If you’re in the market for a small-business loan, you may have heard of online lenders, alternative lenders or marketplace lenders. These phrases all describe the new class of unregulated, non-bank lenders that have emerged in recent years, providing financing to small businesses that banks consider too risky.
Online lending is still nascent, but it’s growing fast. Two percent of small businesses have used online lenders in the past year – up from 1% last year – according to a by the National Small Business Association. The online small-business loan dollars outstanding is doubling every year, while outstanding small-business bank loans are in decline, according to a 2014 Harvard Business School working paper.
At that rate, online lenders could become a more prominent option for small-business financing. Here’s a guide to what online lending is and when you should consider it.
What is online lending?
Unlike banks, online lenders use algorithms to underwrite small-business loans based on traditional factors – such as credit score, revenue and cash flow – and non-traditional metrics, including past payments to vendors, accounting data and social media data. Online lenders fund loans fast – often within days – but they also charge higher interest rates than banks. The average annual percentage rate for online loans can be anywhere from 30% to nearly 50%.
Online lenders typically get the money they lend from several sources. Some lenders raise money through institutional investors and then fund the loans themselves, and others set up peer-to-peer lending marketplaces, where individual investors can fund small businesses directly.
What types of online financing exist?
Online lenders offer small businesses three main products: term loans, lines of credit and accounts receivable financing.
Term loans: Online term loans are lump sums of money small-businesses can borrow and repay in about four or five years. They’re ideal for businesses that need money for expansion, equipment, inventory or maintaining working capital. Online lenders that offer term loans include OnDeck, Lending Club, SmartBiz, Dealstruck, Funding Circle and Fundation.
Lines of credit: A line of credit is a cash account that a business can tap when necessary. They’re ideal for businesses that need short-term financing to bridge cash-flow gaps or maintain working capital. Online lenders that offer lines of credit include Kabbage, OnDeck and Dealstruck.
Accounts receivable financing: Accounts receivable financing is a method of getting paid early for future invoices, ideal for businesses that have a large volume of payables. Online lenders that offer accounts receivable financing include Fundbox, BlueVine and Dealstruck.
Some online lenders also offer merchant cash advances, but consider other options first because they tend to be outrageously expensive. The annual percentage rates for merchant cash advances can be 60% to 200%, according to a 2010 white paper from the National Community Reinvestment Coalition, a Washington D.C.-based group that promotes basic banking services to underserved communities.
When should you consider an online lender?
Loans from online lenders are not right for everyone. For example, if you need startup capital, you likely won’t qualify for an online loan. Instead consider a microloan, crowdfunding, borrowing from friends and family, or business credit cards instead. However, here are two scenarios when an online lender could be right for your business:
If you don’t qualify for a bank loan, financing from an online lender could be a good alternative. But if you do qualify and don’t need funds immediately, a bank loan is the less-expensive option.
If you need cash fast, financing from an online lender could be the way to go. The applications typically take minutes to complete, and you’ll typically see the funds in your bank account within days. However, you’ll pay for speed with higher interest rates.
To compare financing options, NerdWallet has come up with a list of the best small-business loans to meet your needs and goals. We gauged lender trustworthiness, market scope and user experience, among other factors, and arranged them by categories that include your revenue and how long you’ve been in business.
To get more information about funding options and compare them for your small business, visit NerdWallet’s
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Peer-to-peer lending is a means by which borrowers and lenders may transact business without the traditional intermediaries, such as banks. It can also be known as: Person to Person Lending, P2P Lending, and Social Lending. An enabling technology for peer-to-peer lending has been the Internet, where peer-to-peer lending appears in two primary...
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