Whenever a lender lends you money, he expects something as collateral. And that collateral is kept with the lender until the borrower repays the principal along with interest. But when you take out any type of loan, you put your business reputation, credit score, and profits on the line. Not to mention, a secured advance follows collateral that is often prone to severe risks.
However, you have a choice to select from different types of collateral that you are willing to risk. Yes, there are several types of business security that can be used to safeguard lending. Though with any finance-related deal you enter into, there come some benefits and drawbacks to the collateral you choose.
Thus, we are going to illustrate different types of collateral that you can choose from to secure your advance and how they will affect your business. Read on.
Table of Contents
Real Estate
Using a home as security kept with the lender for a small business loan is a common as well as a viable option for many business people. From the lender’s perspective, real estate is appealing to secure lending because it holds its value well. Here, the borrower is also benefited as the real estate is worth at least a couple hundred thousand dollars. It also indicates that the owner gets a chance to apply for larger loans.
Although, despite being a convenient choice, it involves great risks. If you put your primary residence on the line, default on your loan, you will lose a shelter. Therefore, only go for real estate that you own but hold less critical to your life and business. It will be worth using such property when getting your loan request approved.
Equipment
Now that depends upon a few notable factors. First, you need to consider the value of equipment and not only the price. For instance, heavy machinery is technically valuable, but nobody really wants to buy it; therefore, the lender wouldn’t view it as valuable. The same goes with computers and other hardware, which tend to become obsolete fairly quickly and get their value depreciated over time.
But it is still a good option if the loan amount is small. Although you should contemplate the consequences of losing that equipment before putting it on the line.
Inventory
Commonly, several borrowers are seen showing up with their inventory to get a loan. However, from the perspective of lenders, considerations like liquidation value and future depreciation that also apply to equipment go well with the inventory. Ultimately, the lender varies the amount and cost of your borrowing as well as the method of inventory valuation.
Again, putting anything that is essential for you, like inventory, is subject to loss if you default on your loan agreement. This will create a scenario, which will be tedious to manage, especially when you have other debts, too.
You will lose your inventory and might not have other ways to generate income, pay off your debts, and keep your business going if you anyhow fail to meet the ends.
Invoices
If you choose to use invoices as collateral, you pave the way for immediate income. But when the time comes, the lender will collect on the outstanding invoices you used as security. This process is also known as invoice financing.
Here, you receive cash up front and don’t require to wait for the cash from your outstanding invoices to come in. In such a case, the lender will charge fees or other costs, not letting your business earn adequately than if you had collected the invoices yourself. Furthermore, the lending will be capped below the invoice value, and there will be a ceiling on how much you can borrow.
Aside from understanding “what is a collateral loan or what is collateral?” every borrower should know the types of security they can use to generate income. Therefore, use this guide and get the best deal for yourself.