What Microloans Can Do For Your Business

Jason Smith

Jason Smith

Senior Author

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Jason Smith

Senior Author

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Small business owners have a reputation for getting creative when it comes sourcing funding for their companies. There are hundreds of different ways you can finance a small business, but one of the least well known methods is via microloans. While microloans won’t provide you with a huge source of capital, they’re a perfect way to get access to low-cost cash without needing to meet excessive traditional loan requirements. If you need a small amount of investment that you currently can’t afford, microloans are a great substitution for selling equity or acquiring traditional loans. Thousands of small business owners from around the country use microloans to help improve the efficiency of their businesses.

In addition, many small business owners use microloans to start businesses that are not capital intensive. If you believe you have a great business idea that won’t take much capital to get off the ground, a microloan could be a perfect way to get your idea in motion.

What Microloans Can Do For Your Business

In this article, we will overview the basics of microloans and how they work. We’ll give you the tools you need to understand what a microloan can do for your business!

What is a Microloan?

Microloans, commonly referred to as ‘SBA Microloans’, are actually a government initiative to help fund small businesses and other types of organizations. The microloan program has been put in place by the U.S. government in order to give small business owners a better chance at receiving the funding they need for their companies. Microloans carry a maximum value of $50,000, and normally have to be paid back within six years of first receiving the loan. Despite their short term-period, microloan recipients benefit from very low interest rates – a great advantage for those who have limited ability to borrow and don’t want to use more expensive forms of credit.

Microloans aren’t directly distributed by the government, nor are they distributed only by commercial banks like some government loans. Instead, microloans are often given by a network of nonprofit community organizations that work directly with those whom they finance. Each lender has different requirements for eligibility – fortunately, many have lower requirements than traditional banks as they are meant to be aiding their local communities. In addition, because the lenders are non-profit, interest rates tend to be substantially lower than those of traditional loans. The average microloan amount is $13,000 – if you’re looking for a large sum of money, microloans might not be your best option.

Different Types of Microloans

As mentioned previously, microloans are backed by the United States Government with the intention of making it easier for borrowers to access capital to start or invest in small businesses. Depending on the reason that you need the money, or the type of business that you are thinking of starting, there are different microloans available for you to apply for. We have provided descriptions of various microloans on offer for individuals who are looking to apply for this form of finance.

SBA Microloans – As mentioned previously, these are the most popular forms of microloans, they are insured by the Small Business Administration and provided by commercial banks and community lenders. There are different types of SBA microloans that require different eligibility. For example, there are business loans for women – which are aimed at providing female business owners with the opportunity to receive funding to start companies. Speak with a local or commercial lender to determine if there are any specific SBA loans that they offer that you may be eligible for and see what the current SBA loan interest rates are.

USDA MicroloansUSDA Microloans are another form of microloan that have grown increasingly popular in the in the United States – they are provided by the United States Department of Agriculture. This form of microloan is specifically set aside to help those who are working in the agricultural industry. If you’re a large, established farmer you will not be eligible. USDA Microloans are intended to help small or new farmers with the purchasing of land or equipment. The program is designed specifically to promote the agriculture industry in the United States, and increase the nation’s ability to subsist on local farming products. If you are considering starting your own farming operation, this is a great first stop for getting some funding that will help you get off the ground. People also commonly refer to USDA Microloans as FSA Microloans.

How can I benefit From a Microloan?

The main purpose of this post is to inform you as to what a microloan is, and how it can help. Most microloans are given to small business owners to either finance the start of their company, or help it expand. Small business owners around the country apply for microloans for various reasons – we’ve outlined some ways that microloans may be helpful for you.

Starting Your Business

If you’ve decided to start a business, and believe that traditional forms of credit may be too hard to find, microloans are a great way to get around this hurdle. In addition, you don’t have to pay as high of interest as you would with many traditional forms of finance, especially revolving credit. The purpose of many microloan organizations is to invest in their local community. For this reason, microloans are often given with the exact purpose of starting a new business. If you’re yet to begin operations, you could be the perfect candidate for many microloan organizations.

Because microloans are run by community organizations with certain outcomes in mind, they tend to sometimes favor people of backgrounds who may not be well represented in the business community. If you happen to be a minority, a woman, or someone with a past in the military, many microloan lenders have capital set aside to help your start your business. This is an option that should never be overlooked, as access to this capital can often be strictly reserved for people of specific backgrounds. Keep in mind, as previously mentioned, each microloan lender has different requirements and so you may need to search for those who are best suited to you and your business.

