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The Pros and Cons of Payroll Business Loans
July 12, 2021
14. The Pros and Cons of Payroll Business Loans-05

The Pros and Cons of Payroll Business Loans

Failing to pay employees on time and in full comes with serious consequences. As a small business owner, you could face lawsuits, legal actions, fines, a tarnished reputation, and damaged employee relationships. Therefore, it’s smart to consider a small business loan to avoid missing payroll.

The term payroll business loan is often lumped together with other business financing solutions well-suited for payroll funding. This might include invoice financing, merchant cash advances, working capital loans, business lines of credit, and term loans.

You can use any one of these financing options to finance payroll because their funding processes are quick.

However, in this post, we’re going to focus on the pros and cons of payroll business loans.  Then, we’ll summarize the other payroll financing options and provide resources to help you learn more about all your payroll funding options.

The Pros of Payroll Business Loans

1. Helps you retain employees

As mentioned in the introduction, missing payroll is never good for your relationship with your employees. After all, your workers rely on their job to provide a regular paycheck. If they don’t think your business can provide income they can count on, they’ll look elsewhere for employment.

Business loans for payroll allow you to borrow a small amount of money quickly to avoid this situation. If you obtain payroll financing, you can have money in your account within one business day. 

2. Provides funding so you don’t have to cut costs

Facing the prospect of missing payroll, many entrepreneurs opt to cut costs elsewhere. While that’s better than failing to pay your employees, it’s not ideal. With a payroll business loan, though, you can avoid missing payroll without using funds earmarked for other purposes. That way, you can keep your employees happy and continue to invest in your business.

3. Enables you to deal with short-term cash shortages

Even otherwise successful businesses can run into cash shortages. Maybe a big customer is late on their payment. Or, perhaps your costs suddenly spike more than you expected. Whatever the reason, the quick funding of payroll loans makes them ideal for managing short-term cash shortages.

The Cons of Payroll Business Loans

1. Can’t be used for anything but payroll

As you might expect, the funds you receive from payroll business loans can only be used on payroll expenses. Assuming you need the business loan for payroll only, though, this shouldn’t be a problem.

If you need more flexibility, consider a different option, such as a merchant cash advance or invoice financing.

2. Repayment periods are short

Payroll funding companies want to be repaid as quickly as possible, so expect a short repayment period. In fact, payroll lenders will typically require that you provide a postdated check for the full loan amount. If you can’t pay your loan back on the date indicated, you’ll incur fees from both your bank and your lender.

3. Payroll loan interest rates are high

Short-term loans have less time to accumulate interest expense. That means short-term lenders must charge higher interest rates to make their business profitable. Plus, payroll business loans are generally considered higher risk than, for example, a traditional term loan from a bank. For these reasons, expect to pay between 15 and 30 percent interest rates on a payroll business loan.

Other Business Loans for Payroll

Alternative financing options that work well for funding payroll include:

Invoice financing: While not technically a loan, invoice financing can work well for short-term cash shortfalls. With this type of financing, you sell your invoices at a discount to a factoring company in exchange for a cash advance. Learn more about invoice financing.

Merchant cash advances: Also not a loan, merchant cash advances (MCAs) can work for businesses that process many debit or credit transactions. With an MCA, you agree to sell a portion of your future credit and/or debit sales in exchange for a cash advance. Learn more about merchant cash advances.

Working capital loans: A short-term loan you can use for everyday expenses (such as payroll). You’ll need a decent credit score, but working capital loans can help you meet payroll and fund other expenses. Learn more about working capital loans.

Credit lines and term loans from alternative lenders: Unlike banks, alternative lenders can fund credit lines and term loans in a matter of days. Plus, the funds from these financing options can be used for payroll, sales and marketing expenses, renovations, and much more. Learn more about alternative lenders.
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Final Note: Don’t Mistake Payroll Loans for Payday Loans

Although the names sound similar, payroll loans are not the same as payday loans. Payday loans provide cash advances to consumers that must be repaid when the employee receives their next check.

Notably, payday lenders charge an average interest rate of 400 percent and are illegal in many states. We recommend that you and your employees avoid these kinds of business loans if at all possible.

Fora Financial

Editorial Note: Any opinions, analyses, reviews or recommendations expressed in this article are those of the author's alone, and have not been reviewed, approved, or otherwise endorsed by any of these entities.

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Fora Financial is a working capital provider to small business owners nationwide. In addition, the Fora Financial team provides educational information to the small business community through their blog, which covers topics such as business financing, marketing, technology, and much more. If you’d like to see a topic covered on the Fora Financial blog, or want to submit a guest post, please email us at [email protected].