A Quick Guide to Capital Loans

A capital loan, also known as a working capital loan, is a short or medium-term solution that can finance everyday business expenses. They can quickly cover a gap in your cashflow.

Hannah Smith Published on 16 April 2021.
A Quick Guide to Capital Loans

When you’re running a business, cashflow is vital to keep things running smoothly. But there are many reasons why you could end up with a shortage of working capital. Luckily, there are options available when you need to quickly plug a gap in your company’s finances. Here’s a brief guide to working capital loans that can help.

What is a capital loan?

A capital loan, also known as a working capital loan, is a type of borrowing you can apply for to boost the everyday cashflow in your business. Working capital is the money you have available to cover your operating expenses, such as paying staff, buying goods or paying rent on your offices. The technical definition of working capital is your current assets minus your current liabilities.

Common issues like long payment terms, late-paying clients or seasonal sales patterns can mean small businesses struggle to keep enough cash readily available. Working capital loans are designed to bridge short-term cashflow gaps and keep your business ticking over in quiet trading periods or when the cash in your business is tied up. But you can also use them when an opportunity comes along and you need a quick cash injection to be able to grab it with both hands.

How do capital loans work?

Capital loans are a short-term form of borrowing usually associated with lower amounts borrowed over a few months to a year.

The traditional option is to take out a loan for a fixed amount with regular repayments set for a fixed term. But you could also consider taking out a line of credit which offers a bit more flexibility as, while you have access to a set amount of credit, your business is only charged on the amount you have actually borrowed. In this sense it’s sort of an open-ended, more flexible type of loan.

There are also other types of working capital finance available, such as invoice financing, business overdrafts and business credit cards. If you go for a working capital loan, you will usually be able to choose from a secured or an unsecured loan, depending on whether your company owns any assets that you can use as security. This will affect how much you can borrow and how much it will cost you in interest.

How much can I borrow with a capital loan?

Because working capital loans are designed to fill short-term funding holes rather than achieve longer-term business goals, they are usually for smaller amounts. When applying for a capital loan, you might need to show a lender evidence of your company’s profits and revenues, cashflow forecasts and bank statements. The information you provide will determine how much you can borrow.

Pros and cons of capital loans

Pros

  • Keeps your business ticking over even if trading is slow.
  • You can get a quick loan decision and fast access to cash.
  • You may be able to get an unsecured loan, without offering up assets as collateral.
  • You will usually repay a working capital loan quickly, meaning you won’t be tied into a long loan agreement.
  • There won’t usually be any restrictions on how you use the cash you borrow.

Cons

  • Owners of small firms, startups or those with few assets might need to give a personal guarantee, which means backing up your business borrowing with your own personal money. If you do this, your own financial security is at risk if your business can’t meet repayments.
  • You’re only likely to be able to borrow smaller sums over shorter timescales.
  • You need to be sure that more cashflow is coming through so that you’ll be able to repay the loan.
  • Interest rates may be high.
  • Late repayments on your loan could lower your credit score and restrict access to future borrowing.

Image Source: Getty Images

About the author:

Hannah is an award-winning journalist with a background in the trade press. She writes about finance, asset management and business for Shares, Citywire, FE Trustnet, and interactive investor. Read more

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