There are more ways to get a small business loan in Canada than ever before. This is because new lenders and solutions have emerged to meet the needs of small businesses. Unfortunately, many business owners don’t know all their options and find it difficult to understand which solution is right for them. As the Chairman of the Canadian Lenders Association and President of Lendified, I’m on a mission to educate the business community and help fix this problem.
Here is an overview of the most common business loan options available today. You can jump to any section by clicking on the topics listed in the table of contents. I hope this information helps you make the best financing decision for your business and invite you to share the guide with others who could benefit from it.
Chairman, Canadian Lenders Association
There are two fundamental forms of capital, debt and equity. Some business owners are hesitant to use debt (also known as leverage), but the most successful companies use a mix of both equity and debt to fund their growth.
Key benefits of getting a business loan instead of an equity investment include:
That said, it is important to show that you have some equity in your business. This will show lenders your commitment to the business and increase your chances of getting funding.
If you begin searching online for the different types of small business loans you may start to think there are infinite options. Don’t get distracted by all the creative names lenders have come up with to describe their loans such as “Flexible Payment Solution”. There are modern twists on traditional products, but almost every solution fits into one of these categories:
Commercial Mortgage ⇩
Business Credit Card ⇩
What it is
An installment loan, also known as term loan, is a loan for a fixed amount that is repaid in a series of installments over a fixed period of time. You are likely familiar with long term loans such as those offered by banks; however, alternative lenders have introduced options with shorter terms which are used as a working capital loan.
Term loans can range from $5,000 to millions. It really depends on what you need the capital for and how much you qualify for.
Terms vary according to the lender and your needs. Banks typically provide installment loans ranging from 2 to 7 years for working capital and up to 25 years for real estate. On the other hand, alternative lenders offer short term business loans that are designed for working capital needs and typically range from 3 months to 2 years.
In most cases, payments for installment loans are a fixed amount which includes principal and interest. These are normally paid bi-weekly or monthly, which makes it easy for business owners to manage their cash flow. The only exception is when you have a floating interest rate, which is only used occasionally by banks and would cause your payments to fluctuate.
Traditional lenders likely will require a variety of documents to be provided in person and online, while alternative lenders will request basic information about you, your business, and bank statements for the last 3 to 12 months.
Traditional lenders can take upwards of a month to approve a term loan, while alternative lenders take between 1 to 7 days.
Banks will require you to provide collateral, a personal guarantee, and sign a general security agreement. Most alternative lenders do not require specific collateral, especially if the business loan is unsecured.
Installment loans are ideal for established businesses who can demonstrate that they have positive cash flow. Longer term loans are often used for things like real estate while shorter terms are used for working capital or to provide a bridge to other financing.
Alternative lenders mostly provide installment loans to those who can’t get enough capital from their bank.
What it is
A line of credit gives small business owners access to a pool of funds whenever needed. When the funds have been used, interest is charged on the outstanding balance. After the balance is repaid, the line of credit reverts to its original balance.
The credit limit available is based on your revenue, other debt obligations, your credit score, and anything else that could effect your ability to repay the debt. Also, your ability to provide collateral to secure the line of credit may allow you to be approved for more funding.
The "draw period" is the set time frame that the funds is allowed to be taken from the account. This draw period can last several years, depending on the agreement established.
The interest rate on a line of credit is usually variable, meaning it may fluctuate over time. The interest rates the borrower pays on a line of credit is often affected by their credit score.
A line of credit application can be done online and in-person. The process requires you to submit the following documentation:
Lines of credit can typically be approved in 3 to 14 days.
A line of credit can be either secured or unsecured. A secured line of credit requires a business to use an asset to secure the line. In this situation, the business is not able to repay the line of credit debt, then the lender is able to assume ownership of that collateral. An unsecured line of credit, doesn't have any collateral attached to it, so a lender may ask for a personal guarantee and a stronger credit profile to approve the agreement.
We find that a line of credit is most useful for businesses with fluctuating cash flow and seasonal revenue.
What it is
A merchant cash advance (MCA) is technically not a business loan. It's a lump-sum advance given to a business in exchange for a percentage of their future credit and/or debit card sales.
The maximum amount available to you is normally capped at 10% of your annual sales.
Merchant cash advances do not have a fixed term. You will continue to make payments until the balance and fees are paid off. In most cases, the term ends up being between 6 and 18 months.
Payments are calculated as a percentage of your daily sales volume and are either taken directly from your card processor or an account controlled by the merchant advance provider. Some business owners like the ebbs and flows of this setup; however, others find it difficult to manage the constant payments.
