Your ultimate guide to cash flow loans

Life moves fast in the business world. One month, your business is thriving; the next, it's barely surviving. There can sometimes be a need for quick, flexible solutions to tackle unexpected challenges, and a cash flow loan can help maintain operations during cash shortages. But what is a cash flow loan, how does it work, and what can you use it for?

Keep reading to determine if it’s the right financing option for your small business.

Key takeaways

• Flexible financing: Cash flow loans provide quick access to funds based on your business’s projected revenue

• No collateral, but higher rates: Most cash flow loans don’t need assets as security, but they often come with higher interest rates

• Best for short-term needs: Ideal for covering expenses like wages, rent or inventory during slow periods

What is a cash flow loan?

On the face of it, a cash flow loan is much like a traditional unsecured business loan. You borrow money and repay it over time with interest. However, unlike a standard loan, a cash flow loan offers a fast credit solution for your business, even if you lack assets or a strong credit history.

Lenders base approval on your business’s projected ability to generate income, essentially advancing predicted future revenue. Instead of a lengthy application process that reviews your credit history, assets and financial details, a cash flow loan relies on the strength of your business’s cash flow potential. 

As the loan is meant to address immediate, short-term funding needs, you can typically only borrow small amounts over shorter terms.

How does a cash flow loan work?

Imagine a seasonal business that runs from March to October, serving outdoor food and drinks to tourists visiting the Cornish coast. While it enjoys strong earnings during the warmer months, it generates little to no revenue in the winter. So, how does it manage to cover bills, rent, and staff wages during the off-season?

This simplistic example highlights where a cash flow loan works best. The loan provides funds during quiet months, allowing the business to stay afloat and cover essential bills. When the peak season returns and revenue flows in, the business can repay the loan with interest. Without this option, businesses with irregular revenue may face cash flow difficulties.

Cash flow loans are typically unsecured, so you don’t need to provide assets as collateral. However, setup fees and interest rates are usually higher than traditional business loans due to the added risk to the lender. 

What can you use a cash flow loan for?

You can use a cash flow loan to pay for most business costs. Here are a few examples:

• Employee wages: Cover staff salaries during periods of low trade to maintain your ongoing business operations

• Rent payments: Ensure you can make your monthly payments for business premises, even during slower months

• Inventory purchases: Stock up on essential materials or products needed to continue trading

• Utility bills: Keep services like electricity, water, and internet running smoothly

• Marketing campaigns: Invest in promotion or advertising to drive customer demand during quieter periods

• Emergency expenses: Cover unexpected costs, such as faulty machinery or damaged stock

While cash flow loans are ideal for covering essential expenses, they can also support growth initiatives like launching new products or expanding operations. It’s always a good idea to discuss the loan’s purpose with your lender, as they may suggest more suitable alternatives. 

Who is eligible for a cash flow loan?

The specific eligibility criteria for a cash flow loan depend on the lender. General eligibility criteria conditions may require you to be:

• Aged 18 or over

• A business owner

• Based in the UK

Since the loan depends on your ability to repay through projected cash flow, most lenders usually require cash flow projections and financial statements to verify your claims and evaluate your eligibility. 

Advantages and disadvantages of cash flow loans

Like most small business finance options, there are positives and negatives. You must weigh up the pros and cons before completing a loan application to ensure it’s right for you.

Advantages

• Quick decision: Without the need for asset evaluation, the application process can be fast. Gather together the necessary paperwork such as cash flow forecasts, statements and trading history to avoid delays

• Less reliance on a credit score: Unlike many finance options, your business’s credit score isn't usually the main focus. A good score helps, but if you can show how you expect cash flow to improve and outline your repayment plan, a poor credit history might not be a barrier

• No collateral: Many lenders will request some form of collateral to protect their interests if you fail to keep up with repayments. For new businesses without significant assets, this can be a challenge. However, cash flow loans typically don’t require collateral, as long as you can support your application with reliable cash flow projections

• Build your business credit score: If you make timely repayments, a cash flow loan can help improve your business credit score, making future borrowing easier

Disadvantages 

• Higher fees: Lenders approve cash flow loans based on cash flow projections, which increases their risk. Expect higher set-up fees, interest rates and harsher penalties if you fail to meet your repayment obligations

• Shorter terms: This type of loan is to help plug short-term cash flow gaps, so they tend to have shorter windows in which to repay the loan and interest

• Debt cycle: If your projections are inaccurate, you may struggle to repay the loan on time, leading to a cycle of borrowing which could also negatively impact your credit score

How to apply

Applying for a cash flow loan is straightforward. Here’s how to do it:

• Determine the purpose of the loan – whether it’s for covering bills, paying wages, or expanding your business

• Choose a lender with a suitable interest rate and repayment terms that match your needs

• Gather the required documents, including your financial statements, business plan, and cash flow projections

• Submit your application, typically online, to the lender you’ve selected

Assuming you’ve provided the lender with everything it needs you should learn the outcome quickly. Some lenders even advertise 24-hour decisions. 

Alternative finance options

A cash flow loan may not suit every type of business. It’s important to consider all the finance options before reaching a decision. Here are some common alternatives:

Business credit card

Similar to a personal credit card, a business credit card allows you to spend up to a set limit and repay over time. To avoid interest, you can pay the full balance each month, or opt for a minimum payment – though this will take longer and cost more in the long run. Many business credit cards also offer perks such as cash back or reward points on your spending.

Start Up Loan

New businesses at the start of their journey could consider a government-backed loan managed by the Start-Up Loans Company. This type of loan has no setup fees and offers a fixed interest rate of 6% for the entire term, making it a good option for startups.

Invoice finance

If you often wait for clients to pay invoices, invoice finance could help. It provides a cash advance on unpaid invoices, allowing you to access funds before the client settles. Once the client pays the invoice, you repay the finance with interest.

Business loan

Both secured and unsecured business loans are one of 12 types of business loans. They offer more long-term flexibility than a cash flow loan, but your business credit score matters here – if you don’t have one, the lender may consider your personal credit score instead. Depending on your situation, you can often borrow more significant amounts with longer repayment terms.

Merchant cash advance

If your business accepts credit or debit card payments, you can consider a merchant cash advance (MCA). A lender provides an upfront loan, and you repay it through a percentage of your card transaction sales. MCAs also come with interest and fees.

Revolving credit facility

A revolving credit facility lets you borrow money for business activities up to a set limit. Like a credit card or overdraft, you pay interest only on the amount you use. Once you repay the balance, the funds become available again. You transfer the amount you want to borrow to your business or personal bank account, meaning the credit appears as cash that you can spend or withdraw.