Last Updated on January 9, 2024 by Gerry Stewart
Running payroll is one of the most important responsibilities for any small business owner. But when cash flow takes a hit, making those consistent paychecks happen can suddenly become a real challenge.
Find yourself facing a temporary gap in revenue that could potentially disrupt your payroll schedule. Small business loans to cover payrollcosts may be a viable short-term solution.
We’ll explore some key considerations when it comes to small business loans for payroll, including:
- Common causes of cash flow gaps that affect payroll
- Benefits and drawbacks of using loans to cover payroll
- Types of small business loans suitable for payroll
- Tips for comparing lenders and loan products
- Steps involved in the loan application process
- Strategies for managing payroll smoothly
By the end, you’ll have a clearer understanding of how payroll loans work and be better equipped to make the right financing decision for your unique situation.
Key Takeaways on Payroll Loans for Small Business
- Compare loan options including SBA loans, lines of credit, and alternative financing to see which best fits your needs and qualifications.
- Focus on lenders that offer fast access to funds to handle urgent payroll needs.
- Be transparent and thorough during the application process to increase approval chances.
- Implement disciplined payroll management and cash flow practices moving forward.
- Use payroll loans strategically as short-term solutions alongside longer-term financial planning.
Why Do Small Businesses Sometimes Struggle With Payroll?
Cash flow is the lifeblood of any business. When cash gets tight, it can throw everything off balance. Let’s explore some of the most common reasons small businesses can run into cash flow issues:
1. Not Enough Working Capital
Working capital is the ready cash needed to cover day-to-day operating expenses before new revenues come in. If working capital reserves are too low, even a small hiccup in income can mean trouble paying bills.
- Build an emergency fund covering at least 3-6 months of core expenses.
- Ask customers for deposits or faster payment terms.
- Explore working capital loans if more runway is needed.
2. Poor Receivables Management
With late customer payments, you’re effectively floating them on an interest-free loan while waiting for cash. Slow collections drag down cash flow.
- Invoice promptly and follow up on past due accounts.
- Offer discounts for early payment.
- Consider invoice factoring to secure cash faster.
3. Unexpected Expenses
Surprises like emergency repairs, new equipment, or compliance fines can quickly sink cash flow if reserves are inadequate.
- Pads budgets with reserves for incidentals.
- Maintain sufficient insurance coverage.
- Explore financing options for large one-time costs.
4. Rapid Growth
Growth stretches resources. More inventory, people, and marketing spend is often required before revenue fully catches up.
- Cautiously model cash needs for growth milestones.
- Institute longer payment terms with suppliers when possible.
- Consider financing to bridge gaps between growth costs and income.
5. Seasonal Income Cycles
Some businesses have predictable periods of low revenue at certain times annually when expenses can outweigh income.
- Forecast and budget for seasonal dips.
- Build up reserves or line of credit to carry through slow periods.
- Explore ways to diversify or smooth revenue over the year.
6. Inaccurate Financial Data
With poor visibility into cash flow, it’s impossible to make proactive decisions. Garbage in, garbage out.
- Institute strong financial reporting practices.
- Use accounting software and implement robust processes.
- Review financials regularly to spot problems sooner.
With awareness of the causes and some proactive steps, you can mitigate cash flow challenges before payroll and other obligations are impacted.
Why Consider Small Business Loans to Cover Payroll?
Taking on debt is not ideal, but payroll loans do offer some advantages in certain situations:
- Maintain Operations – Keep employees paid and working through dips in revenue.
- Prevent Turnover – Payroll delays lead to unhappy, unproductive staff.
- Meet Legal Obligations – Avoid penalties for late wage payments.
- Build Goodwill – Shows employees you value them, and care about obligations.
- Bridge Gaps – Buys you time until additional funding is secured.
- Avoid Layoffs – Keep trained talent even in downturns.
- Focus on Growth – Alleviate payroll stress so you can build the business.
Of course, loans also come with downsides, such as repayment responsibilities and potential credit score impacts.
But as a temporary bridge during payroll crunches, they can be invaluable for small business continuity.
What Are the Main Types of Payroll Loans for Small Businesses?
If you’ve determined a payroll loan makes sense for your situation, the next step is deciding which type is the best fit. Here are some of the most common small business loan options suitable for covering payroll:
The Small Business Administration offers various loan guarantee programs to help small businesses access funding, including:
- 7(a) Loans – Up to $5 million for general business purposes including payroll.
