Getting a business loan can be a great way to help your company scale and grow to the next level. But your choice of financing option can make or break your growth trajectory, so understanding the available alternatives is crucial before you sign on the dotted line. 

One simple way of distinguishing between loan products is to confirm whether the lending is secured. It’s common to hear lenders mentioning “security” within their terms and products. But while this is a simple concept, it’s a vital consideration for all forms of business finance.

The main difference between the two is that you must pledge collateral when seeking a secured loan, but not with the unsecured option. The latter is issued based purely on your ability to repay. 

So if you default, your lender may sue for the amount. Since they don’t have liens against any asset in your company, they can’t seize or foreclose on any property to recover their money. Lack of collateral attachment means that lenders bear the risk. This makes the unsecured loans generally more expensive and more difficult to get approved for.

Read on to understand the key elements in the two loan products and their respective upsides and downsides to inform your decision when seeking business funding. 

What’s A Secured Business Loan?

A secured loan is probably the first thing that comes to your mind when thinking of business loans. The financing option uses one or several assets as collateral. These offer a layer of security against which the provider can retrieve the losses in case you default. 

The lender faces a lower risk since you’ll provide security, so the terms for this loan type are usually more favorable to you, the borrower. This may include lower interests, larger loan amounts, and the possibility of more extensive repayment terms. 

Pros Of A Secured Loan

• Lower interest rates – Collateral is a requirement for secured loans, so the lender has fewer risks. As a result, they’ll generally charge much lower interest rates. With a great credit history, valuable collateral, and solid income, you’ll have vast options to choose from.
• Larger loans – Lower interest rates also come with larger secured loan amounts. It all narrows down to the diminished risk thanks to collateral. 
• Better terms – With a secured loan, expect a longer repayment period. Real estate loans, for instance, will often allow you to repay for more than 30 years, which makes sense because the property value will generally appreciate over time and the lender sees it as a safer loan. 
• Opportunity to build credit – When you repay the secured loan full amount on the agreed time, your company’s credit rating will improve. As a result, you’ll enjoy better terms next time you borrow. 

Cons of a Secured Loan

• Potential asset loss in the case of default – The most evident downside of secured financing options is the risk of losing your possession. The lender can seize the property once you stop paying, regardless of your ownership duration or initial payments.
• Credit damage in default – Just like any loan, failing to pay on time can lead to defaulting, which can substantially harm your credit rating and future borrowing opportunities.  
• Asset limitations – Startups and growing entities without significant assets may find it hard to access secured loans. 

Common examples of secured loans include construction loans, mortgages, and auto loans. 

What’s An Unsecured Business Loan?

Unsecured loans are debts that aren’t secured by underlying assets. Their approval is based purely on your creditworthiness, but they often come with heavy personal guarantees for anyone owning over 20% of the business. This is critical to note – if you sign a business loan with a personal guarantee as an owner and default, it can result in the loss of your house and more.

These loans are relatively costlier and have shorter repayment terms than their secured equivalents. This is because they lack collateral; hence the lender faces larger risks. As such, the option is ideal for those looking for easy-to-access short-term funding that they can repay within a short duration. Notably, only those who meet the qualification criteria can leverage this option.

If you fail to pay, the lender can pursue legal action, hire a collection agency, or even trade the owing debt to a third party. Those requiring a personal guarantee allow the lender to appropriate your possessions if your company defaults on the loan. 

Pros Of An Unsecured Loan

• No collateral requirement – Perhaps the greatest attraction to this product is that you can access the funds without pledging an asset.
• Faster approval – These loans don’t authenticate and evaluate collateral assets, hence saving more time. The loan approval process is generally faster because of this. 
• Better credit history – An unsecured loan can substantially build your credit history. Paying the amount on time can earn your company a great credit score. 
• LOCs (Lines of credit) – Some of these loans offer flexible borrowing and repayment that lets you borrow any amount you need and repay when you can. Although there can be annual fees for access to the LOC, interest only applies to the borrowed amount, not the full amount of the line. 

Cons Of An Unsecured Loan

• Higher interest – From the lender’s perspective, this loan is riskier. As a result, expect higher interest rates. 
• Higher expenses over time – Since they have higher interest, borrowing to repay over the long term means you’ll pay more, making it a less affordable option. 
• Strict qualifications – Qualifying for an unsecured loan is harder. This is because you don’t have collateral to attach, so you must prepare for stricter lending criteria. 

Common examples of unsecured loans include business cash advances, lines of credit and more.

Final Thoughts

Always review all your options and carefully review any agreements when borrowing money for your business – it’s important to have an experienced business law attorney on your side to protect your rights and help your business scale effectively. 

