The 4 Types of Short-Term Loans Every Business Owner Should Know

If you’re a business owner who needs to secure financing quickly, you’re likely in need of a short-term business loan.

But with so many different loan options on the market—it can be difficult to know which types of short-term loans are right for your business.

That’s why we’ve created a handy guide to cover the ins and outs of some of the most popular types of short-term loans. Below, we’ve outlined what you need to know about these popular types of loans, to hopefully help make the process just a little bit easier.

What Do All Types of Short-Term Loans Have in Common?

Though short-term loans typically fund quickly, their name actually refers to how quickly they’re paid off, rather than their funding speed. Generally, short-term loans will reach maturity—or will be paid off in full, plus interest—in about 6 to 18 months.

When you get into loans with repayment terms over that, they’re typically considered medium- or even long-term loans. In fact, your non-short-term loan options can come with repayment terms anywhere from just over a year to 25 years.

Even more, some types of short-term loans won’t even come with a designated repayment term—you’ll just have to pay a sum every day until your loan it paid off, which will likely be repaid within the year, due to the frequency of your payments.

Other than their similarity of having a repayment term—whether designated or simply assumed—of a year or less, short-term loans can come in all shapes and sizes.

But more on that later—right now, we’ll cover some more general information so you can get an idea of what most types of short-term loans can offer your business.

What Are the General Perks of Short-Term Loans?

With all that said, no matter what their shape or size, the fact that all short-term loans come with short repayment terms definitely has its repercussions. Some are good, and some are bad, but it’s helpful to consider them generally before diving into the intricacies of the different types of short-term loans.

First, let’s take a moment to look at the general perks of short-term loans:

Low Cost of Capital

The first, and arguably the most notable, perk of funding with a short-term loan is that, relative to longer-term options, their cost of capital is generally much lower.

It makes sense if you think about it—even at higher interest rates, short-term loans accumulate interest for a shorter period of time while you repay them. As such, they’ll typically accumulate less total interest.

You’ll often come across short-term financing with its costs expressed as a factor rate, which is a decimal number that, when multiplied by your loan amount, will tell you how much your short-term loan will cost overall. That’s because an APR, also known as annual percentage rate, which is based on how much a loan costs per year—would make your short-term loan, which again is typically paid off within 18 months, seem exorbitant.

A factor rate generally falls between 1.14 and 1.18, so let’s say you’ve signed on to a short-term loan of 1.15. If you apply that to an example short-term loan of $1,000, you’ll just have to multiply 1.15 by $1,000 to see that this loan will ultimately cost $1,150 in repayments, with $150 of accumulated interest.

While rates can be very high for short-term loans, this funding option will generally (but not always) end up costing less than a longer-term loan, even if it has a particularly low rate.

Quick Time to Funding

Even more, most types of short-term loans will typically get you funded way quicker than longer-term funding options.

That’s because the underwriting process on short-term loans is typically a bit less thorough. By and large, the longer the repayment term on a loan, the riskier it is for the lender. In contrast, the shorter the repayment term on a loan, the less risky it is for the lender.

As a result, the application process is much less comprehensive and paperwork heavy with most types of short-term loans. Even more practically for the borrower, short-term loans tend to go through much quicker because of this.

Easier to Qualify For

Another perk to the less-risky nature of many types of short-term loans? They’re far easier to qualify for. In fact, this is one of the biggest draws for short-term financing. No matter how affordable or convenient longer-term loans are, they’re of no help to your small business if you can’t qualify for them.

While every short-term lender has different minimum requirements for borrowers, if you and your business can check off the following two boxes, you’ll typically be able to access some type of short-term loans:

• At least six months in business
• $50,000 in annual revenue

Generally speaking, the accessibility that short-term loans offer can be the main draw that brings business owners to fund with them.

What Are the General Downsides of Short-Term Loans?

With all of those perks of most types of short-term loans established, it’s time to dig into some of the less-desirable features that short-term loans come with.

Though their shorter repayment term length makes many types of short-term loans ideal when it comes to cost of capital, funding speed, and accessibility, these shorter repayment term lengths also carry their fair share of disadvantages.

Let’s take a moment of due diligence to cover some of the less-than-ideal features that many types of short-term loans come with:

Smaller Loan Amounts

Generally speaking, most types of short-term loans are smaller than loans with longer repayment terms. This is mostly because it’s often just not possible for a business to pay off a larger loan within a shorter repayment term.

