Secured vs. Unsecured Business Loans: More Than Just Collateral

Small business loans come in a variety of forms, offering options for businesses across different industries. Despite the many types available, loans generally fall into two categories: secured or unsecured. One of the main distinctions between them is collateral.

Collateral is an asset—such as property or equipment—that you pledge to guarantee the loan. If you’re unable to repay, the lender can seize the collateral. Because approval for a business loan may put your assets at risk, it’s essential to understand the differences between secured and unsecured loans and how each works.

Key Takeaways

1. Secured business loans require collateral, which can be business or personal assets, to guarantee repayment.
2. Unsecured business loans don’t require collateral, though lenders may ask for a personal guarantee instead.
3. The primary difference between secured and unsecured loans is collateral, but they also differ in requirements, interest rates, and terms.

Understanding the Difference

The key distinction between secured and unsecured business loans is collateral. Secured loans are backed by assets, which often allows lenders to offer more flexible terms and requirements. Unsecured loans, lacking collateral, usually come with stricter conditions.

Secured vs. Unsecured Business Loans

Collateral Requirements

A secured loan is “secured” because the business pledges assets—like property, inventory, or equipment—as a guarantee. If the business fails to repay, the lender can seize these assets. Unsecured loans, by contrast, do not require collateral.

Credit Score

Lenders typically check credit for all business loans, but secured loans are often more flexible with credit requirements. Unsecured loans rely heavily on your credit report—personal, business, or both—so stricter standards usually apply.

Note: Nearly one-third of your credit score is based on how much you owe. Keeping credit utilization at 30% or lower and paying down debts can improve your score and increase your chances of qualifying for a loan.

Interest Rates

Secured loans generally have lower interest rates because they are less risky for lenders. They also may offer longer repayment terms and the ability to borrow larger amounts. Unsecured loans typically carry higher rates because they are not backed by collateral.

Personal Guarantee

A personal guarantee may be required for unsecured loans. This is a commitment from the borrower that personal assets will be used to repay the loan if the business cannot. This makes the individual personally liable for the debt.

Which Loan Is Right for Your Business?

The best choice depends on your business needs and whether you meet the lender’s qualifications. Secured loans can be helpful for new businesses that need funds for operations.

Note: Consider whether the cost of higher interest (for unsecured loans) or pledging collateral (for secured loans) is worthwhile. Secured loans may also benefit those with limited credit history, as lenders are more likely to approve loans backed by guaranteed funds.

An unsecured loan can be a good choice for business owners with strong credit who meet the lender’s requirements. It’s often ideal for those who don’t have collateral or prefer not to use property as security. Unsecured loans generally come with more complex terms, stricter approval requirements, and may require a personal guarantee.

Secured vs. Unsecured Business Loan Example

The right loan often depends on how long your business has been operating and its revenue. For instance, a new business may not qualify for an unsecured loan due to minimum business age or revenue requirements. In such cases, a secured loan may be the only option initially. As your business grows, you may become eligible for unsecured loans.

Note: Research is crucial when seeking a loan. Depending on your preferences, you may find favorable terms with different loan types or alternative lenders that don’t impose strict requirements on business age or revenue.

Frequently Asked Questions (FAQs)

Are most small business loans secured or unsecured?

Most small business loans are secured, either with collateral or a personal guarantee, because lenders aim to reduce risk. While some banks offer unsecured options, these are harder to qualify for. Secured loans are generally more widely available through both traditional banks and alternative lenders.

How do I get a secured or unsecured business loan?

Applying for either type of loan is similar. Both usually require an application with identification, personal details, contact information, a credit check, and financial documents like statements or business plans. Secured loans require information about collateral, while unsecured loans may require more financial documentation to demonstrate business viability.

Can I get an unsecured loan to open a franchise location?

Unsecured loans often have stricter requirements, such as higher revenue and credit score standards. However, businesses that are expanding and already established may qualify more easily. Alternative financing options, like real estate loans, may also be available for launching new franchise locations.

The average interest rate for an unsecured business loan varies widely, typically higher than secured loans, ranging from as low as 2% to as high as 100%, depending on the business's financial health, credit score, and the lender. Unsecured loans are generally more expensive because they carry more risk for the lender.

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