Inventory

Another common use for microloans is investing in excess inventory. If you own a small business and have limited capital to work with, you may find it hard to purchase inventory in advance of busy seasons (i.e. Christmas, Summer). By receiving a microloan to help invest in additional inventory, you can ensure that you have the supply to meet your demand during a time of peak business activity. Being able to take advantage of busy parts of the year is one way to ensure that your business stays viable – many SBA Microloan recipients use their loans for this purpose.

Machinery

Another primary use for SBA Microloans is investing in machinery or equipment that can help improve the efficiency of your business. Many small business owners don’t have the money they need to help improve their operations – receiving a microloan can give you up front capital at a low-interest rate. Many business owners make the mistake of purchasing equipment using high-interest debt. This creates various problems down the line, but many small business owners opt to use it anyways as they are desperate to get the machinery they need to continue operating.

Attaining Finance in Unpopular Industry

This may sound like an odd benefit of a microloan, but it is one of the most important uses of this unique type of funding. Many lenders will not want to invest money into a company that is attempting to start in a niche that is unpopular or competitively disadvantaged. Microloans can help bridge this funding gap to help business owners in these niches. For example, the USDA Microloans mentioned previously in this article do a great job of helping farmers in the United States with starting up operations. The agriculture industry can be difficult to attain financing through, lenders often find it too risky an industry to lend to because of international competition and the potential for capital loss. If you feel you are operating in an industry that lenders don’t seem to want to touch, this is a great way to get the money you need to start your business. Search for the industry you’re considering entering and try and find out if there are any government programs that can offer you microloans.

Advantages of Microloans

There are many advantages when it comes to obtaining microloans. A lot of these benefits have been outline in this article, but a full list of the top advantages associated with this form of finance is provided below:

Access – This is probably the top advantage microloans offer to borrowers – you don’t need to have an established credit history or a large amount of capital. Microloans are made for business owners that would traditionally struggle to get access to capital. The reason they are insured by the national government is to make sure that lenders will give opportunities to small business owners that need access to funding.

Low Cost – Microloans aren’t extremely low cost, but they are much cheaper than what many small business owners would have to pay to access capital. The government understands that lending to specific niches has risks involved, and they must ensure that interest rates are high enough to compensate for defaults. Regardless, microloans are much cheaper than other forms of credit such as revolving credit or other unsecured business loans.

Credit Building – Many microloan recipients have limited credit, so microloans are a great way to get on the credit ladder. Receiving a microloan and paying your payments on time is the perfect way to exhibit to traditional lenders that you are a responsible borrower that knows how to run a business successfully. If you feel like you may need to get a big loan in the future, getting a microloan now can help you be prepared to get different financial products.

Disadvantages of Microloans

Just as there are advantages to microloans, there are also disadvantages. The top microloan drawbacks are listed below:

Limited Capital – At the end of the day, microloans are called ‘micro’ for a reason – they’re small. This means that you will only be able to access a small amount of capital. If you’re thinking of starting a large business that is capital intensive, a microloan won’t even begin to cover the cash you will need.

Cost – Despite cost being an advantage of a microloan, it can also be a disadvantage depending on your lending history. If you have an established lending history, a microloan will be way more expensive, in terms of interest, than a traditional loan.

Three Steps to a Successful Microloan Application

So, what should you do to get a microloan? The key to being successful in a microloan application is to do your due diligence. You’re already on the right path by reading this article, but there are plenty of other things you can put in motion to raise your chances of being successful when you apply for a microloan. The following three steps are great initiatives you should take in order to put yourself in prime position for microloan eligibility:

Ensure Your Business Plan is Professional – This is a great tip for anyone who wants to start a business, but especially those who are thinking about applying for finance. You should make sure that you have a solid business plan in place when you decide to apply for any form of loan, including a microloan. Many small business owners overlook the importance of having a good business plan when they head to a lender and ask to borrow money. Include all potential variables that may impact your businesses viability, and your plans to navigate these variables. It may also be worth getting in contact with an accountant so that they can overview your plan and ensure that it is feasible. Many business owners have great ideas but fail because they don’t put the time into understanding how to best structure their businesses.

