Securing appropriate financing can be critical to the success of your small business, whether you're just starting out or looking to grow. With numerous lending options now available in the UK, from traditional bank loans to government schemes and alternative lenders, understanding what's on offer can help you make an informed decision.
This guide explains the key types of business loans available to help fund your business, and what to consider when applying.
What is a small business loan?
A small business loan is a sum of money borrowed from a lender that must be repaid over an agreed period, typically with interest. The loan amount, interest rate, and repayment terms vary depending on the lender and the type of loan you choose.
Most lenders assess your business's financial health, trading history, and ability to repay before they approve your application.
Small business loans can be secured against assets (such as property or equipment) or unsecured. If you want to take out an unsecured loan, you may need to pay higher interest rates, but there will be no requirement to pledge assets.1 (external link)
Types of business loans available in the UK
The UK lending market offers several routes to finance your small business, each designed to suit different needs and circumstances.
Beyond the main loan categories we detail below, you might also come across pension-led funding, where you may be able to access pension funds to invest in your business, small business grants, and referral schemes that connect businesses with alternative lenders when traditional banks decline applications.
Traditional bank loans
Many established businesses seek financing from high street banks. These loans typically offer fixed (they stay the same throughout the loan term) or variable (they fluctuate with economic conditions) rates.
Traditional banks usually expect detailed financial information, including several years of trading accounts, a robust business plan, and evidence of your ability to repay. The application process can be long, and approval isn't guaranteed, particularly for newer businesses without an extensive trading history.
Government schemes
The government's Start Up Loans (external link) scheme offers support for new businesses and those in their early stages. If your business has been trading for less than five years, you can apply for an unsecured personal loan of up to £25,000.2 (external link) Partners in a business can each apply individually, with a maximum of £100,000 available per business.3 (external link)
The scheme charges a fixed interest rate of 7.5% per year, with repayment terms of 1-5 years. Successful applicants can also receive up to 12 months of free mentoring and exclusive business offers to help them succeed.
Community Development Financial Institutions (CDFIs)
CDFIs are non-profit lenders that provide flexible financing to businesses that traditional banks may have turned down. CDFIs generally lend amounts from £25,000 up to £250,000, but some will lend from as little as £1,000.4 (external link) They use a relationship-based approach to lending, taking time to understand your business circumstances rather than relying solely on credit scores.
Peer-to-Peer (P2P) lending platforms
P2P lending platforms connect businesses directly with investors through online marketplaces. Rather than borrowing from a traditional bank, your loan is funded by multiple investors who each contribute a portion of the total amount.
Interest rates are typically set through the platform, and rates can be competitive. However, business owners may want to consider various risks, such as platform failure, loss of capital, and cybersecurity threats. It's also important to note that P2P lending doesn't benefit from Financial Services Compensation Scheme (FSCS) protection, meaning your investment isn't guaranteed if the platform fails.5 (external link)
Finding a suitable loan for your small business
Choosing the right loan requires careful consideration of several factors:
| Factor | What to consider |
|---|---|
| Loan amount | How much do you need to borrow? Avoid taking more than necessary, as you'll pay interest on the full amount. |
| Interest rate | Compare APRs (Annual Percentage Rates) across lenders. Even small differences can impact your total repayment costs. |
| Repayment term | Longer terms typically mean lower monthly payments, but more interest paid overall. |
| Repayment flexibility | Can you make overpayments or repay your loan early without facing penalties? |
| Security requirements | Secured loans typically offer better rates but put your assets at risk if you can't repay. |
| Fees | Look out for hidden costs, including arrangement fees, early repayment charges, and late payment penalties. |
Business loan comparison sites and broker platforms can help you quickly assess multiple options. Remember that applying for multiple loans can affect your credit score, so research your choices thoroughly before submitting applications.
What business lenders expect
Before approaching any lender, ensure you have the following prepared:
- A comprehensive business plan. Your plan should detail your business model, market opportunity, and how you'll use the funds. Lenders want to know that you’ve considered your strategy carefully. Including the hidden costs when starting a business demonstrates thorough planning.
- Cash flow forecasts. Your forecasts demonstrate how your business will generate enough income to repay the loan. Most lenders will want to see projections for the loan term duration, and preferably longer for new businesses.
- A clean credit record, both personal and business. If you have any adverse credit history, you may be required to explain the circumstances and how your financial situation has improved.
- Trading history and accounts. Established businesses are usually required to provide at least two years of financial statements, including profit and loss accounts, balance sheets, and tax returns.
- Collateral or personal guarantees. For secured loans, you'll need to identify specific assets. Many small business loans also require directors to provide personal guarantees, meaning you're personally liable if the business cannot repay.
- Accounts and bank statements. These show lenders your current financial position and recent trading performance.
FAQs about business loans for small businesses
Do I need a business bank account for a small business loan?
While not always legally required, having a separate business bank account is often recommended and expected by lenders. It demonstrates professionalism, can make accounting simpler, and clearly separates your personal and business finances.
Most lenders will want to see business bank statements as part of your application, and some loan types specifically require a business account.
Can I get a small business loan with bad credit?
It is possible to secure business finance with poor credit, but your options may be more limited, and the interest rates you are offered might be higher.
CDFIs and some alternative lenders specialise in working with businesses that traditional banks have refused. They'll focus more on your business’s viability and your relationship with them than purely on credit scores.
Government-backed Start Up Loans also conduct credit checks but take a more holistic view of applications.
Who funds UK SMEs?
UK small businesses can access finance from sources beyond traditional high street banks.
Alternative lenders, including online platforms, peer-to-peer networks, and challenger banks, now account for a growing share of small business lending.6 (external link) Understanding the full range of funding options, including grants available for small businesses, can help you identify the most suitable financing for your business.
Disclaimer:
At Hiscox, we want to help your small business thrive. Our blog has many articles you may find relevant and useful as your business grows. But these articles aren’t professional advice. So, to find out more on a subject we cover here, please seek professional assistance.
References
- https://www.british-business-bank.co.uk/business-guidance/guidance-articles/finance/what-are-the-different-types-of-business-loan
- https://www.gov.uk/apply-start-up-loan
- https://www.startuploans.co.uk/about-the-loan/what-is-a-start-up-loan
- https://www.british-business-bank.co.uk/business-guidance/guidance-articles/finance/community-development-finance-institutions
- https://www.moneysupermarket.com/investments/peer-to-peer-lending/
- https://www.british-business-bank.co.uk/news-and-events/news/smaller-business-lending-markets-showing-signs-improvement-finds-latest-british-business-bank
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