Cash Flow Loans Vs. Asset-Backed Loans: What’s The Difference?

When you apply for a cash flow loan, lenders will assess personal credit, business credit, and—most of all—consistency of cash flow. Lenders will mainly approve a loan based on your cash flow projection and history. So rather than using property or assets as collateral, the loan is backed by a company’s future revenue. Some businesses that turn to cash flow loans have high margins or lack hard assets to offer as collateral.

On the other hand, asset-backed loans are secured by tangible assets that can be easily liquidated. This type of collateral mitigates the risk to the lender. If the borrower defaults, the lender will seize the asset and sell it to reimburse its lending costs. As a result, interest rates on these loans are lower than interest rates on an unsecured loan or line of credit, and the terms and conditions of asset-based financing will vary depending on the type and value of assets a business has.

The five core asset types that lenders look for include accounts receivable, inventory, machinery and equipment, real estate, and other tangible assets. To assess risk, the lender will look at the loan-to-value (LTV) ratio of any assets, which compares the loan amount to the appraised value of the collateral.

What Are The Different Types Of Cash Flow Loans?
Here are several types of loans that are great options for increasing cash flow.

Business line of credit

Before zeroing in on a cash flow loan, it’s important to understand the differences between business loans and business lines of credit. A business line of credit is a flexible loan that business owners can reuse and repay as often as they’d like. Business loans, by contrast, are used one time and have monthly loan payments. Although each loan is different, business lines of credit typically have lower interest rates.

After you apply for a business line of credit, lenders look at bank account information, business financial statements, profit and loss statements, cash flow statements that have been prepared using the indirect or direct method, and the company’s balance sheet. In most cases, businesses must have at least six months of business history under their belt and at least $25,000 in annual income to be approved.

Short-term business loan

If your business doesn’t qualify for a line of credit, you may be able to obtain capital in the form of a short-term business loan. Unlike long-term loans, short-term loans are designed to cover small or emergency expenses and must be paid back within 18 months. You can find short-term small-business loans from different online peer-to-peer lending or institutional lending companies.

The quick and seamless application process for short-term loans is a lot less thorough than traditional loan applications. And short-term loans are generally known for low borrower requirements, fast funding, and no specific collateral. However, there is a catch. Since short-term loans offer speed and convenience for the borrower, they’re considered high risk for the lender and tend to have expensive interest rates.

Common uses for short-term business loans include these:

• Working capital
• Inventory purchasing
• Equipment purchasing
• Business growth
• Hiring or training new employees

Invoice financing

It’s common for small businesses to experience uneven cash flow when their customers pay invoices later than expected—sometimes long after the product or service is delivered. If this sounds like your situation, invoice financing could help bridge the gap. Otherwise known as accounts receivable financing, invoice financing generates fast cash and uses unpaid invoices as collateral. This allows you to get quick cash while waiting for your customers to pay their outstanding invoices. But the amount you can borrow depends on the amount and quality of invoices and credit scores.

Although this type of loan can be more expensive than others, it still has its benefits. For one, invoice financing gives businesses a more predictable cash flow, which will smooth business operations and ease stress. Plus, the financing line can be deployed quickly (usually in a week or two), allowing you to overcome present financial obstacles.

To apply for invoice financing, you’ll likely need bank statements, a decent credit score, outstanding invoices, a driver’s license, and a voided business check.

Merchant cash advance

If your business makes considerable and consistent credit card sales, a merchant cash advance (MCA) may be for you. After the lump sum advance is approved and funded, the lender receives payment by withholding a portion of your daily credit and debit card sales. The percentage you pay is based on the size of the advance, your business’s credit card sales, and the repayment period.

Although a strong credit score is a prerequisite for most business loans, a merchant cash advance grants some leeway in terms of credit. And because they’re considered unsecured loans, you don’t have to put any assets on the line. During the application process, merchant cash advance lenders will consider credit card sales, overall monthly sales, and a variety of other factors.

Although merchant cash advances offer a shortcut to funding and growing your business, there is one major snag. MCAs are considered more costly than traditional financing. In fact, borrowers can pay a whopping 50% over the amount of their funding.2Despite its disadvantages, a merchant cash advance is a popular choice among small-business owners with bad credit. However, be leery of the high costs.

Which Funding Solution Is The Right One For Your Company?
Now that you know what cash flow loans are available, it’s time to step into the big world of small-business loans. Ultimately, only you can decide which loan option is best for your business, and that decision could rest on what your company’s financial qualifications are. No matter which cash flow loan you choose, remember that the following factors can play a role in your approval:

• Industry
• Amount of funding
• Time frame
• Purpose of loan
• Credit score
• Monthly and yearly revenue

The takeaway

Whether you’re a startup or Fortune 500 company, cash flow is the fuel that makes a business run. It’s necessary to pay salaries, acquire new customers, invest in equipment and supplies, pay rent, and run day-to-day operating activities. But if your business is having a cash flow hiccup, it can be difficult to run things effectively.

So if you are entering a slow period, have outstanding invoices, or are struggling to stay afloat, a cash flow loan is a great source of financing to increase cash inflows. Although interest rates may be a bit high, the convenient, quick approval process and low borrower requirements may be more than worth it for small-business owners.

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