If you’re looking at options to take your business to the next level, the team at Wilson Ratledge is here and ready to help. Fill out our contact form or call us at 919-787-7711 to schedule a consultation today.

As a business grows, so do the tasks and responsibilities necessary to sustain it. It may not be possible for a sole business owner to handle everything on his or her own. He or she must soon delegate certain tasks and responsibilities to someone else by hiring an employee or an independent contractor. Like many important relationships, choosing an employee or independent contractor carries with it financial and legal consequences which the business owner should evaluate before entering into the relationship. 

Employee v. Independent Contractor: What is the difference?

Generally, an employee is someone who works for wages or a salary under the supervision of an employer who provides the training, benefits, and tools for the employee. An independent contractor performs a specified project for a specified price for a client or customer using his or her own training and tools, without the supervision of the client or customer and generally does not receive additional benefits. 

Sometimes, the distinction is not clear. To help provide clarity, the courts and government agencies, like the IRS, focus on the level of control over the employee and the relationship between the parties. For example, if the business owner exhibits significant behavior and financial control over the person providing the services, the person providing the services will likely be considered an employee for tax and other legal purposes. 

Control Over The Work

Behavior control involves directing and controlling the work. This includes providing instructions and supervision over how, when, and where to do the work. The more direction and control the business owner has over these factors the more likely the worker is an employee, not an independent contractor. 

Financial Control

Financial control involves the business aspect of the work, not just the mechanics of how the work is performed. An independent contractor has more of a significant investment in the work, is usually responsible for his or her own expenses, and realizes a profit or loss from the work, instead of receiving a salary or hourly wage.

Consider the checker at the local grocery store versus the handyman hired to fix a kitchen cabinet door. The handyman likely bought the tools to do the job, paid for the ad in the local newspaper or the internet, will realize the profit or loss from the job, and will have to remit the taxes on the amount received. The checker, on the other hand, likely did not invest in the equipment or training used to do the job and will receive a wage after the employer deducts the taxes. The amount of revenue the grocery store generated during the pay period will not impact the amount the checker receives. 

Relationship Between the Parties

How the parties view their relationship is another factor to determine what kind of relationship exists. For example, does the worker view the recipient of the services as an employer or a client? Does the business provide benefits to the worker, such as paid leave and health insurance? A written contact may help clarify the parties’ understanding of the relationship but may not be dispositive if the other factors described above portray a different kind of relationship. 

Why does it matter?

The distinction between an employee and an independent contractor carries important legal and financial responsibilities for the parties. For example, an employer is responsible for paying payroll taxes, workers’ compensation insurance, must pay the worker overtime if the worker works more than a certain amount, and may be responsible for providing certain benefits.

An independent contractor obtains his or her own insurance and is responsible for remitting his or her taxes, instead of having them deducted from the payment received from the recipient of the services. An independent contractor also does not get paid more if he or she ends up working more to complete the task unless the parties have agreed to it. 

Which should you choose?

The answer to this question depends on the size of your business and the type of services you need. You may want to hire an employee if the person will be part of the ongoing operations of the business, the work is indispensable to the business, and your business is large enough to shoulder the regulatory and tax burdens associated with an employment relationship. On the other hand, it is better to hire an independent contractor if you only need periodic help with a project involving a specialized skill. 

To illustrate this, let’s take a look at Tim, a former mechanical engineer who opened a florist shop called Dogwood Bloom, LLC in Asheville, North Carolina. During the first few months of the business, Tim handled everything himself – selecting the flowers, creating the arrangements, and handling the sales. However, now that business is growing, he needs help running the store and making deliveries. In this scenario, Tim would probably hire an employee because the skillset, (creating the arrangements, cleaning the store, making deliveries, and processing sales), will be part of the ongoing business operations. Tim will train the worker, supervise him or her, provide the equipment for the job, and pay the person a wage. The person will also have a set schedule at the florist shop. 

Now that Tim has hired an employee, he has time to strategize on how to grow the business. He realizes his weekly ad in the newspaper and word-of-mouth are not sufficient to attract new customers. He decides to hire a digital marketer to create exposure on the internet through social media and search engine optimization. Tim pays the digital marketer a set rate to generate ten social media posts a week and an additional fee to revamp Tim’s website. Tim does not provide the equipment for the digital marketer or any training or supervision. The digital marketer simply delivers the agreed-upon content at an agreed-upon date. In this scenario, the digital marketer would be an independent contractor. 

Consult An Experienced Business Law Attorney

The line between an employee and an independent contractor can be blurry sometimes. One of our experienced employment law attorneys at Wilson Ratledge can bring clarity and assist you with structuring the relationship in a legal way to help foster the long-term success and growth of your business. Call us today at 919-787-7711 or fill out our online contact form to schedule a consultation!