Check Your Credit Report – You may not think you have any problems with your credit report, but you need to make sure there are no nasty surprises that may come to haunt you when you apply for a microloan. If you’ve never owned a business before, lenders may look at your personal credit report to help determine how eligible you are for the loan. There are often mistakes on people’s credit reports, that’s why it’s really important that you head online and pull your credit report to make sure there aren’t any misreported items. In addition, if you can afford to pay down some of your debt, this can have an immediate positive impact on your credit report. It must be stated, microloans have been invented with the intention of helping individuals with little or no credit history, so your credit report will not matter as much in your application as other factors. This being said, a history of responsible lending and minimal debt will act in your favor.

Find Assets to Secure the Loan – Because microloans are often given to people with little to no credit history, you sometimes need to find ways to differentiate yourself from a typical borrower. If you’re only just starting your business, you may find that you don’t have any assets to offer up as collateral to lenders. But many lenders may allow you to offer personal assets in order to secure the loan. Because microloans are traditionally quite small, this may mean you only have to offer up a car or something of relative value. Homes can be accepted as collateral, but it is advised you don’t put an asset of such significance down as a personal guarantee – it could put your family’s livelihood at risk. This is especially relevant for those who are entering a risky business environment.

Alternative Microloans

The microloans that we have discussed in this article are government backed and often provided by commercial or community lenders. This is the most traditional form of this type of finance, although it must be said that there are other forms of microloans on the market. If you are searching the internet, you may come across microloans that are privately lent rather than backed by the government. These forms of loans are traditionally peer-to-peer, which means that private investors or individuals are offering up money to be lent at specific interest rates to other borrowers.

This form of finance has become increasingly popular with individuals who want to lend to business owners in developing countries. Companies have been set up as intermediaries for these forms of lending – they provide third world business owners with microloans to help them fund their operations. Lenders will offer up capital at set interest rates that these individuals can then borrow and pay back over a fixed term. It’s seen as a compassionate lending platform that provides much needed liquidity for individuals in developing markets. They provide microloans in Africa and other developing regions with emerging economies. Kiva Microloans has been determined to be one of the leading microloan platforms for this type of lending.

There are also other peer-to-peer microloan platforms that lend money domestically. You may be able to get a loan through one of these platforms if you meet the eligibility requirements of the lender. It is important to make sure that you know the difference between these forms of microloans – they are not backed by the United States Government, they are simply private loans issued by private investors. Because they carry substantial risk for investors, they also tend to have quite high interest rates. These aren’t just for small business microloans, they also provide personal microloans.

Finding the Right Leader

Once you’ve decided what you want to use your microloan for, you’ll have to find the right lender to get you the money that you need. Many microloan providers are accessible online – but you’ll most likely need to find one in your local area if you want to be eligible. If you do happen to come from a minority or female background, try and find a microloan lender that caters to your background. In addition, you need to map out the exact uses that you plan on using the capital for – many lenders require that you have specific costs that the money will be going towards. Don’t hesitate to contact a range of lenders, these nonprofit organizations have been set up specifically to help small business owners like yourself attain additional funding.

There are online sites that provide directories of different microloan providers within certain areas. You should make sure to call these community organizations prior to meeting with them in person. Many have set requirements for lending that you may not meet – you don’t want to waste your time visiting a lender that will not be able to assist you.

Verdict

If you’re struggling to find ways to attain capital for starting or investing in a business, microloans may be one of the most accessible avenues available. The government has invested heavily in making this form of finance affordable and available to those who need it. If you think that you could improve business efficiency if you had more capital, microloans are by far one of the cheapest options – especially for those with limited credit. But if you do need large sums of capital, or your business is capital intensive, you may have to seek additional funding elsewhere.

Before you apply for a microloan, you should determine which microloans you’re eligible for. Don’t waste your time applying for general microloans if you happen to fit into a niche that can be given a specific form of funding. One of the best parts about microloans is that they are set aside for specific purposes. You should be willing to do the research to determine if you or your business fits into one of these niches. In addition, make sure to follow the steps we have provided to make your business as eligible as possible for receiving a microloan. Getting the process done quickly is key in making sure you don’t miss out on any market opportunities. Always ask for a full breakdown of costs if you’re worried there might be hidden charges or fees – knowing the total cost of your loan will help you understand the true financial burden you’re undertaking.

Jason Smith


Jason is a Senior Author for SBL. He has been working with small business owners like you for the past ten years. He graduated with an MBA and began a career as an independent financial consultant for small businesses in his state. 

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