Once one has decided to go for start-up business loans, the next natural question is whether to go for a secured loan or an unsecured business funding. This is relevant because of the difference in asset treatment.
A Secured loan is wherein a lender offers a loan amount against the backing of a collateral asset. In the event of non-payment of principal or interest component, the lender can liquidate the asset to recover the dues. On the other hand, an Unsecured loan does not involve any pledge of collateral. Thus, in the event of a loan default, the business assets are protected. Now we shall look at the differences between secured and unsecured business loans:
Ease of obtaining a loan:
Banks are willing to lend a Secured loan as the bank’s lending risk is considerably reduced due to the underlying asset backing the loan. However, a secured loan involves extensive processing time and documentation as the asset needs to be valued by a competent expert valuer.
In comparison, an unsecured loan withcollateral-freeoption is processed and disbursed promptly. Also, fintech lenders have enabled paperless process with online uploading of documents.
For SME’s quick funds, to meet their working capital needs, a collateral free loan would be the best option.
A secured loan offers relatively higher loan amount, but it needs asset backing of 100% or above for loan sanction. Plus, it also involves extensive documentation. However, for SMEs that need small funds infusion at regular intervals, an unsecured business loan would work better.
Given larger loan size, secured loans generally have a longer repayment tenure in comparison to an unsecured loan which is for a shorter duration. Thus, an unsecured loan, being a short-term debt can be repaid and the borrower can avail another loan. This would ease the pressure on the profitability, instead of holding a prolonged debt in the books.
A Secured loan, given its asset mortgage condition, takes a much longer time to be processed. Plus, there a lot of legal formalities and valuation requirements that has to be complied with. Unsecured loans are a quick option to obtain business loans.
A secured loan involves higher administrative costs as compared to unsecured business loans. In many cases, the loan amount sanctioned is significantly reduced after deduction of multiple charges in case of a secured loan.
Unsecured loans are collateral free and the loan eligibility, in this case, is determined upon the business performance. However, in a secured loan, the loan amount is restricted to a certain percent of the pledged asset.
In conclusion, the principle difference between secured and unsecured loans lies in the underlying asset. Thus, for a small business with a limited asset base, an unsecured loan is the better option.
For a business, keen to obtain a small amount of external financing and a short term option, without the hassles of providing collateral, an unsecured business loan from a fintech lender will be suitable.