Comparing secured against unsecured business loans
posted by: Jason Hulott
Here we will examine the typical characteristics of secured versus unsecured business loans.
It’s worth quickly re-visiting the basic foundation stone principle of a Limited Company.
That status essentially means that the company is a separate legally-defined entity.
It is able to enter into contracts and take on debts in its own name. It, rather than its directors and employees, is responsible for its own debts under most circumstances.
You might hear the terms secured and unsecured being used in different loan contexts.
Strictly speaking, any form of loan can be considered to be either secured or unsecured. In what follows though, we will be talking exclusively about business loans to limited companies.
The characteristics of such loans might typically be:
- unsecured loan.
The lender essentially advances the company money based on it undertaking to repay the sum over time.
If the borrowing company fails to do so, for whatever reason, the lender has the choice of either writing-off the loan or trying to pursue legal recovery action in order to get a court to issue a binding order to repay the sum concerned. At that stage, should the borrowing company be unable to do so, the business might be declared insolvent;
- secured loan.
With this type of business finance, the borrowing company would be required to give the lender some form of legal security over something it owned. That would typically be some form of asset entirely owned by the borrowing business.
In the event the borrower failed to repay the loan, the lender would have the legal right to force the seizure and sale of the asset concerned, recovering the sums due to them from the proceeds;
- unsecured loan with (or without) directors’ guarantees.
There is a third form of loan which is technically unsecured in the sense that the borrowing legal entity offers no security against assets. Some – but not all – providers will ask that the company’s directors offer personal guarantees for the sum concerned. This means that in the event of a company being unable to repay the loan, the directors may be legally obliged to do so. At Cubefunder, a personal guarantee is not always required.
What this means in practice
Most lenders wish to focus on the positive outcomes associated with their loans since the majority of business lending concludes to everyone’s satisfaction.
However, lenders have a professional obligation to ensure that they are lending in what’s called a managed-risk fashion. That means they must take into consideration the possibilities of the borrower failing to repay the loan.
All responsible lenders will reserve the right to refuse a business loan if they perceive the risks of default to be unacceptably high. In some situations, they might be willing to offer funds if the loan is supported by appropriate additional personal guarantees (typically from the company’s directors).
Applications for unsecured business loans can be made for any purpose. That might include business expansion, purchasing new equipment, covering short-term cash-flow imbalances and so on.
Just as with any other form of borrowing, the lender will need to be sure that the company’s financial position indicates that it can afford the repayments associated with the sum being borrowed.
Some businesses may have very powerful reasons for preferring unsecured business loans. They might include:
- an understandable reluctance to give a lender some form of legal charge over their own assets;
- they have no substantial assets to offer as security;
- to avoid the potential delays that can sometimes arise when offering assets as security (providing proof of ownership, asset valuations etc.).
To find out more about unsecured business lending, why not get in touch with us today?