Going off the name alone, a secured business loan can sound like the less risky option when trying to obtain some additional funding for your company. But it is less of a risk for the lender, as they are sanctioned on the condition that the borrower offers business assets as ‘security’.
Typically, the borrowing business will put forward a company asset such as property, land or equipment. This means the loan is ‘secured’ against one or more of these assets, which the lender can take if a business stops making repayments.
Secured vs unsecured business loans
Secured business loans differ from unsecured business loans, which don’t require any security from the business.
While the prospect of not having to put up any business assets can sound appealing to borrowers, lenders still find ways of protecting their risk.
So, you’ll typically have to pay more interest with unsecured loans. That’s if you manage to access an unsecured loan in the first place. Often, unsecured borrowings are required when the business doesn't have assets to support "secure" positions, or other lenders have already "taken" the secured position (i.e. business assets).
Businesses can generally borrow more with a secured business loan, with some lenders offering up to and above £1 million on a secured basis. Typically, you’ll also have longer to pay back a secured business loan compared to unsecured lending, which makes repayments more manageable, as interest rates are low, and can be suitably budgeted for.
Ultimately, which route to take depends on your risk mindset. Having to potentially give up assets in the case of being unable to keep up with loan repayments might be seen as too much of a risk by some.
What are the different types of ‘security’?
Not all lenders ask for the same thing as security on a secured business loan, but you should expect to pledge assets such as the following:
- Commercial property
- Fittings and fixtures
It's important to bear in mind that the value of your assets must be sufficient for a lender to
justify giving you the loan. Therefore, instead of individual assets, some lenders request the net worth of all assets.
As well as providing business assets as security, you may be asked to give a personal guarantee as additional security for the lender.
What that means is that if a loan is agreed with the condition of a personal guarantee, a failure to meet repayments may leave you personally liable.
If you default on the loan and there isn’t enough value in business assets to cover the debt, the lender can take possession of your home, car and whatever’s in your bank account. If you can call it an asset, it can be recovered by the lender through the personal guarantee.
While the guarantee is usually capped at a certain amount, you need to bear in mind that the sum owed may be substantially more by the time interest and costs have been added. And remember, there’s no termination date for a guarantee and they’re also cumulative.
Credit scores can also be hit, making it difficult for you to rebuild your finances in the future.
Since each lender has a different approach to decision-making, it's worth looking closely at every lender's terms. Consider, however, that if you refuse to provide a personal guarantee, this could reflect badly on your application and intention to pay back the money.
So, regardless of whether you’re a sole trader, partnership, limited company or LLP, be prepared to provide a guarantee such as residential property.
How can you mitigate your risk?
Whenever you take out a secured business loan, you should look at ways in which you can mitigate your risk.
If you’re required to sign a personal guarantee to secure your loan, you should strongly consider taking out insurance to cut the financial loss.
Currently there’s only one insurer offering personal guarantee insurance to small business owners, which can be purchased for an existing guarantee, or as finance is taken out. Cover provides up to 60 per cent of the personal guarantee in year one, rising to 70 per cent in year two to a maximum of 80 per cent in year three, and premiums are based on the individual circumstances of the applicant. Throughout the policy the small business owner also has access to specialist business advisers.
Contact Purbeck Insurance today to find out your cover options.