Most MCA applications are done online and require your business to provide the following:
Historically, merchant cash advances are one of the fastest forms of funding available. Some lenders can provide business owners with an approval and funding in 72 hours or less.
Similar to a term loan, a merchant advance provider will require a personal guarantee and general security agreement.
A merchant cash advance is suited for businesses that have strong credit/debit card sales and aren’t able to qualify for other types of funding. This is because a merchant advance can be very expensive and come with risks any business owner should know before committing to one. Unfortunately, each week we hear stories of business owners being convinced to get a merchant cash advance without fully understanding what they were getting into.
What it is
Invoice factoring is when a business sells their accounts payable or invoices to a lender for a discount. Once a business assigns their account, they then receive what is called an advance rate. This rate is usually 80% of the value of the factored invoice. The lender then collects the payment from the invoiced client, and forwards it to the business after deducting a service fee.
How much you can borrow depends on the amount of the invoice. The creditworthiness of your customer is also important. For example, you will likely be able to borrow a higher % of an invoice if it is from a big company like Costco.
You can usually borrow against invoices for a period between 90-120 days.
Once the lender collects the payment from your client, they will take a fee and forward you the remaining funds. This fee is usually 0.5% to 5% of the invoice amount per month.
An invoice factoring application is typically done online. Examples of the information you will likely have to provide include:
Getting approved for invoice factoring can happen in as fast as 24 hours.
The purchased invoice often represents all the collateral you need to provide.
We recommend using invoice factoring to only fix temporary cash flow problems. We believe that factoring shouldn't be viewed as a long-term solution due to its high cost. Factoring is often used by companies that need to pay expenses before they are able to collect on their invoices. These companies have increasing accounts receivable balances that caused by either a boost in revenue or customers with extended payment terms.
What it is
An equipment lease is an extended rental agreement under which the owner of the equipment allows you to use the equipment in exchange for periodic lease payments. You will find that this option is similar to the approach taken when you lease a car.
Leases can vary from a few thousand dollars to millions, depending on the value of the equipment. For example, one company might lease furniture while another leases aircraft. It is important to know that many leases require a down payment.
Terms for equipment leases are based on the useful life of the equipment so it depends on the type of equipment you are getting. At the end of the term, you normally will have the option to buy the equipment at its fair market value, extend the lease, or give the equipment back.
Lease payments are typically paid in fixed monthly installments and are based on a variety of factors including the type of lease, residual value of the equipment, term, and your business history. You may be able to deduct your monthly rental payment or the cost of the equipment to get some tax benefits. We recommend that you speak to a CPA to confirm this before making a decision.
Equipment loans can be done in person through a bank which may require a business plan. Meanwhile, private lenders allow the application to be quickly done online. Both types of lenders will ask for the following information:
You can generally get approved for a lease within a few days.
An equipment lease typically uses the equipment as collateral and doesn't require a general lien on the business.
An equipment lease is best for companies who deal with rapidly changing technology or need equipment for a short amount of time to complete a project. This option is very popular in industries such as agriculture, medical, and oil and gas. We suggest weighing the pros and cons of using equipment leasing before committing to an equipment lease.
What it is
A commercial mortgage is a loan secured by a commercial real estate such as a shopping centre or office building.
A lender uses a loan-to-value (LTV) ratio to assess the loan amount relative to the value of the property. Banks generally finance between 65% to 80% of the value of commercial real estate, which will most often lead to mortgage between $250,000 and $25,000,000.
The term of a commercial mortgage typically ranges from 5 to 20 years.
Lenders expect a down payment of 20-35% of the value of the property. A larger payment known as a balloon payment is made at the end of the loan to pay off the remaining principal. Commercial mortgages may also have prepayment restrictions. This is a penalty designed to deter you from paying the debt before a loan's maturity date.
Lenders will evaluate the following when considering offering you a mortgage:
An application for a commercial mortgage takes a few weeks to complete.
This type of business loan uses the subject commercial property as collateral.
Commercial mortgages are ideal for those looking to purchase real estate they currently lease or build a new location.
What it is
A business credit card operates like a personal credit card but allows you to manage your business expenses independently.
The average credit limit for businesses can be up to $50,000.
The expiry date for a business credit card is determined by the lender, however this can be renewed.
Like any credit card, payments are due periodically with a pre-determined interest rate applied to the outstanding balance.
Applying for a business credit card often requires you to submit your personal credit history to lenders. Most lenders focus on your credit score to determine what credit limit they'll approve for your business.
An application for a business credit card can be approved within 24 hours.
Most business credit cards do not require collateral, but some require a security deposit to activate the card.
A business credit card is best for businesses that need to record their daily purchases more accurately and want to build business credit. We advise not using a card for larger purchases because the interest rates can be very high.