By keeping a short-term loan on the smaller side, lenders make sure that you’re not saddled with condensed, unaffordable payments that you have to make on a weekly, or even daily, basis.

That said, if you need a large amount of funding, you’ll probably need to seek longer-term financing options, because short-term loans are often unable to fund small businesses with huge sums of borrowed money.

More Frequent Payments

This downside is a big one—because your short-term loan will have to be repaid in a shorter amount of time, you’ll have to make more frequent scheduled payments. That means that you’ll be repaying your short-term loan on a weekly or often even a daily basis.

This can be a serious chokehold on your business’s day-to-day cash flow. With a weekly or daily obligation to repay your lender, you will have to make some serious adjustments to your business’s budget.

Higher Payments

Similarly, with most types of short-term loans, you’ll have to make much higher payments.

This means that even with more frequent payments, you might still have to make large payments toward paying off your loan in order to be on schedule to pay it off within its short term.

This could end up costing you thousands more every month than a longer-term loan option of the same size.

The 4 Types of Short-Term Loans Every Business Owner Should Know

With all of the general information on short-term loans, it’s time to dive into the details.

To get a closer look at your short-term loan options, we’ve broken them down into the four main types of short-term loans.

Let’s take a look at what these short-term funding options can offer your business:

#1. Merchant Cash Advances

The first type of short-term loan on our list isn’t actually a loan—it’s an advance. That said, a merchant cash advance is when a lender purchases your business’s future credit card sales, so it essentially fulfills the same purpose as a short-term loan.

This type of short-term loan is one of the most widespread, accessible types of business funding. However, it’s often the most expensive type of short-term loan, as well.

Merchant cash advances are repaid through your credit card point of purchase technology—whether it’s a tablet plug-in or a straightforward credit card machine. Your lender will intercept a daily percentage of your business’s credit card revenues before they even reach your business’s accounts. This will happen every day your business has credit card transactions until your merchant cash advance is paid off in full.

That’s the general idea of how merchant cash advances work, but let’s take a look at the logistics of what this type of short-term loan can offer your business:

The Terms

Merchant cash advances can typically fund small businesses with loan amounts ranging anywhere from $2,500 to $250,000 with factor rates from 1.14 to 1.18.

As a reminder, this funding source won’t come with a predetermined repayment term, but it will still be considered short-term because its daily payments almost always ensure that your merchant cash advance will be paid off relatively quickly. 

The Requirements

To be eligible for a merchant cash advance, you’ll need to come to the table with a few qualifications. If your business fulfills the following minimum requirements, then your chances of qualifying for a merchant cash advance are much better:

• At least one year in business
• 500+ personal credit score
• At least $50,000 in annual revenue

If you and your business do fulfill those requirements, then the next step is to compile the paperwork that will prove that to the lender. To apply for a merchant cash advance, you’ll typically need the following paperwork:

• Driver’s license
• Voided business check
• Bank statements
• Credit score
• Business tax returns
• Credit card processing statements

If you’ve covered all of these requirements, then you’re well on your way to funding your business with a merchant cash advance within a week.

The Pros

To be sure, merchant cash advances come with some pretty attractive perks. If you decide to fund with a merchant cash advance, then you’ll gain access to the following advantages:

• Easy approval process
• Accessible to business owners with lower personal credit
• Allow quick access to funds
• Suitable for a wide range of business purposes
• Daily payment amounts will ebb and flow with business

The Cons

All that said, merchant cash advances certainly come with their fair share of downsides, too. And these downsides can be deal breakers, especially for any small business owners who have another funding option to choose over a merchant cash advance. Let’s take a look:

• Comes with higher fees than a traditional loan
• Allows less flexibility for you to change merchant service providers
• Seriously reduces cash flow with daily deductions of credit card receipts

Though these downsides to merchant cash advances can be summed up in just three bullet points, they can become all-encompassing to a small business stuck with a merchant cash advance.

#2. Lines of Credit

Up next in our list of the four main types of short-term loans is the business line of credit.

This short-term loan option functions much like a business credit card—you’ll receive a credit limit that you can tap into as needed and then repay whatever you spend gradually.

