What is a micro loan and can your business get one?

  • A microloan is a small business loan for startups, freelancers, or businesses with a few employees.
  • These loans typically have higher interest rates and shorter repayment terms than traditional loans, but may be easier for small businesses or startups to obtain.
  • Many microfinance or microcredit programs are aimed at underserved communities that do not have access to other types of funding, including nonprofit organizations.
  • The United States Small Business Administration (SBA) provides micro loans, but there are many other micro loan programs available.

What is a micro-credit?

As the name suggests, a microloan is a small loan – typically less than $50,000 – intended to help startups, independent contractors, or small businesses with just a few employees cover business expenses. Micro loans have shorter repayment terms than traditional small business loans, which means they may have higher interest rates so the lender can recoup their investment. The loan amount will depend on your needs, but the average size for a micro loan is $13,000.

Micro-lenders tend to be individuals, so instead of applying for a traditional loan through a lender like a bank or credit union, borrowers are matched with individuals or small loan companies. financial services that lend small amounts of money. Many of these microlenders are interested in specific types of businesses or startups, especially those with social or community goals, such as nonprofit organizations.

What do you need to qualify for a micro loan?

Eligibility requirements for micro-loans can vary from one lender to another, but they are often less difficult to meet than those for traditional loans. Here are some general requirements:

  • Medium or higher professional and personal credit — This may be good news for you, as you won’t need excellent credit to qualify for a micro loan. Many lenders will accept an average credit score, both from your personal and business credit. If you have little or no business credit, now is a good time to learn how to establish business credit.
  • Security and/or personal guarantee — because microloans tend to be available for riskier and newer organizations, you may need to provide a personal guarantee or guarantee for repayment. These can be equipment you use or your business itself, as well as personal collateral like your home or car.
  • Company history – although some micro-loans are aimed at startups or early-stage entrepreneurs, some will require proof of at least some business history. SBA-backed micro loans, in particular, will likely require at least two years of business experience, which you can prove through your tax returns. You can also provide a business plan or other proof of your annual income.

Other micro-lenders may also have other specific requirements to apply. Your organization may need to be a member of a certain nonprofit community or provide

Why are micro loans useful?

Micro loans are perfect for small business owners who need help but don’t need or don’t qualify for a large traditional loan. Many micro-loans aim to help underserved business owners or entrepreneurs who would otherwise struggle to access traditional financing. Lenders can also provide additional resources like training or coaching to help you with your small business.

They tend to have less stringent application requirements and a less complicated application process, so they’re great for busy entrepreneurs or small business owners who don’t have a lot of space to work on a larger loan application. long.

You can use a micro loan for a number of business needs, including:

  • Opening of working capital or cash
  • Buy inventory to resell
  • Buy supplies or equipment, including furniture, machinery, and even computers

In general, you cannot use a microloan to pay off other debts you already have or to buy real estate.

What are the disadvantages of micro-loans?

In terms of financing options available to small businesses, micro loans are not always the best choice for a number of reasons. The first concerns high interest rates. Because microloans are typically short-term loans with repayment terms of three to five years, and because they tend to lend to borrowers who may not have the best credit, they may have very high interest rates – up to 30% or more. While SBA loans tend to have a rate of six to nine percent, not all micro-lenders can offer these kinds of terms.

Another problem borrowers may encounter with microloans is that the repayment amounts are higher than a traditional loan due to the short repayment terms. Also, you can’t get a large sum of money from a micro loan, so if you have bigger projects in mind, you might not want to pursue one. They may also take longer to process the application or receive the funds, even if their application processes are shorter or less complex.

Since micro-loans tend to go to borrowers that traditional lenders may consider “risky,” you may need to provide collateral or a personal guarantee to qualify. You may also face restrictions on how to use your micro loan, especially if you apply to lenders who work with specific social causes.

Finding the right lender for your needs is important to ensure you have a financial institution or other micro lender that meets your needs. You may find that a bank loan or other type of small business financing will better suit your business needs.

Micro-loan markets

There are several marketplaces where you can search for a microloan that meets your needs.

Kiva micro-loans

Kiva is a purely online lender that aims to connect entrepreneurs with online lenders. They are particularly focused on borrowers who may not be able to access affordable sources of credit. Using crowdfunding from around the world, they offer loans to entrepreneurs in over 80 countries.

Accion Opportunity Fund micro-loans

Accion Opportunity Fund is a micro-loan marketplace that aims to provide support for small businesses while advancing racial, gender and economic justice. They offer coaching and networking in addition to their access to capital and work with lenders in English and Spanish.

Small Business Administration (SBA) micro-loans

The SBA operates a microcredit program which also connects micro-lenders to small businesses. An SBA micro loan will be handled by the bank or lender, and so application requirements may differ depending on which one you decide to get.

Micro loan vs line of credit

An alternative to a micro loan is a business line of credit. Although they have many similarities, especially in terms of eligibility requirements, a commercial line of credit can offer more flexibility in terms of repayment and interest rates. You can use a business line of credit to pay for things like inventory, vendor bills, payroll, leases, and more.

Here we compare the two options.

Micro-loan Business line of credit
Up to $50,000 Up to $500,000
Single lump sum payment Revolving line of credit that you can access again after paying it off
Interest rate from 6% to 30% Annual percentage rate (APR) from 8% to 24%
Short repayment terms and high (but predictable) monthly payments Only pay interest on what you spend, but the monthly payment will vary depending on what you use
May qualify with an average credit score May be able to qualify with a lower credit score
Six to nine months before funding Can access funding within two weeks

You might consider a commercial line of credit with these lenders:

Micro-loan vs business credit card

Business credit cards are another option for entrepreneurs or small business owners who don’t want to apply for a micro credit or traditional bank loan. Although a credit card may look like a business line of credit, it is typically used for day-to-day business purchases, such as gas, office supplies, or travel expenses.

Micro-loan Business credit card
Up to $50,000 The limit depends on the card and your qualifications, but the average is around $56,000
Single lump sum payment Revolving line of credit that you can access again after paying it off
Interest rate from 6% to 30% Annual percentage rate (APR) from 0% to 24%
Short repayment terms and high (but predictable) monthly payments Only pay interest on what you spend, but the monthly payment will vary depending on what you use
May qualify with an average credit score May be able to qualify with a lower credit score or no credit history
Six to nine months before funding Can access funding immediately
Can get business coaching or other training Rewards, points, cash back or other benefits
May require a guarantee or personal guarantee No surety or personal guarantee

Here are some business credit cards you might consider:

Final word: Nav’s perspective on micro-loans

If you are a small business or entrepreneur with average credit looking for the best loans for starting a small business, a micro loan may be a good option. Nav can help you determine which loans you are most likely to qualify for. In fact, our users are 3.5 times more likely to get approved for funding. Sign up for a free account to see your loan options or other business financing options.

This article was originally written on June 30, 2022.

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