- Express Loans – Fast approval and funding in as little as 36 hours.
- CDC/504 Loans – For major assets like equipment; slower approval.
- Microloans – Small loans up to $50k from non-profit lenders.
The SBA guarantees a portion of these loans, so requirements and interest rates may be more favorable than conventional loans. But SBA loan applications also tend to be more extensive.
Business Line of Credit
Banks and alternative lenders offer lines of credit that businesses can tap as needed to cover expenses like payroll. Unlike a closed-end loan, you only draw what you need and minimize interest costs. Lines of credit provide flexible access to funds, but you may need strong credit and collateral.
Merchant Cash Advances
These fast financing options essentially provide a lump sum in exchange for a percentage of future sales.
While easy to qualify for, they often have very high effective interest rates and require daily or weekly repayments. Use merchant cash advances cautiously.
With invoice factoring, you sell unpaid invoices to a factoring company for a percentage of their value.
This provides immediate access to cash tied up in outstanding customer invoices so you can cover urgent payroll without taking on debt. But it can be more expensive than loans.
Payroll Funding Companies
Specialized payroll funding providers like ROK Financial offer various products to help businesses meet payroll including business loans, lines of credit, and invoice factoring options with advanced reporting features.
Key Questions to Ask When Comparing Payroll Lenders
To find the best loan or lender for your needs, you’ll want to ask some key questions upfront:
- What are the exact costs? Interest rates, origination fees, penalties for early repayment? Get specifics.
- How quickly can I access funds? Same-day or 2-3 day funding may be needed for urgent payroll.
- What are qualifications? Minimum time in business, revenue, credit score requirements?
- Is collateral required? Unsecured loans involve less risk if you lack assets.
- Are there prepayment penalties? Ideally no, in case you repay early.
- Is the process completely online? Faster and easier for time-crunched business owners.
- Can I borrow again? Revolving credit helps recur cash flow gaps.
- Are there monthly minimums? Ideally not, so you only repay what you use.
- Is patient capital available? Grace periods or slowly ramping payments allow flexibility.
Having clear answers to these questions will help narrow down the lenders most suited for your needs.
Evaluating Your Financing Options: A Sample Comparison Table
To visualize how different loan options stack up, here’s an example comparison table with key factors to consider:
|Extensive docs, 640+ credit
|Business Line of Credit
|650+ credit, 1+ years in business
|Merchant Cash Advance
|>$5k/month credit card volume
|Up to 85% of outstanding invoices
|Credit unimportant, B2B business
This makes it easy to see your options at a glance. Update with your numbers for a personalized view.
Exploring Short-Term Business Loan Options
Short Term Loans
Short term loans can provide quick access to capital for temporary business needs like payroll coverage.
These loans typically have terms of 1 year or less, so the repayment period is condensed. This faster pace can work for short-term cash crunches when a long-term loan may not be necessary.
Just be sure the short repayment period aligns with your projected cash flow.
Online lenders and fintech companies have expanded small business borrowing options.
These alternative lenders use technology to provide faster, more accessible loan services. Online loan applications, data-driven underwriting, and streamlined verification enable funding in days or weeks versus months at traditional banks.
This accelerated timeline makes online lenders ideal for urgent payroll loans.
Comparing Loan Types and Terms
Short Term Business Loans
Short term business loans from online lenders can be structured in different ways. Some are closed-end installment loans with fixed regular payments until maturity.
Others come in the form of revolving lines of credit or merchant cash advances allowing flexible repayment aligned with sales.
Compare options to find the loan type and terms best suited for your payroll needs and cash flow capabilities.
Payroll loans typically have shorter repayment terms ranging from 2 months to 1 year.
A 6-12 month term is common, allowing businesses to bridge cash flow gaps without over-extending.
Make sure potential loan terms align with your projected income and expenses, so you can repay on schedule without defaulting.
Avoid loans with “balloon payments” where one large payment is due at maturity.
Factors Impacting Loan Eligibility and Cost
Lenders will review your annual revenue when assessing a business loan application.
In general, higher gross annual revenue improves your chances of loan approval and may lead to more favorable interest rates.
Underwriters want to see consistent adequate revenue to ensure the ability to handle repayment responsibilities.
Provide accurate, up-to-date revenue documentation during the application process.
Business Credit Scores
Your business credit reports and scores are another key factor considered.
Good business credit increases the perceived reliability and creditworthiness of your company.