Some small business owners who aren’t aware of their funding options will use a personal loan or personal credit card to fund their business. While this seems like an easy way to get the money you need, it can risk your personal credit, prevent you from building business credit, and complicate your accounting. Also, it can get expensive. To learn more, read Why You Need a Business Loan (Not a Personal Loan) for Your Business.
There are 5 main sources small business owners go to get loans in Canada:
Many Canadians think of the Big 5 Banks when asked what the traditional approach is to getting a business loan. These large financial institutions dominate the banking industry, but there are other traditional lenders including credit unions and smaller banks that offer financing.
What they offer
We see Canadian banks and credit unions offering all types of loans except for invoice factoring and merchant cash advances. The most common are mortgages, credit lines, and installment loans.
Who they serve
Although traditional lenders have programs and products to help those starting a business, they tend to focus on serving established businesses that can provide collateral. These lenders can be conservative and decline businesses for a variety of reasons. This is understandable since they make very little money from smaller business loans, find it difficult to scale up their lending efforts, and want to avoid the risk of getting bad publicity for charging higher rates (even if the rates are appropriate for the risk they're taking).
You may see some traditional lenders partnering with alternative lenders to broaden the segment of the business community they serve. This is an exciting trend unfolding in Canada that will only improve your access to capital.
Pros and Cons
While traditional lenders can be very conservative, we suggest building a relationship with a few of them. This will help you eventually access capital at the lowest cost possible, even though the process of getting a loan may be more involved.
Examples of fintech companies from across the world
The phrase "alternative lender" is an overarching description for any small business lender that isn't associated with a traditional bank or credit union. These lenders are often considered online lenders or "fintech" companies because they deliver financial products and experiences by leveraging technology. In a relatively short amount of time, alternative lenders have become the fastest growing group of lenders in Canada. In fact, some estimate that over $1 billion in alternative lending solutions has already been delivered to small businesses.
What they offer
Alternative lenders in Canada currently offer all types of business loans, except for long term installment loans and commercial mortgages.
Who they serve
Alternative lenders serve business owners who can't get enough capital from their bank, need funding quickly to capitalize on an opportunity, or are simply looking for an easier process. They do not fund those looking to start a business.
Pros and Cons
The Government often allocates a portion of its budget to provide loans and grants to help small businesses. Both Federal and Provincial governments offers loans and other forms of financing to help small businesses. These publicly funded loans have stricter requirements.
What they offer
The Government provides different options of financing, such as loans and
Government loans can be unsecured and have low or no interest rates. A loan guarantee is when the Government agrees to cover 85% of the total loan amount if the business owner defaults.
Who they serve
Government loan programs vary based on region and your industry. Check the Federal or your Province's website to see the options available to you.
Pros and Cons
If you're a type of business that the Government is aiming to support, then getting a loan with them would be advantageous. However, if your business doesn't meet their strict requirements, it may be a frustrating trying to get a government loan.The Government has acknowledged that it cannot help all Canadian businesses so it has created programs to work with select private lenders that can provide funding.
Marketplace lending, also known as peer to peer lending ("P2P"), involves connecting business owners with individuals online who are willing to lend money. In this approach, a marketplace assesses the risk of each business and posts their information and funding goal online so individuals can pick the businesses they are interested in. If enough money is committed to a business to meet the goal, the loan is provided and the marketplace serves as an intermediary moving forward (for payments, record keeping, etc). This is a relatively new concept in Canada and shouldn't be confused with crowdfunding, which involves raising money in exchange for rewards or equity.
What they offer
Marketplaces do not offer loans. They provide the service of connecting businesses and individuals and make money by charging fees to both parties. In Canada, you can get term loans through a marketplace.
Who they serve
While crowdfunding those with a business idea or new product, P2P lending is for established businesses who can demonstrate to investors that they are capable of consistently making loan payments.
Pros and Cons
Marketplaces can be a good source for business loans, but you should make sure a P2P loan is right for your business before going through the application process. If you want to explore marketplace lending, make sure you find a credible marketplace in Canada with enough individuals looking to invest.
Small business owners not only seek emotional support from their loved ones, they sometimes ask for financial support. Borrowing from family and friends can be fast and cheap, but has the potential to strain your relationships. For example, if you were unable to repay a friend’s loan it could lead to a lot of guilt and anxiety. Additionally, it could make them feel entitled to influence your business decisions, even if they are not qualified to do so. We recommend considering all the pros and cons of borrowing from friends and family before making a decision.
