Short-Term Financing: A Guide for Small Businesses

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Short-term financing provides funds to small and medium-sized businesses (SMBs) so they can capitalize on opportunities or address pressing challenges. It can come in many forms, including term loans, trade credits, and other sources of funding with a repayment period of one to two years.

In situations like these, short-term financing can be the lifeline that helps SMBs weather the storm.

Here’s what you need to know about using short-term business funding, and how business owners can use it to their advantage.

What is Short-Term Financing?

Short-term business funding involves obtaining funds to meet immediate financial needs and obligations within a relatively short time frame, typically a year or less. It’s also known as working capital financing because the funding is used to meet short-term gaps created by seasonal fluctuations or to take advantage of new market opportunities.

Compared to other types of funding, short-term financing has a shorter repayment period of just one to two years, compared to a three to 20-year repayment period for medium and long-term financing. Short-term financing also typically has lower funding amounts compared to longer-term financing.

They can originate from providers like commercial banks, credit unions, or alternative loans, and either be unsecured loans or secured loans.

How Can I Use a Short-Term Business Loan?

You can use short-term small business loans in a variety of ways. Here are some of the most common:

• Cash Flow Management

Small businesses often grapple with unpredictable cash flows. Short-term financing acts as a financial cushion, ensuring they can meet immediate financial commitments, such as supplier payments and day-to-day operational expenses.

• Addressing Seasonal Variations

Many businesses and startups experience fluctuations in demand throughout the year. Short-term sources of finance help them prepare for seasonal peaks and valleys in sales.

• Quick Responses to Challenges

Unexpected challenges are part and parcel of the business landscape. Economic downturns, supply chain disruptions, and unforeseen crises can strike at any time. With the various short-term business financing options available, you can respond promptly to these challenges, weather storms and emerge stronger.

Common Sources of Short-Term Financing

Short-term business financing can come in many different forms. Below are some of the most common:

• Trade Credit

A trade credit is an agreement between a business and suppliers to buy goods or services on credit, often with terms like “net 30 days.” It provides companies with a short-term financing option, giving them time to get supplies on a slightly delayed payment.

• Working Capital Financing

Working capital financing is designed to cover everyday expenses and address immediate financial needs. They provide quick access to cash, which can be used for daily operations, growth initiatives, or unexpected costs.

• Invoice Factoring

Invoice factoring involves selling unpaid invoices to a third-party company at a discount in exchange for immediate cash. This way, businesses get cash quickly instead of waiting for payments, which can help maintain a healthy cash flow.

• Business Line of Credit

Business lines of credit work like credit cards where you can draw on the credit line, and only pay interest on what you use. This can be a helpful resource when you need access to capital, but may not know exactly how much you need or for how long you need capital for.

• Short-Term Business Loans

These quick small business loans provide a lump sum of money with a shorter repayment term, typically less than a year. They are handy for one-time expenses or opportunities that require quick financial support.

Tips for Choosing the Right Financing Option

There are ample financing options available when it comes to short-term business loans. Here are a few key points to remember when comparing short-term financing options.

• Consider the Term

Short-term financing typically involves repayment within a year or less. Be clear about the timeline that suits your business’s financial objectives. A shorter term might be more suitable for immediate needs, while long-term is better for larger projects or initiatives.

• Risk Tolerance

Consider your risk tolerance. Some financing options, like short-term loans, might carry higher interest rates but offer predictability in terms of repayment. Others, like invoice factoring, involve selling assets (invoices) at a discount but offer a more predictable cash flow.

• Creditworthiness

Lenders will evaluate your creditworthiness. This will include looking at your credit score and financial records to determine eligibility.

• Plan for Repayment

Ensure that you have a clear plan for making monthly payments without compromising your business’s financial health.

Final Thoughts

Short-term financing is one type of loan, among many options, that can be a great financial help for small businesses in a crunch. The application process can sometimes be short if the financial institution or lender is able to underwrite quickly.

However, be mindful that these loans can come with high interest rates as the lender has less of an opportunity to make a return on the loan.

FAQs About Short-Term Financing

What is short-term financing?

Short-term loan financing refers to borrowing money for less than a year. These business loans may come with higher interest rates compared to long-term loans.

What are the advantages of short-term financing?

Short-term financing can sometimes come with quicker access to funds, and lower overall interest costs due to the shorter repayment period.

What is the most popular form of short-term financing?

A popular form of short-term financing is a business line of credit. This gives business operators flexible access to funds as needed, up to a pre-approved limit. Cash advances can also work during a financial crunch.

How does a short-term business loan work?

A short-term business loan is a type of financing that gives a specified loan amount to a business owner, with the intent to pay it back within a short period of time. This is ideal for unexpected expenses or a short term opportunity where you’re confident you can pay the loan back.

Is short-term business financing the right move for your business?

Short-term financing can be a great financing solution for small businesses that need immediate liquidity. However, small business loans come in many forms as each business need varies widely.

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