If you have not yet established business credit, work on building your profile. Also maintain personal credit health, as this may be considered too.
Options to Improve Cash Flow for Payroll
For service businesses that invoice clients, accelerating invoice payments improves cash flow to cover payroll.
Offer customers discounts for paying invoices early or use invoice factoring to secure immediate financing against unpaid invoices.
This converts receivables into usable payroll capital faster than waiting for customer payments.
Business Credit Cards
Business credit cards with 0% introductory APR offers can provide an interest-free option to finance some payroll costs in the short run.
Just be sure to pay the balance before interest kicks in and avoid relying solely on credit cards for ongoing expenses.
Use strategically as part of a diversified financing strategy.
What Does the Loan Application Process Involve?
While each lender will have their particular requirements, the general steps are:
1. Pre-qualification – Quick eligibility check based on time in business, revenue, and credit score.
2. Application – Detailed application providing business and personal financial information.
3. Underwriting & Verification – Documents reviewed and verified, assessment of risk and ability to repay.
4. Approval Decision – You will be informed if approved and provided loan terms.
5. Documentation & Signing – Final steps like legal agreements before funding can be issued.
6. Funding – Loan amount disbursed into your account, ready for use.
This process can take anywhere from a few days to a few weeks depending on lender and loan type. Having your paperwork ready will help expedite the process.
As a business loan broker, I once helped a company that was struggling to pay its employees. The company was a contract bridge club that offered lessons, tournaments, and social events for bridge enthusiasts.
It had a loyal customer base and a good reputation, but it also had a lot of expenses, such as rent, utilities, equipment, and employee benefits.
The company needed small business financing to cover its payroll, but it had a poor credit history and no collateral. It was rejected by several banks and traditional lenders.
That’s when I suggested invoice financing, also known as accounts receivable financing. This is a type of lending that allows businesses to sell their unpaid invoices to a third party at a discount.
The third party pays the business a percentage of the invoice value upfront, and collects the full amount from the customers later.
Invoice financing was a perfect solution for the company, because it had a lot of invoices from its customers, who paid monthly or quarterly fees for the club’s services.
The company was able to get a credit line based on its invoices, without worrying about its creditworthiness or unsecured debt. It used the funds to pay its employees on time, and improved its cash flow and employee retention.
The company was very happy with the outcome, and thanked me for my help. It was one of the most rewarding experiences of my career.
Top Tips for Applying for Payroll Loans
When going through the application process, keep these tips in mind:
- Provide accurate, updated financial statements and records. Anything missing or outdated will slow things down.
- Talk to your accountant. They can ensure your records are audit-ready and help put together projections.
- Be transparent about your situation. Clearly explain the need and your plan to repay the loan.
- Ask questions. Don’t be afraid to contact the lender for clarification at any point.
- Read the fine print. Carefully review the terms and conditions before signing anything.
- Keep pursuing other options too until approved. Don’t wait on just one lender.
How Can I Smoothly Manage Payroll After Securing Financing?
Once you’ve secured short-term payroll financing, you’ll want to take steps to get your cash flow back on track for the long term.
Here are some payroll management best practices to implement:
- Accurately forecast payroll – Factor in taxes, benefits, bonuses, etc for better planning.
- Optimize with payroll software – For efficiency, accuracy, and helpful reporting.
- Enforce payroll compliance – Stay up to date on regulations to avoid penalties.
- Consider payroll cards – Faster, secure payment option for employees without bank accounts.
- Automate wherever possible – Takes the burden off manual calculations and processing.
- Communicate with transparency – Keep employees aware of any challenges affecting payroll.
- Replenish reserves ASAP – Build back emergency funds to handle future variability.
With some discipline and updated processes, you can get into a payroll groove that works smoothly for your small business.
Conclusion and Next Steps
We’ve covered the key considerations, loan options, lender comparisons, application tips, and ongoing payroll management strategies related to small business payroll loans. The information provided equips you to make informed financing decisions tailored to your unique situation.
As next steps, be sure to:
- Continue your research and compare multiple lenders using the criteria outlined.
- Consult trusted advisors like accountants and SBA representatives for guidance.
- Start pre-qualification to uncover any potential issues early.
- Begin assembling needed documents and financial records.
- Explore ways to optimize cash flow management ongoing.
Meeting payroll consistently is vital for small businesses’ success. But disruptions happen. With the right short-term financing strategy and discipline moving forward, you can master this critical responsibility.