The Complete Guide to Business Funding Types
Understanding the full spectrum of business funding options is crucial for making informed financing decisions. Each funding type serves different purposes, offers unique advantages, and comes with specific requirements. This comprehensive guide breaks down every major funding category to help you identify the best fit for your business.
Merchant Cash Advance (MCA)
What Is an MCA?
A merchant cash advance isn't technically a loanโit's a purchase of your future credit card sales at a discount. The MCA provider gives you a lump sum upfront, and you repay by automatically remitting a percentage of your daily card transactions until the obligation is satisfied.
How MCA Repayment Works
| Component | Description | Typical Range |
|---|---|---|
| Advance Amount | Lump sum you receive | $5,000 - $500,000 |
| Factor Rate | Multiplier determining total cost | 1.15 - 1.50 |
| Holdback Rate | Daily percentage deducted from card sales | 5% - 25% |
| Repayment Period | Time to fully repay | 3 - 18 months |
Example Calculation:
- โAdvance: $50,000
- โFactor Rate: 1.35
- โTotal Repayment: $67,500 ($50,000 ร 1.35)
- โCost of Capital: $17,500
Best Use Cases for MCA
- โUrgent Capital Needs: Approval in hours, funding in 1-3 days
- โCredit-Challenged Businesses: Focuses on card sales, not credit scores
- โSeasonal Revenue Spikes: Repayment adjusts with your volume
- โShort-Term Opportunities: Inventory purchases, marketing campaigns
MCA Qualification Requirements
- โMinimum 4+ months in business
- โ$5,000+ monthly credit card processing
- โActive business bank account
- โNo minimum credit score (though 500+ preferred)
Business Lines of Credit
What Is a Business Line of Credit?
A business line of credit provides flexible access to funds up to a predetermined limit. Unlike a term loan where you receive and repay a lump sum, a line of credit lets you draw funds as needed, repay them, and draw againโsimilar to a business credit card but with better rates.
Types of Lines of Credit
Revolving Line of Credit
- โDraw and repay repeatedly
- โInterest only on outstanding balance
- โLimit remains available as you repay
- โIdeal for ongoing working capital needs
Non-Revolving Line of Credit
- โFixed draw period followed by repayment period
- โOnce repaid, line closes
- โOften lower rates than revolving options
- โBetter for specific projects with defined timelines
Line of Credit Terms Comparison
| Factor | Traditional Bank LOC | Online/Alternative LOC |
|---|---|---|
| Credit Limit | $25,000 - $500,000+ | $5,000 - $250,000 |
| Interest Rate | Prime + 1-5% | 8% - 25% |
| Draw Period | Ongoing | 6 - 24 months |
| Approval Time | 2-4 weeks | 1-7 days |
| Credit Required | 680+ | 600+ |
Best Use Cases for Lines of Credit
- โCash Flow Management: Bridge gaps between receivables and payables
- โInventory Purchases: Stock up for seasonal demand
- โUnexpected Expenses: Equipment repairs, emergency costs
- โFlexible Capital: When you need ongoing access but variable amounts
Term Loans
What Is a Business Term Loan?
A term loan provides a lump sum of capital that you repay over a fixed period with regular payments (usually monthly). This is the traditional form of business financing that most people envision when they think of "getting a loan."
Term Loan Structure
Term loans come with clearly defined parameters:
- โPrincipal: The amount you borrow
- โInterest Rate: The cost of borrowing (APR)
- โTerm Length: Repayment duration (1-10+ years)
- โPayment Schedule: Monthly, bi-weekly, or weekly
- โCollateral: Assets securing the loan (if applicable)
Short-Term vs. Long-Term Loans
| Characteristic | Short-Term Loan | Long-Term Loan |
|---|---|---|
| Term Length | 3 months - 2 years | 2 - 10+ years |
| Typical Amount | $5,000 - $250,000 | $50,000 - $5M+ |
| Interest Rate | 10% - 45% | 5% - 15% |
| Approval Speed | 1-7 days | 2-8 weeks |
| Best For | Working capital, urgent needs | Major investments, expansion |
Term Loan Best Uses
- โEquipment Purchases: Match loan term to equipment life
- โBusiness Expansion: New locations, major renovations
- โDebt Consolidation: Combine multiple high-rate obligations
- โAcquisition Financing: Buying another business or franchise
SBA Loans
What Are SBA Loans?
SBA loans aren't funded by the government directly. Instead, the Small Business Administration guarantees a portion of loans made by approved lenders, reducing their risk and enabling better terms for borrowers.
