The rapid evolution of the digital economy requires the rapid procurement of funds in every small-business bank. Whether you need them for an emergency payroll, to cover day-to-day expenses, or to manage a temporary cash-flow shortfall, the choice of loan can go a long way in determining the stability of your business. When evaluating options, the most compared financial tools are payroll loan vs personal loan, as both serve different purposes for small-business owners.
But which one is meant for you? This article will look into the key differences between a payroll loan and a personal loan, with interest rates, terms of payment, and eligibility criteria being some of the considerations so that you can arrive at an informed decision for your business.
A payroll loan is another term for urgent financing that helps companies pay employee wages when they lack cash against tight cash flow. This loan ensures payrolls are met on time without hampering operations and in doing so, retains employee goodwill. This is especially useful for small businesses that deal with seasonal variations or unpredictable revenue streams.
This can also be considered a type of payroll advance loan whereby the proceeds are used solely to meet payroll-related expenses, such as benefits or tax withholdings. While it is not intended to be a long-term solution, a payroll loan will definitely sort out short-term liquidity issues.
Pretty much personal loans are unsecured borrowings by an individual and can be for almost any use, personal or business. Unlike payroll, with a personal loan you are not asked to justify the purposes for which the loan is used by the client. This can be an advantage if a business owner requires more flexibility or may not even qualify for formal business funding.
Nonetheless, note that the determination of a personal loan depends upon an individual’s creditworthiness and income and is not based on the business’s workings or its financial status. So, a personal loan would probably not be the most fitting method to take care of payroll for your small business.
Interest rates can determine between a payroll loan and a personal loan.
Payroll loan interest rates, because they are short-term and perceived as high risk, are usually higher than conventional financing. Depending on lender flexibility, business health, and the period concerned, it can vary anywhere between 10% to 40% APR or more. Lenders, who traditionally value speed, may price that to alkalize inconvenience faced quickly.
Usually, personal loans with a strong credit profile get more competitive rates from 6%-25%. With good personal credit and steady income, the rates you would qualify for might be even less than the typical payroll loan. But for those who do not have a perfect credit history, these rates can climb fast, thus narrowing that gap!
Most payroll loans come with a very short repayment period, with a range of two weeks to six months. Because of the short duration, repayments may be quite frequent, often weekly or even daily, harming the borrower’s funds from hand to mouth. It works if an expected revenue is coming in soon but it becomes risky when revenues are inconsistent.
Personal loans give a wider time window for repayments, normally ranging between one and five years. This allows for lower monthly payments, but when incomes are less predictable, it becomes a bit of an advantage. This longer period is more of a relief to a new business.
A payroll loan is usually dependent on the business’s cash flow, time in the business, and its history of payroll. Lenders may ask for proof of past payroll payments and bank statements, along with tax filings. The loan may sometimes be secured against future earnings, especially if it is configured as a payroll advance loan.
Because the disbursements are to be used strictly on payroll charges, lenders can exercise greater leniency over business credit ratings. Consequently, it poses a huge benefit in managing payroll for small businesses under financial stress.
Generally, in order to qualify for a personal loan, the lender looks into the applicant’s personal credit rating, income level, and the ratios of his liabilities to income. Financial records of the business are not always required unless the lender demands they are for the specific business use. This may be fine for sole proprietors, but it may be limiting for registered businesses or corporations.
Also see this article on payroll loans on Forbes! How To Use Payroll Loans
It depends on whether your immediate business needs require one or the other, as well as on its financial health and its revenue expectations. A few final pointers:
If the need is immediate and strictly for payroll, choose a payroll loan. It is quick, easily accessible, and designed to be a short-term bridge to cash flow.
If your credit rating is better and you want a more flexible option that can cater to more business expenses, a personal loan is your choice.
Whichever path you plan to take, comparing offers from a few lenders, reading the fine print, and analysing the total cost of borrowing will do you much good. Evaluating your options in advance may spare you much financial strain later.
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