Personal Loan for Business: What You Should Know

What is a personal loan for business?

A personal loan is financing provided to an individual consumer. It’s generally unsecured, meaning you won’t need to put down collateral, and it’s repaid in fixed monthly installments over a short period of time, typically two to seven years.

Personal loan companies allow you to use a personal loan for almost any purpose, though there are usually some restrictions. For example, you can’t use a personal loan to pay for higher education or to purchase securities. Some companies also don’t let you use a personal loan for business expenses. So, unless a lender explicitly prohibits it, you can use a personal loan to fund your business.

Be aware that, if you use a personal loan to fund your business, you’re putting your personal credit on the line. You’re responsible for repaying the personal loan no matter what happens to your business. If your business can’t afford the loan or it closes, you’ll have to make the payments on your own or risk harming your personal credit.

Personal loans for business vs. business loans

Before taking out a personal loan for business, consider a business loan. A business loan provides financing to companies to pay for business expenses, fund large purchases or even cover short-term working capital needs. Qualifications vary by lender and loan type, though most lenders evaluate a business’s repayment capacity, capital, credit history and collateral when reviewing a loan for approval.

Personal loan considerations

If you’re thinking about using a personal loan for your business, consider the following.

Shorter approval times

You could get approved for a personal loan within a few days. Many lenders use automated approval systems and criteria to evaluate if you meet criteria. Plus, many personal loans are unsecured, so they don’t require collateral. That means you may be able to get approved and funded in a matter of days.

Potentially higher APRs

Personal loan APRs are often higher than business loan APRs. Since most personal loans rely solely on your ability to repay the loan using your own cash flow, these loans are considered riskier than many business loans. You’ll pay a higher APR to compensate the lender for the additional risk.

Personal responsibility

You’re responsible for repaying a personal loan if your business fails. That means you’re putting yourself at greater risk if you fund your business with a personal loan rather than a business loan.

Business loan considerations

If you’re thinking about getting a business loan, keep the following in mind.

Collateral required

Unless the loan is very small, you’ll usually need to provide collateral. Most lenders require you to pledge some or all of the business's assets as collateral for a business loan. The collateral provides the lender additional protection if your business can’t repay the loan.

Potentially higher loan amounts

Since most business loans require collateral, you may be able to borrow more money than you could with a personal loan. Also, since repayment primarily depends on the cash flow the business generates, larger loan amounts are often available, even if there’s no collateral.

Personal guarantee

Most small-business owners are required to provide a personal guarantee. Lenders usually require owners with at least 20% to 25% ownership (or a controlling interest in the business) to personally guarantee they’ll repay the business loan if the business doesn’t. So, expect to provide details about your personal and business finances when you apply.

Potentially lower APR

A business loan’s APR may be lower than a personal loan’s APR. You’ll often get a lower APR on a business loan because the lender can rely on multiple sources of repayment like business cash flow, collateral and personal guarantors. Because of this, business loans are sometimes seen as less risky.

Limited personal liability

Depending on the business loan's terms, your personal liability is sometimes limited on a business loan. For example, unless you’re a co-borrower on the business loan, you may only be required to repay the loan if the business fails to do so and there isn’t enough collateral to pay off the loan balance.

Longer approval times

It’s not unusual for the approval process to take up to 30 days for a business loan, especially if the lender takes collateral or shores up the loan with a government guarantee, such as from the U.S. Small Business Administration (SBA).

When should you use a personal loan for your business?

You might consider using a personal loan for your business when you’ve exhausted all other financing options, you can easily handle the payment and your credit is good enough for a decent APR. You may not qualify for a business loan if your business is a small startup.

Remember, it’s best to separate your business and personal finances. You need to be able to separately identify and track your business and personal expenses so you can see how much money your business makes and spends. You should only get a personal loan for your business if you plan to use it solely for business purposes.

Also, consider how you’ll generate the cash needed to repay the debt.

“Cash flow should consider not only the amount of funds generated, but if the funds generated will match the timing of the required payments,” said J. David Bennett, a certified public accountant (CPA) and founding member of Renaissance CPA Group. “Borrowing from credit cards with a monthly payment could put a company’s continuing operations ability in jeopardy if [the business uses] the loan proceeds for long-term investments.”

For example, if you’re only generating enough cash flow to make the minimum payments on a credit card, you’ll never be able to pay off the principal balance. You will pay more interest in the long run and fall into a debt trap. Generally, short-term debt should be used for short-term expenses, like using a credit card to pay for travel expenses. Long-term debt should be used for long-term expenses, like using a loan to purchase a vehicle.

» MORE: Best startup business loans

How to get a personal loan for business

Getting a personal loan for business purposes generally involves checking your credit, getting prequalified and applying for a loan.

1. Check your credit

Check your credit report and credit score to make sure both are free from any errors. You’ll generally have the best approval odds if you have a good to excellent credit score, or a FICO score of 670 to 850.

2. Get prequalified

Prequalification involves a soft credit check, so there won’t be any impact to your credit score. You’ll be able to see the terms and rates you may qualify for once you apply.

3. Apply for a loan

During the application process, tell the lender upfront that you plan to use personal loan funds for your business so you know for sure if it’s allowed. When reviewing your application for a personal loan, lenders evaluate your credit history, credit score, income and debt-to-income (DTI) ratio.

4. Use your funds

Once the loan is approved and funded, you may use the proceeds to pay for your business expenses. Remember: Don’t mix personal and business funds. Keep them separate.

Alternatives to personal loans for businesses

There are many other business funding options available. Some of the most common are:

Crowdfunding

Crowdfunding raises funds for your business through small investments from a large group of investors. This is a common option for startup companies, since each investor only risks losing a minimal amount of money if the business fails.

Equipment financing

If you need to buy a vehicle or equipment, many lenders have specific equipment financing programs to help you do so quickly. These loans are similar to a personal auto loan in that you pledge the equipment as collateral and pay the loan back over a period matching the equipment’s useful life (such as five years).

Business credit cards

You can get a credit card specifically to pay for routine business expenses, like travel costs, meals, entertainment and fuel. You can give business credit cards to employees, and you can typically place limits on the cards to protect your business from fraud.

Business lines of credit

A business line of credit is an excellent option if you need access to money you can borrow and repay repeatedly. While these loans are sometimes unsecured, you may be required to pledge all business assets or your accounts receivable and inventory as collateral.

Working capital loans

In some situations, you may need financing specifically for your working capital needs, meaning the funds you need to pay your current liabilities and keep your business going. Many lenders offer short-term working capital loans, such as for accounts receivable or inventory you can quickly repay, and long-term permanent working capital loans, such as for operational business expenses you need to repay over a longer period of time.

SBA loans

If your business is small or relatively new and can’t qualify for a business loan, you might be eligible for an SBA loan. With an SBA loan, the Small Business Administration guarantees the lender that it will cover a portion of your loan balance if you don’t repay the loan as agreed.

Bottom line

If you’re struggling to find a way to fund your business, you may be able to use a personal loan to pay for business expenses since some lenders allow you to use a personal loan for almost any purpose. However, using a personal loan for your business can be risky. Even though you got the loan to pay for your business, you’re personally responsible for paying it back. If you don’t repay the loan as agreed, your personal finances and credit score are on the line.

Before turning to a personal loan for business expenses, consider alternative funding sources like crowdfunding, business loans from banks and online lenders, business credit cards, business lines of credit and SBA loans. Consult a trusted business advisor if you’re unsure which financing is right for you.