However, this short-term funding option always deals in cash, whereas business credit cards often charge you hefty fees for cash advances. Plus, you’ll often be able to access lower APRs with a business line of credit than with a business credit card. That said, business lines of credit don’t come with the rewards, like cash back or travel miles, that a business credit card can offer you.

However, as you’ll see in the details, a business line of credit is often worth sacrificing the glamorous perks that a business credit card promises. Even more, these two products aren’t mutually exclusive, so spending on both of them could get your business the best of both worlds.

Let’s take a look at what a line of credit has to offer your business:

The Terms

If you decide to get a short-term line of credit for your business, then you’ll gain access to a pretty great package of terms.

Generally speaking, business lines of credit can be anywhere from a $10,000 credit limit to a credit limit of over $1 million. Though medium-term lines of credit with repayment terms longer than a year do exist, your repayment term for a line of credit will almost always range from 6 months to 12 months. Plus, your rates for business lines of credit can range anywhere from 7% to 25%.

So, let’s say you access a line of credit of $100,000 for your business to keep in its back pocket. A month later, your business has an unexpected opportunity to access an unexpected, time-sensitive discount on inventory for, say, $10,000.

With your business line of credit, you’ll be able to secure that discount immediately without having to undergo and wait through another underwriting process. After you access that $10,000, you’ll repay it over your loan’s term as it accumulates interest at its predetermined interest rate. If your line of credit comes with a 12-month term, you’ll pay off that $10,000 plus interest over a year (or sooner).

The Requirements

Funding to keep in your back pocket for a rainy day—the idea of a business line of credit sounds pretty ideal, right?

Luckily, it’s a feasible option for many business owners out there. If you fulfill these following two minimum requirements, your chances of qualifying for a business line of credit are much higher:

• At least 6 months in business
• At least $50,000 in annual revenue

If your business fulfills those qualifications, then your next move is to get your application paperwork together. Most business line of credit applications will require the following documents:

• Driver’s license
• Voided business check
• Bank statements
• Balance sheet
• Profit and loss statements
• Credit score
• Business tax returns
• Personal tax returns

All in all, though business lines of credit generally have pretty lax minimum requirements, they typically require a bit more paperwork than most types of short-term loans. However, if you’re quick about compiling this paperwork, you can get funded with a business line of credit in as little as one business day.

The Pros

Now that we’ve covered all of the details, let’s take a moment to zoom out and see what all of these details actually mean for your business. First, let’s look at the advantages of having a line of credit for your business. If you decide to fund with this kind of short-term loan, then you’ll gain the following advantages:

• You’ll only have to pay interest on what you end up spending
• Capital can be tapped into at any time
• Available to business owners with lower personal credit
• A great way to build credit
• Suitable for a wide range of business expenses

The Cons

Though they do come with more than a few perks, business lines of credit do come with their own disadvantages just like any other source of funding.

As such, it’s crucial to note that business lines of credit will carry these three downsides:

• High rates for lower credit scores
• Might require collateral
• You might have to submit updated paperwork every time you draw from your line of credit
• You might have to pay a draw fee whenever you need to draw from your line of credit

#3. Invoice Financing

Next up on the list of the four main types of short-term loans is invoice financing.

This type of short-term loan serves to provide a solution to a very specific financial conundrum—a cash flow stifled by outstanding invoices.

Through invoice financing, a lender will advance you a percentage—sometimes as high as 90%—of your outstanding invoice’s worth. Based on how many weeks your invoice is outstanding when you get funded, your advance will accumulate interest at a relatively low rate.

After your customer fulfills your invoice, your lender will intercept the remaining percentage of your invoice, subtract and claim the interest that you accumulated, and then return the rest of the invoice’s worth to your business.

Because your outstanding invoice will act as a form of collateral, this kind of short-term loan is one of the most affordable and the easiest to get of all your short-term options.

Let’s take a look at the details:

The Terms

Through invoice financing, you’ll be able to get an advance worth 50% to 90% of your total invoice amount. Depending on how long your invoice will be outstanding, you’ll likely pay interest rates around 3% plus 1% or so for every week that your invoice is outstanding.

As for the term length, that will also rely on the nature of your invoice. Essentially, your term length will be the same amount of time that your invoice is outstanding, so invoice financing is by no means strictly short-term funding.

