May 31, 2018

The Pros and Cons of SBA Microloans

An SBA Microloan can provide up to $50,000 in funding. However, most microloans are smaller. A Congressional Budget Office report found that in FY 2017, the average SBA Microloan provided $13,884 in funding financed at 7.5 percent. To qualify, you’ll must justify why you need the loan and how much you need. In addition, you’ll also have to prove that you’ll be able to repay the loan. SBA Microloans can be distributed relatively quickly and can be used for a wide range of purposes. However, there are some drawbacks. Let’s examine the pros and cons of SBA Microloans to determine if they are right for your small business.

The Pros of SBA Microloans

PRO: SBA Microloans are Usually Distributed Quickly

The application process for many SBA loan programs can take months to complete. However, SBA Microloans can be distributed in about 1 month. In some situations, funds can be distributed even faster than that.

PRO: The SBA Will Provide Financing to Businesses that Traditional Funders Won’t Usually Work With

SBA loan programs target businesses that are struggling to obtain funding through traditional channels. This includes both struggling established businesses and startups still establishing themselves. Business lending can be risky for lenders, as they must assume the risk if the company is unable to repay their debts. If the business fails, the lender will likely lose money. Due to this, the SBA will guarantee a portion of the loan, lowering risks for lenders. This allows lenders to lend at a lower interest rate than would otherwise be possible, and work with businesses that have a difficult time procuring other types of financing.

PRO: SBA Microloans Can Be Used to Afford a Wide Variety of Business Costs

SBA Microloans can be used to pay for inventory and supplies. In addition, you can buy machinery, furnishings, equipment, and as working capital.

The Cons of SBA Microloans

CON: SBA Microloans Come with Spending Restrictions

SBA loans come with stipulations on what you can and can’t purchase. These stipulations can vary from program to program. With a SBA Microloan, you can’t purchase real estate or pay off existing debt.

CON: It Can Take Several Weeks for an SBA Microloan to be Approved and Disbursed.

The microloan process will still take longer than many alternative loan programs. Holdups can emerge on either the lender or the government’s end. This can be a challenge for companies facing an immediate cash crunch.

CON: You’ll Have to Deal with Both the Government and a Traditional Bank

While the SBA and its partner institutions have streamlined the application process, you’ll still have to work with two different organizations. You’ll have to complete the loan application process established by the lender and will also have to meet the requirements and manage the relationship with the SBA.

CON: Lenders Will Each Have Their Own Eligibility Requirements

Each lender sets their own eligibility requirements. For example, some lenders will require higher credit scores and will examine your business’s balance sheet more closely than others. While the SBA sets parameters for loans, it doesn’t approve or reject them

CON: Lenders Can Charge Fees, Which Will Vary

Lenders can charge fees. While the fees are capped by the SBA, they can vary from lender to lender. Fees include:
  • Application fee between $25 and $100.
  • Loan processing fee between $100 and $135.
  • Search fees for titles and liens.
  • Closing costs between 2 to 5 percent of the loan

CON: SBA Microloans Can Still Be Difficult to Qualify For

While the SBA makes it easier for small businesses to qualify, there are still many requirements. Restrictions include:
  • No bankruptcies or foreclosures within at least two years.
  • The organization must be for-profit.
  • Credit scores can impact your loan application.
Most businesses that receive funding are considered “non-bankable”. This means they are unable to qualify for traditional bank loans. Due to this, you’ll have to prove that you applied for traditional loans but were rejected.

Conclusion: SBA Microloans Are a Good Choice but Not the Only Choice

SBA Microloans are a great choice for many small businesses. However, other types of funding sources may be a better fit for your business. If your business doesn’t meet eligibility requirements, you may be able to secure alternative funding, such as a merchant cash advance. Alternative funding is often approved and disbursed relatively fast, won’t require collateral, and will provide more spending flexibility.