How Much Does an Unsecured Business Loan Cost?

The main points

Unsecured business loans do not require collateral.

Interest rates and fees affect how much an unsecured loan costs.

If the lender does not charge penalties for prepayment, paying extra each month can save on borrowing costs.

When you get an unsecured business loan, you don't need to put up collateral to secure the loan. Because the lender has no assets it can claim if you default on the loan, unsecured business loans tend to cost more than secured business loans. But how much an unsecured loan will cost depends on several factors.

Interest rate

The interest rate is one of the biggest factors affecting the cost of a loan when you get it. Rates are expected to be higher than unsecured loans because the lender takes on more risk by offering an unsecured loan.

The interest rate on an unsecured loan might be simple or compound.

Simple interest is calculated as a percentage of the total loan amount, interest rate, and loan term. For example, if you have a $10,000 loan at 5 percent interest, you will pay a total of $500 in interest on that loan each year. If it takes three years to pay off the loan, you'll pay $1,500 ($500 x 3 years) in interest.

Compound interest is the most common way lenders charge interest. As interest accrues, you pay interest on the principal and interest accrued on the remaining balance.

How it works? Let's say you have a $10,000 loan at 5 percent interest that compounds annually. If the loan duration is five years, the total interest paid will be $1,322.74 throughout the life of the loan. You can use a loan calculator to see for yourself how interest rates compare to different loan amounts.

APR

The Annually Percentage Rate (APR) is the loan's yearly cost. They include interest rates and loan fees and are expressed as an annual percentage rate. Because it paints a more complete picture of the total loan costs, the annual percentage rate appears to be higher than the interest rate.

Factor rates

Factor rate is another way to describe the cost of borrowing. This is usually found with short term business loans or cash advances.

Unlike interest rates, factor rates are expressed in decimal numbers. To find the total payment amount at a calculated rate, multiply the loan amount by the calculated rate:

Loan Amount x Factor Rate = Total Repayment Amount

So, if the loan has a factor rate of 1.2 and the loan is for $10,000, you'll pay a total of $12,000 ($10,000 x 1.2 = $12,000), not counting any additional fees.

You should convert the factor rate to the annual interest rate to compare different loans and to get an idea of how factors of production rate loans compare to the interest rate or annual interest rate.

Fees

When looking for an unsecured business loan, you will also want to consider the fees for business loans, as these fees will vary by lender. Here are some examples of frequent fees:

Annual Fee: Some lenders charge business lines of credit a fee each year to keep them active.

Application Fee: This fee may be charged to you for submitting a loan application.

Closing costs: Commercial mortgages often come with closing costs (similar to mortgages). These may include attorney fees, appraisal fees, credit report fees, and more.

Withdrawal fees: Some merchant lines of credit charge this fee when you withdraw money from your account.

Late Payment Fee: If you pay later than the due date, you may be charged a penalty fee.

Maintenance Fee: A company line of credit, like an annual fee, may be imposed a maintenance cost to keep it alive. This fee might be collected on a monthly or annual basis.

Insufficient Funds Fee: If a lender tries to withdraw money to pay you and you don't have the full payment amount in your account, they may charge you an NSF fee.

Origination fee: Usually charged as a percentage of the loan amount, lenders charge an origination fee when the loan is initially obtained. Fees are typically 0.5% to 5% of the loan amount, however certain lenders may charge up to 8% or more.

Prepayment Penalty: Some lenders charge this fee if you pay off your loan early.

Underwriting fee: The lender performs an underwriting process to determine the amount to lend to you and your interest rate. This processing fee may be included in the creation fee, but may also be charged as a separate fee.

Payment Terms

Every loan comes with repayment terms i.e. the period for which you have to repay the loan. If you pay the required amount for each monthly payment, you will repay your loan within the agreed repayment terms.

Paying off the extra money each month can be beneficial as it can help you pay off your debts sooner and save money. Because of the interest multiples, the more money you pay off early, the less interest you'll pay unless the lender imposes a prepayment penalty.

Other factors affecting the cost of an unsecured business loan

Getting the right interest rate and loan terms requires that you have certain factors working in your favor. Your credit score, time in business, and the income you bring in are important factors that help determine what lenders offer you. The higher any or all of these numbers, the better your interest rates and terms, and the lower your business loan costs.

If you have bad credit, there are bad credit business loan options. But you should expect higher interest rates. This means that your business loan will be more expensive.

Unsecured business loan alternatives

Before choosing an unsecured business loan, explore these alternatives to determine which one is more affordable and best suited to your business needs.

Secured Business Loans: These loans require collateral. If a borrower defaults on a loan, the lender legally claims the assets to try to recover the money borrowed. Lenders are able to offer better rates and lower fees because of the lower risks with these types of loans, which means they can be less expensive than unsecured loans.

Grants: Often designed to support communities, a business grant is a great option if you're trying to keep the cost of borrowing low because no payments are required. Grants can be found in many places, including nonprofit organizations and government agencies, but this funding option can be competitive.

Business credit cards: These cards provide flexible financing and rewards, but may have higher interest rates than unsecured business loans. However, its benefits, such as cashback or travel points, can offset the total cost of borrowing and improve businesses with diverse financial needs throughout the life of the business.

Bottom Line

Unsecured business loans are the best way to help you run your business. But consider all the associated costs and a plan to help you manage your debt successfully.