That said, because your interest rate will go up with every week that your invoice is outstanding, invoice financing does work best for small businesses if it’s over a short term. Otherwise, a longer-term invoice financing options could become one of the more expensive funding options.

The Requirements

Because invoice financing is a form of self-secured loan, its minimum requirements will relatively lax, even for a short-term loan. As for qualifications that you and your business need to come to the table with, you’ll just need:

• At least 6 months in business
• At least $50,000 in revenue

If you’re eligible for invoice financing, and it sounds like just what your business needs, you’ll need to get these documents together to apply:

• Driver’s license
• Voided business check
• Bank statements
• Credit score
• Outstanding invoices

If you’re able to get those together quickly, then you could get an advance for your outstanding invoices in as little as one business day.

The Pros

There are three salient perks to funding with invoice financing:

• Invoices will serve as collateral, so you won’t have to put up any other assets.
• Your rates and approval will be based on the credit of the invoiced business.
• You’ll gain access to an invoice’s value right away, rather than having to patiently await it.

The Cons

Sounds pretty nice, huh? Well, just like any other source of funding, invoice financing carries a few downsides that you need to be aware of before you decide to fund with this product:

• Invoice financing can have higher fees than traditional financing.
• Your fees will be based on how long your invoice has to be paid off, so longer-term is more expensive.

Generally speaking, if you fit the bill for invoice financing, it’s one of the very best types of short-term loans out there.

#4. Short-Term Loans

The last—but certainly not least—of the four main types of short-term loans is, well, the short-term loan.

As its name suggests, the short-term loan is the most straightforward of your short-term loan options. This loan type functions like a condensed version a traditional term loan—your business will receive a lump sum of cash that it will pay off, plus interest, according to a predetermined payment schedule over a predetermined term.

However, you’ll have to pay off short-term loans much quicker than a traditional term loan. As such, they’re often less manageable in the context of payment frequency and amount, with high weekly or daily payments. That said, short-term loans are often one of the most affordable options of all the types of short-term loans available to small business owners.

Let’s take a look at all they can offer small businesses who need funding quick:

The Terms

Short-term loans can typically offer some of the largest loans amounts and the lowest APRs of all the types of short-term loans available to small business owners.

With loan sizes that usually range from $2,500 to $250,000 and interest rates starting at 10%, short-term loans can offer terms that might even compete with what a traditional term can offer.

That said, by definition, short-term loans will always come with shorter repayment terms. Usually, a short-term loan will carry a repayment term of 3 to 18 months.

The Requirements

Just like all other types of short-term loans, you’ll need to fulfill some minimum requirements to be eligible for this funding option. Before you decide to apply for a short-term loan, make sure you and your business have these qualifications under your belt:

• At least 1 year in business
• 550+ personal credit score
• At least $50,000 in annual revenue

If you do have these minimum requirements covered, then you’ll still need to compile a stack of the following documents in order to move forward in applying for a short-term loan:

• Driver’s license
• Voided business check
• Proof of ownership
• Bank statements
• Credit score
• Personal tax returns

If you’re quick about gathering these documents, then you can fund your business with a short-term loan in as little as one business day.

The Pros

Short-term loans certainly come with their own advantages, especially relative to other short-term funding options.

Let’s take a look at what exactly is so great about this source of short-term funding:

• Set payment structure
• Require limited paperwork
• Quick funding
• Available to small business owners with lower personal credit scores
• Suitable for a wide range of business expenses

The Cons

Just like all other types of short-term loans, though, short-term loans can come with some deal-breaking downsides. As you’ll see, these downsides are pretty much those of short-term funding generally, though:

• Their annual costs are higher than those of longer-term funding options.
• More frequent payments that they come with can be difficult for businesses with sporadic revenue.

All in all, if you’re not specifically looking for one of the other types of short-term loans, then this straightforward short-term loan could be your very best option for fast funding with a low total cost.

The Bottom Line for All Types of Short-Term Loans

Does one of the four types of short-term loans sound like exactly what your business needs?

Though a small business loan might seem like it will always entail mountains of paperwork and weeks of waiting, most types of short-term loans can get your business funded in under a week, if not a day.

You’ve already done the most difficult part—getting all of the necessary information on your options—through reading this article. The next step is easy, just apply, and you’ll be well on your way to getting the funding your business needs to grow.

Need funding ASAP? Consider a small business credit card.

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