Traditional business loans Vs merchant loans

As a business, it is crucial that funding is able to be obtained when the business is at the point of expansion and at times where a little bit extra is needed to tide the business over and help it until cashflow improves.

Merchant loans are an ideal solution for shops and retail businesses who have constant cashflow through their card terminals, albeit potentially fluctuating at times.

There are many other options though when it comes to business loans and this commonly includes traditional business loans which are structured in a ‘traditional’ way. The business agrees an amount to be borrowed with a prospective lender, the lender adds interest to this amount and at the end of the loan term the entire loan amount plus interest is repaid by the borrowing party in full.

However, traditional loans are not the only option. Some businesses depending on their circumstances opt for short term loans such as instalment or payday loans whereas others that qualify may be more inclined towards merchant loans. However, how do these types of loans work?

Traditional Business Loans

These tend to be classed as short, medium or long term business loans. One of the appealing factors of business loans for businesses seeking finding is that they are tailored to the needs and requirements of businesses and their cashflow problems. Lenders of business loans will have a real understanding of businesses’ needs and how the money is best used within the confines of a business.

Businesses tend to take out business loans over the short to medium term; 1 to 5 years. The application process for these types of loans will require a large degree of documentation, proof of income, incoming funds and monthly outgoings. The business seeking the funds will need to collate and organise all of this information prior to their application.

A major disadvantage however is that there is a great deal of time spent preparing the material and resources needed to apply for the loan, with no guarantee of acceptance.

The longer the term of the business loan however, the larger the total interest payment required for the loan. Therefore, a borrowing business will need to assess whether the amount of money provided by the loan plus the interest payments they will inevitably need to make are truly worthwhile. Furthermore, whilst business loans are tailored towards businesses, they do not always take into account specific business types and their strengths in the same way a merchant or a tailored loan might do.

How do Merchant Loans Work?

Merchant loans are business funding solutions that are specific to retail businesses and shop-type businesses with card payment capabilities. The way these loans work is by the business requiring the funding securing the funding from a merchant lender who will then add interest to the final amount. The main difference between these and other business loans however are the terms of the loan and how it is repaid.

Rather than having to repay everything in one go at the end of the term plus interest which can be a burden for the borrowing business; having to repay potentially tens or even hundreds of thousands of Pounds and additional interest payments, the loan is repaid on an ongoing basis and based on percentages of card revenue over an agreed period of time, say 12 months.

For example, a retail business with a monthly turnover of £20,000 via card payments needs a further £20,000 up front as a one-off loan in order to expand the premises of the business that will allow them to sell more stock and generate a lot more revenue as well as adding to their property security which brings down their insurance premium, saving them further money in the medium to long term. However, they do not have the money available for this bulk purchase and so they seek out a loan.

A merchant lender may propose lending them the full £20,000, over a 6 month period. This would be structured whereby it would be agreed by both parties that the borrowing business pays 20% of their monthly card revenue to the lender over an agreed period of 6 months. This gives a final loan amount to be repaid (including interest) of £24,000.

For the business taking out the loan, although the interest rate is likely to be higher than that of a traditional business loan via a high street lender, the manageable nature of the loan means that the business can better afford the loan and its subsequent repayments. Furthermore, they will have been able to afford and repay the crucial loan that has given them the capability to expand and increase their monthly and yearly turnover and profit.

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