most online lenders aren’t offering massive loans. The industry average is around $40,000. The lender’s website will state their maximum loan amount. However, banks in their infinite wisdom understand that most businesses ask for more than they actually need and will almost always only offer 70 – 80% of the money you request on your application.
- The industry’s evolving: Many online lenders used to offer only short-term, high-interest loans; now competition from emerging lenders is forcing the established industry sharks to lower their rates, offer more flexible terms, longer-term loans, etc. Competition encourages innovation and that’s what it’s going to take for these online lenders to steal a bigger chunk of the trillion dollar (and rising) SMB loan market.
Is an Online Lender Right for Your Business?
Yes… if you can’t get a low interest loan with cushy terms from your bank. In any other circumstance, online lenders simply can’t yet compete with traditional lending models and their flexible repayment options and interest rates. However, the future holds promise and who knows where this industry is heading in the next decade or two.
Cover photo credit: GotCredit
