Asset-based lending is a method in which a business borrows money by using its assets as collateral for a loan. By pledging collateral in exchange for a loan, it gives the lender the right to take possession of its assets in the event of a default. Assets can commonly include things like vehicles, machinery, equipment, inventory, accounts receivable, and other business-related assets owned by the company.
Businesses that have a significant amount of assets but are unable to qualify with traditional cash-flow lending can seek out asset-based lending programs to get the funding they need. Depending on the type of asset being pledged, a lender may have a separate appraisal process to determine how much it is willing to lend based on the value of the asset. Assets that are liquid or more easily converted to cash are typically viewed more favorably.
How asset-based lending works
If a business does not have sufficient cash flow to afford the monthly payment associated with a loan, a lender may still choose to issue funding if sufficient collateral is pledged as part of the loan. The collateral must be evaluated by the lender, and if acceptable, it will then determine how much of a loan it is willing to issue.
Step 1: Borrower applies for an asset-based loan
Many lenders offer specific asset-based lending programs. However, if you apply for a regular unsecured loan and are denied, you may be provided the option to pledge collateral as a way to strengthen your loan application and secure financing as an asset-based loan.
Step 2: Lender reviews application & the selected collateral
Once it has been determined that you’ll be getting an asset-based loan, you’ll need to provide the lender with details on the type of collateral that will be pledged as part of the loan. Required paperwork could involve purchase agreements or other financial statements that document your asset’s historical value. At this stage, the lender may also evaluate other aspects of your loan application, such as your creditworthiness, time in business, and overall financial strength.
Step 3: Lenders evaluate value of assets being pledged for the loan
For this step, the lender will conduct an evaluation of the collateral to determine its value and condition. It’s not uncommon for a lender to utilize a third-party company that specializes in appraising specific types of collateral. In determining its value, appraisals may consider the asset’s current condition and market value of comparable items.
Step 4: Loan offer is issued to borrower for review and acceptance
Once the collateral has been evaluated, the lender will then make a decision on the specific loan terms it is willing to issue. As a borrower, you can choose to accept the terms or try to negotiate for better rates or terms.
Step 5: Final paperwork & applicable liens are filed
Once you’ve accepted the lender’s loan offer, you’ll need to sign the final paperwork to formally accept the loan. Part of the finalization process for the loan may also involve the lender filing a UCC lien against assets you’ve pledged as collateral, something that protects the lender’s financial interests and also notifies other creditors of what business property is already pledged as collateral for a loan.
Pros & cons of asset-based lending
Although asset-based lending can provide an additional way for your company to get approved for financing, it does carry certain downsides.
| Pros | Cons |
|---|---|
| Easier to get approved, as less emphasis is placed on credit and finances | Risk of losing pledged business collateral if you fail to make timely loan payments |
| Can help businesses get approved at more competitive rates and terms | Closing costs and loan fees may be higher if third-party inspections or appraisals are required |
| Typically little to no restrictions on allowable uses of funds | Some assets may not be eligible to be pledged as collateral |
Examples of asset-based lending
Who should consider asset-based lending
I recommend you consider asset-based lending if the following circumstances apply to you:
- You haven’t been able to get approved for other types of loans: Asset-based lending places a larger emphasis on the value of the collateral being pledged, rather than typical qualifications like your credit, time in business, or business finances. As a result, asset-based lending can allow you to get funding if all else fails.
- You have a significant amount of business assets: The very nature of asset-based lending requires collateral to be pledged in exchange for a loan, making this type of financing more suitable for businesses with a sufficient amount of assets to begin with.
- You are looking to get the most competitive rates and terms: Even if pledging collateral for a loan is not required by the lender, it can help you secure more competitive rates and terms. This is because pledging collateral lowers a lender’s risk of issuing a loan, as it gives it another avenue to recoup potential financial losses in the event of a default.
- You expect a high return on investment on your funds: Since asset-based lending may sometimes carry higher fees and closing costs, you’ll want to be confident that you’ll get a sufficiently high return on investment on the funds you’ll be borrowing.
- You are willing to risk losing business assets in the event of a default: Pledging collateral for a loan carries the risk that you could lose it to a lender in the event of a default.
Where can I find asset-based lending?
You can find asset-based lending at many types of lenders including credit unions, business loan brokers, banks, and online lenders. Each has its own distinct set of features, characteristics, and pros & cons:
- Credit union: Credit unions typically offer excellent customer service and competitive rates, as they’re not-for-profit organizations. It’s also generally easier to get credit policy exceptions if you have an established relationship with the credit union. Funding speeds can vary greatly, however, depending on the credit union you choose.
- Business loan broker: A major benefit of working with a broker is its ability to shop your loan with multiple lenders with just a single loan application. This can save you time from applying to individual lenders on your own.
- Bank: In general, a notable feature of working with a bank is its ability to offer a wide range of products and services. You can use this to simplify your company’s finances by essentially housing multiple business needs under one roof.
- Online lender: A major selling point of most online lenders is the ability to offer competitive rates and low fees. Since most online lenders have less overhead costs from things like physical branches or office locations, they can often pass on the savings to borrowers in the form of lower interest rates and fees.
If you’re not sure where to start, however, I recommend working with a company like Lendio. Lendio is a business loan broker, and working with this company gives you the ability to get guidance from a dedicated funding specialist who can match you with the right financing options for your company’s needs.
Asset-based vs cash-flow lending
Cash-flow lending is the more traditional method of lending. Here are some key differences between the two types of financing.
Qualification Requirements | Asset-based lending | Cash-flow lending |
|---|---|---|
Collateral Required? | Yes | No |
Appraisal Required? | Typically yes | Typically no |
Credit Score | Low credit scores acceptable | Fair to Good Credit |
Time in Business | Startups acceptable | Startups acceptable |
Cash flow & Income | Low cash flow is acceptable | Must have positive cash flow |
Ongoing Requirements | Regular reports on asset value may be required | Regular updates on the company’s financial performance may be required |
Frequently asked questions (FAQs)
With asset-based lending, defaulting means that you risk losing any collateral you’ve pledged for the loan. The lender holding your loan could take possession of these assets and sell them for the purpose of recouping the financial losses it incurred.
Asset-based loans may carry higher closing costs. This is because lenders often have to pay third-party companies to appraise the value of collateral being pledged for the loan. Those third-party costs are then passed on to borrowers.
You can get many different types of loans with asset-based lending. Common examples include working capital loans, business credit lines, equipment financing, commercial real estate loans, and accounts receivable financing.
Bottom line
If you’re willing to pledge collateral in exchange for a loan, asset-based lending can help you get approved for financing even with bad credit or low cash flow. Highly qualified businesses can also benefit from asset-based lending, as offering collateral can make it easier to get a lender’s best advertised rates and terms. However, it’s important to weigh the pros and cons of this type of financing, as defaulting on a loan could mean losing your business assets altogether.