The interest rate of a business loan is the percentage the lender is charging to borrow their money. Rates are often quoted as an annual percentage of the loan amount, but not all lenders and products use the same approach to calculating and presenting interest rates. Also, you may have to factor in fees to understand the total cost of your loan. Here is an overview of what you can expect when reviewing your quotes.
Interest rates for business loans can range from low single digits to over 50% for some options. The rate you receive depends on the lender, loan type, and your risk profile.
As a rule of thumb, you can expect to see the following:
Lowest rates - Bank loans
Biggest range of interest rates - Installment loans
Highest rates - Merchant Cash Advance
You will likely see rates communicated in a few different ways (APR, Factor Rate, AIR, etc) which may seem confusing. The important thing is that you get multiple quotes and find out the true cost of each option before making a decision.
When you get a business loan it can be difficult to understand the fees you'll be charged. Here are some of the most common fees you may come across.
Origination Fee - This is for processing your loan application and can be charged as a percentage of the loan amount (likely between 1-6%) or a flat rate. Some lenders will allow you to add the origination fee to the loan amount.
Service Fee - This is for the ongoing management and administration of your business loan. Most service fees are ongoing (likely every month) and charged as a percentage of your payment amount. However, some lenders will charge a one-time service fee when you get your loan.
Prepayment Penalty - This is for paying off your loan balance early. Lenders who charge this type of fee typically make you pay the remaining interest owed on the loan. Some will even make you pay most of the remaining interest and disguise the fee as a "discount" since you won't have to pay all the interest.
NSF Fee - This stands for "Non-sufficient funds" and occurs if the lender tries to draw your payment, but your bank account doesn't have enough money.
Sometimes it is a great idea to use a business loan to take the next step in your business. Other times it may prevent your business from moving forward. Below we provide an overview of the main indicators for both scenarios.
To Capitalize on an Opportunity
A business opportunity could come in various forms. We see a lot of small business owners using a loan to:
Regardless of the opportunity, make sure the potential return outweighs the costs.
To Increase Working Capital
Working capital is the cash used to manage your daily operations. Sometimes it’s necessary for businesses to take out a working capital loan to cover their daily expenses until they are cash flow positive again. For example, it is common for seasonal businesses to get a loan to stock up on inventory for busier seasons.
To Build Business Credit
As a business owner you always want to be building your business credit. Without a strong credit score, you may find it difficult or increasingly expensive to get the funding you need. We recommend that you build your business credit by taking out a smaller loan while making your payments on time. This tactic proves that you are financially responsible which will strengthen your business credit score.
To Refinance Other Debt
Some forms of business financing are more expensive than others. For example, Merchant Cash Advances are known to be more costly than installment loans. Many small business owners use a business loan to refinance one or many other loans. If you’ve found yourself in this situation, you should consider consolidating your debt. There are many solutions that can help you consolidate your debt at a lower rate, which will help save your time and money.
To Handle A Surprise
Every entrepreneur has run into a surprise they weren’t expecting. From broken equipment to floods, a business loan can help you bounce back.
To Pursue A High-Risk Opportunity
Not every business idea is a home run. Before you take on debt, you should consider if the investment is the best move for your company. For example, you should re-think investing $20,000 into a marketing video that you hope will go viral. These types of investments may have potential, but the risk/return trade-off isn't worth it.
When You're Struggling to Pay Your Other Obligations
When you apply for a loan, the lender will do their best to determine the money going in and out of your business. This is to ensure that you’ll be able to repay both your existing obligations and your new loan. If you can't meet your current obligations, taking on more debt may just put you in a deeper hole.
"It's important to know if the benefits of the opportunity will outweigh your costs. You can lose out on opportunities to grow your business if you don’t secure the funding you need to get there."
Eoghan Bergin Small Business Funding Specialist
You can select the right lender and solution for your business if you follow these simple steps:
Step 1 - Determine your needs
It can be tempting to try to get as much funding as possible, but you should only look to borrow as much as you need.
Step 2 - Understand your borrowing ability
There may be a difference between what you need and what you can afford. Therefore, you should always review the financial health of your business before considering getting a loan.
Step 3 - Find credible lenders
Anyone can make a website today and claim to be a lender. Take your time and do some research to make sure you only deal with credible lenders.
Step 4 - Get multiple quotes
Although some lenders may pressure you to act fast, it is important you get a few quotes to understand your options before making a decision.
Step 5 - Pick the best option for your business
For each option you have, get answers to the following questions before making a decision.
Application - What is required to apply? Is the application online?
Time to funding - How quickly can you get the funds?
Type of loan – What type of loan are you being offered?
Term length – What are your term options?
Amortization – What is the amortization schedule?
Cost (rates and fees) – All else being equal (including term), what is the total cost of the loan?
