A microloan is a small loan that’s made to a business owner, usually carrying qualification requirements that are more flexible than most traditional loan programs. As a result, it can be a good option for businesses that have bad credit or weak finances. Microloans often have short repayment terms of no more than five to seven years, with a maximum funding amount that rarely exceeds $50,000.
Funds from microlending can generally be used for any business purpose, although specific restrictions can vary by lender and loan program. Common examples of allowable uses include covering start-up expenses, working capital, and expansion funding. Interest rates tend to range between 8% and 15%.
What Is the Purpose of a Microloan?
Understanding the purpose of a microloan can also help identify who might be a good fit for it. Microloans are usually designed to help small businesses with startup costs, cover unexpected expenses, or grow and expand. In other words, it can help small businesses of nearly any size, regardless of how established they are.
Microlending could be a good fit for business owners who meet the following criteria.
- Small businesses with bad credit or finances: Microloans generally have easier qualification requirements since they’re often aimed at helping newer businesses get started. While you may find it easier to get approved with a lower credit score or revenue figures in comparison to getting a traditional business loan, you may also be asked to provide a personal guarantee in exchange for funding.
- Small businesses looking to rebuild or conduct repairs: Businesses that need to cover repair costs but cannot get funding elsewhere can consider a microloan, given the fact that qualification requirements are typically easier to meet.
- Companies with small or temporary funding needs: Lenders issuing microloans won’t often offer a large amount of funding. Microloans are usually capped at $50,000, with microloans issued by the SBA having an average loan amount of $13,000. Additionally, repayment terms usually have a maximum of seven years, making these a less suitable choice for businesses that want to spread out payments over a longer period.
- Small businesses seeking additional working capital: Funds from a microloan can usually be used for nearly any business-related expenses. This can include things like inventory, supplies, furniture, equipment, machinery, payroll expenses, rent, financing startup costs, and more.
Pros & Cons of Microlending
| PROS | CONS |
|---|---|
| Easier to qualify: Criteria for eligibility vary in favor of small businesses, usually requiring little to no collateral. | Loan amounts: Microloans have smaller capped loan amounts ($50,000) and shorter repayment terms in comparison to traditional business loans. |
| Flexibility: Funds can be used for a variety of needs, whether it be repairs, working capital, or equipment purchases. | Interest & fees: Due to smaller loan amounts and a shorter repayment period, interest rates and potential fees may be higher. |
| Quick financing: If you meet the requirements of the lender, funds are often dispersed quickly after approval, usually within a few days. | Eligibility: Depending on the credit requirements and decisions of the intermediary lender, qualifying criteria can vary. |
Qualifying for a Microloan
Microlending requirements will vary by lender and the specific loan program. For example, the microloan program administered by the SBA is open to all for-profit small businesses (and certain not-for-profit childcare centers), with the purpose of promoting financial opportunities in a more accessible way.
While qualifying requirements generally are inclusive of businesses with low credit or limited funds, be prepared to provide documentation of financial information regarding both the business and your personal income. Lenders will factor in cash flow, outstanding debts, plans for your business, and the intention of the requested funds.
Here’s what you can expect:
General Qualifications of a Microlending | |
|---|---|
Credit Score | Usually a minimum of 620; varies by lender |
Collateral | Secured by collateral of choice and/or a personal guarantee |
Operating Requirements | Business plan, funding restrictions, and more; varies by lender |
Typically, microlenders will have varying qualification requirements. However, their purpose is to facilitate financing needs in an accessible manner, providing you with an opportunity that you may have previously been restricted by.
Here’s what you should be prepared to provide your lender:
- A business plan: Your loan application will take into consideration the goals and character of your business, therefore a business plan may be required to showcase your proposal. That being said, your credit score does influence your eligibility to an extent, and a general rule of thumb for microlenders is to have a FICO score of at least 620 or above.
- Intentions for use of funds: Consideration of the intended use of funds will also be a factor in determining your eligibility. There may be restrictions placed by the lender on the usage of loan proceeds, so a detailed request and discussion with your lender during the application process can go a long way.
- Collateral: Since qualification requirements will vary by lender, it’s important to keep in mind they may request supplemental documentation to aid in their decision process after application submission. This can include requiring collateral to secure the loan, which in addition requires a separate process.
Time and documentation are needed to assess the value of the collateral, dependent on the asset. This may also be backed by the request of a personal guarantee, in which your personal income and credit history could be assessed. While either is not always necessary, it could make the approval process more lengthy if they are required. Communication with your lender can provide you with an estimated timeline of approval; however, generally, the process takes anywhere from 30 to 90 days.
Rates & Terms of Microloans
Typical Microloan | |
|---|---|
Interest Rates | 8% to 15% |
Loan Amount | Up to $50,000 |
Collateral | Varies |
Repayment Period | Up to 7 years |
Disbursement Time | 7 to 90 days |
Loan amounts can be offered in amounts up to $50,000, with the average loan size around $13,000. If required, they are secured by collateral of choice, or often with a personal guarantee of the business owner. The repayment period varies, with shorter repayment periods than traditional loans.
Where to Get a Microloan
There are many microlenders available, each offering a variety of services that may be tailored to your specific business needs. The SBA is one popular source of this type of funding. When applying for a microloan, you should work with an SBA-qualified lender in your area, as it will set the terms regarding your microloan. Visit the list of the SBA’s authorized intermediary lenders participating in the SBA’s microloan program to find one in your area.
Frequently Asked Questions (FAQs)
A microloan is a small loan, usually $50,000 or less, issued to a business that might be having difficulty getting approved through other loan programs. Repayment terms tend to max out at seven years, with interest rates ranging between 8% and 15%. Although small, these loans are also incredibly popular, one of several microfinance statistics I came across during my research.
Microloans have more lenient qualifications, are generally geared toward disadvantaged populations, and provide smaller loan amounts. Meanwhile, traditional loans have higher qualification standards and often don’t lend small amounts of money.
Getting a microloan tends to be easier in comparison to most traditional loans. This is because microloans are often aimed at newer businesses.
Bottom Line
Microloans generally offer funding up to $50,000 and are intended to provide financing assistance to small businesses that may not qualify for other loan programs. The maximum repayment period is generally seven years, with average interest rates of 8% to 15%. These loans are accessible through a variety of lenders, including those authorized by the SBA.