SBA Loan Programs
7(a) Loan Program
- โMost common SBA loan type
- โUp to $5 million
- โWorking capital, equipment, real estate, debt refinancing
- โTerms up to 25 years for real estate, 10 years for equipment
504 Loan Program
- โFor major fixed assets (real estate, large equipment)
- โUp to $5.5 million
- โRequires 10% down payment from borrower
- โ10 or 20-year fixed rates
Microloan Program
- โUp to $50,000
- โFor startups and small businesses
- โOften available with less established credit
- โAdministered through nonprofit intermediaries
SBA Loan Benefits
| Benefit | Details |
|---|---|
| Lower Down Payments | As low as 10% vs. 20-30% conventional |
| Longer Terms | Up to 25 years for real estate |
| Competitive Rates | Capped at Prime + 2.75% for most loans |
| No Balloon Payments | Full amortization over loan term |
| Counseling Resources | Access to SBA training and support |
Invoice Financing
What Is Invoice Financing?
Invoice financing allows B2B businesses to access cash tied up in unpaid invoices. Rather than waiting 30, 60, or 90 days for customers to pay, you can get 80-95% of the invoice value immediately.
Invoice Factoring vs. Invoice Discounting
Invoice Factoring
- โSell invoices to a factoring company
- โFactor collects directly from your customers
- โNo debt on your balance sheet
- โFactor assumes collection risk (non-recourse) or you retain it (recourse)
Invoice Discounting
- โBorrow against invoices as collateral
- โYou maintain customer relationships and collections
- โInvoices remain on your books
- โGenerally lower fees than factoring
Invoice Financing Costs
| Cost Component | Typical Range | Description |
|---|---|---|
| Advance Rate | 80% - 95% | Percentage of invoice value received upfront |
| Factor Fee | 1% - 5% per month | Cost per 30 days invoice is outstanding |
| Service Fee | 0.5% - 2% | Administrative costs |
| Reserve Release | Remaining balance | Paid when customer pays invoice |
Best Industries for Invoice Financing
- โTrucking and freight
- โStaffing agencies
- โManufacturing
- โConstruction contractors
- โWholesale distribution
- โBusiness services
Equipment Financing
What Is Equipment Financing?
Equipment financing specifically funds the purchase of business equipment, using the equipment itself as collateral. This category includes both equipment loans and equipment leases.
Equipment Loan vs. Equipment Lease
| Factor | Equipment Loan | Equipment Lease |
|---|---|---|
| Ownership | You own equipment | Lessor owns equipment |
| Down Payment | 10-20% typical | Often $0 |
| End of Term | Equipment is yours | Return, purchase, or renew |
| Balance Sheet | Asset + Liability | Operating expense (for operating lease) |
| Tax Treatment | Depreciation + interest | Lease payments deductible |
What Equipment Can Be Financed?
- โManufacturing machinery
- โConstruction equipment
- โCommercial vehicles
- โRestaurant equipment
- โMedical/dental equipment
- โTechnology and computers
- โAgricultural equipment
- โFitness equipment
Equipment Financing Terms
- โAmount: Typically up to 100% of equipment cost
- โTerm: 2-7 years (matched to equipment life)
- โRates: 5% - 30% depending on credit and equipment type
- โApproval: 3-14 days
Revenue-Based Financing
What Is Revenue-Based Financing?
Revenue-based financing (RBF) provides capital in exchange for a fixed percentage of ongoing monthly revenue until a predetermined amount is repaid. It's a hybrid between a loan and an MCA, offering more flexibility than term loans with more predictability than daily MCAs.
How RBF Works
- โYou receive a lump sum (typically 2-4x monthly revenue)
- โA fixed percentage of monthly revenue is remitted (typically 2-8%)
- โPayments adjust with revenueโslower months mean lower payments
- โContinues until you've repaid the total agreed amount (usually 1.3x-1.8x principal)
RBF vs. Other Options
| Factor | Revenue-Based Financing | MCA | Term Loan |
|---|---|---|---|
| Payment Frequency | Monthly | Daily | Monthly |
| Payment Flexibility | Adjusts with revenue | Adjusts with card sales | Fixed |
| Cost Structure | Multiple of principal | Factor rate | Interest rate |
| Equity Dilution | None | None | None |
| Speed | 3-7 days | 1-3 days | 2-8 weeks |
Choosing the Right Funding Type
Decision Matrix
| If You Need... | Consider... |
|---|---|
| Fast capital (24-72 hours) | MCA, Revenue-Based Financing |
| Lowest cost | SBA Loans, Bank Term Loans |
| Flexible access | Line of Credit |
| Equipment purchase | Equipment Financing |
| Bridge slow-paying customers | Invoice Financing |
| No daily payments | Monthly Term Loan, Revenue-Based |
| Bad credit options | MCA, Invoice Factoring |
Key Questions to Ask
- โHow urgently do I need the funds?
- โWhat is my credit situation?
- โCan I provide collateral?
- โWhat repayment frequency fits my cash flow?
- โWhat is my total cost of capital?
- โWhat are the prepayment policies?
Understanding these options empowers you to match your specific situation with the right funding solution. Many successful businesses use multiple funding types strategically throughout their lifecycle.