Prepayment penalties – Is there a penalty for paying your loan off early?
Business credit - Will the loan help you build business credit?
Payment method – How much are the payments, what is their frequency, and how will they be paid?
Security – What type of security does the loan require?
Once you have this information you can accurately compare your options and determine the best business loan for your needs.
With a good understanding of your goals, needs, and options, you should be able to get the right loan for your business. Just remember that it often takes longer than you think to get the funding you need. That is why we encourage you to find out what your options are now so you can be ready to take advantage of them if/when you need funding!
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Alternative Lenders – any small business lender that isn't associated with a traditional bank such as a bank or credit union.
Annual Percentage Rate – a rate that reflects the total cost of borrowing a loan. This includes the interest rate, origination fees, and any additional financing charges.
Asset – a resource with economic value that is expected to provide future benefit for the owner.
Balloon Payment – a large payment due at the end of a balloon loan, such as a mortgage or commercial loan.
Capital – wealth in the form of money or assets that can be used by an individual or organization for economic benefit.
Cash Flow – the net amount of cash and cash-equivalents being moved into and out of a business.
Collateral – an asset used by borrower to secure a loan. If the loan is defaulted the lender is able to claim the asset.
Credit – the ability of a customer to obtain goods or services before payment, based on the trust that payment will be made in the future.
Credit Score – a number that determines an individual’s creditworthiness. This number is based on the individual’s credit history.
Crowdfunding – a site that allows crowds of people donate a specific amount of money for a cause or project.
Debt – an amount of money borrowed by one party from another. The borrower is expected to pay back the amount borrowed at a later date, usually with interest.
Down Payment – a payment made at the initial purchase an expensive good or service. This payment represents a percentage of the full-cost and is usually non-refundable.
Equipment Lease – obtaining use of machinery or equipment by renting it. The equipment is often owned by a leasing company or financial institution.
Equity – A stock or any other security representing the ownership stake in a company.
Factor Rate – an alternative method of presenting the amount of interest charged on a loan or lease. This rate is usually represented in decimals instead of a percentage.
Fixed Rate – a rate that remains constant throughout the duration of the loan.
Personal Guarantee – an individual’s legal promise to be personally responsible if a business becomes unable to repay a debt.
Hard Credit Check – a type of credit information request that includes a borrower’s full credit report and has a negative effect on a borrower’s credit score.
Interest – is the amount charged by lender to a borrower for using their assets. This amount is usually expressed as a percentage of the principal.
Invoice Factoring – a method of financing where a business sells its invoices to a factor company at a discount.
Leverage – the amount of debt a company uses to finance assets.
Lien – a lender's claim against a collateral asset if the borrower is unable to repay their debt.
Line of Credit – a method of financing that gives small business owners access to a pool of funds whenever needed. When the funds have been used, interest is charged on the outstanding balance. After the balance is repaid, the line of credit reverts to its original balance.
Loan-To-Value (LTV) Ratio – the ratio of outstanding debt to the value of the collateral for the loan. Lenders will determine a maximum ratio they are willing to accept based on the value of the collateral.
Marketplace – an online platform that connects borrowers and lenders.
Merchant Cash Advance – a lump-sum advance given to a business in exchange for a percentage of their future credit and/or debit card sales.
Commercial Mortgage – a loan secured by a commercial real estate such as a shopping centre or office building.
Peer-To-Peer (P2P) Lending – a method of debt financing that uses an online platform that connects borrowers and lenders.
Principal – the original sum of money borrowed in a loan or in an investment.
Residual Value – the value of an asset at the end of its lease or at the end of its useful life.
Secured Loan – a loan where the borrower uses their asset as collateral for the loan.
Soft Credit Check – a credit report check that does not affect an individual's credit score. This check can happen when an individual checks their own credit report or a potential employer credit report.
Term Loan – a loan for a fixed amount that is repaid in a series of instalments over a fixed period of time.
Traditional Lenders – a financial institution that provides a range of services to consumers. These include the Canadian Big 5 Banks as well as credit unions and smaller banks.
Unsecured Loan – loans that are approved without the need for collateral. In this case the borrower is approved for the loan based on their credit history and income.
Floating Interest Rate – an interest rate fluctuates over time depending on the market.
Working Capital Loan – a loan that is taken to finance the daily operations of a company, such as accounts payable and wages.
The Lendified team is passionate about helping small businesses and regularly produces free guides and blogs to help you manage, grow, and finance your business. Join our community of thousands of business owners like you who want to take their business to the next level!
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Austin Pantaleo Lendified
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Kevin Clark Co-Founder and President of Lendified