8 examples of non-bank credit options: The pros and cons

When it comes to securing capital, the age-old question arises: traditional loans or non-bank credit options?

According to Federal Reserve research, 2024 Report on Employer Firms, a whopping 87% of businesses are using some kind of financing to make it happen – whether it's to cover everyday expenses, fuel an ambitious expansion, or anything in between. 

But let's be honest, jumping through hoops to get a standard bank loan can feel like a soul-crushing waste of time. That's where non-bank credit options come in. 

While conventional options might be the go-to for some, a growing number of entrepreneurs are discovering the power and flexibility of alternative financing. In fact, according to the aforementioned report, finance companies are approving funding at a rate of 93% – compared to 76% at traditional banks.

In this article, you’ll explore examples of non-bank credit options and their pros and cons.

What are non-bank credit options?

Non-bank credit options, more commonly referred to as alternative financing, encompass a range of funding sources outside of traditional bank loans and capital markets. These alternative lending choices range from online platforms to private investors, offering financing strategies tailored to meet the unique needs of modern businesses.

Alternative financing options often cater to businesses with less-than-perfect credit histories, startups with limited track records, or those seeking faster funding channels. They provide a valuable alternative for those that may not qualify for traditional financing or prefer greater flexibility in their repayment terms.

Advantages and disadvantages of non-bank credit options

While non-bank credit options offer a compelling alternative to bank financing, you should carefully consider both advantages and disadvantages before making a decision.

Advantages

• Faster funding: Non-bank lenders often approve and fund loans significantly faster than traditional banks, which can be crucial for businesses needing immediate capital
• Increased flexibility: They are more receptive to companies with unconventional credit histories or business models, offering greater flexibility in terms of eligibility criteria
• Streamlined processes: Many non-bank lenders use technology to offer online applications and digital documentation, making the borrowing process more efficient and user-friendly
• Specialized financing options: The non-bank lending landscape encompasses a wide range of funding avenues, including invoice financing, merchant cash advances, and revenue-based financing, catering to diverse business needs

Disadvantages

• Potentially higher costs: Non-bank credit options may charge higher interest rates or fees compared to traditional banks to compensate for perceived higher risk
• Shorter repayment terms: Non-bank financing often comes with shorter repayment terms, which could create pressure on a business's cashflow
• Varied regulation: The alternative funding sector is subject to varying degrees of regulation, so you should conduct careful due diligence to ensure you're partnering with a reputable and trustworthy lender

It's important to note that the specific advantages and disadvantages of alternative funding options can vary significantly depending on the type you choose. Factors such as interest rates, fees, repayment terms, and eligibility criteria can differ substantially between the options.

8 examples of non-bank credit options

Here are some of the most common non-bank credit options available to small and medium businesses.

1. Invoice financing

Invoice financing (IF) also known as factoring, is an alternative financing for businesses to access immediate cashflow tied up in unpaid invoices. Instead of waiting for customers to pay, a business can sell its invoices to a third-party financial provider (the "factor") at a discount.

💡 Best for:

• Businesses involved in international trade: Invoice financing is well-suited for companies expanding into global markets and working with new buyers who demand deferred payment terms
• Flexible funding avenue: IF scales with your sales volume. As you generate more invoices, you can access more funding
• Strong invoices and creditworthy customers: Factors are more likely to advance funds on invoices from reputable customers with a good payment history

⚠️ Things to consider:

• Cost: Fees can vary depending on factors like the invoice value, customer creditworthiness, and the length of the payment terms
• Customer relationships: In some cases, the factor may handle collections directly, which could impact your customer relationships. Look for factors that prioritize a positive customer experience
• Eligibility requirements: Factors have eligibility requirements, such as a minimum annual revenue threshold or time in business

Learn more: Everything you need to know about invoice financing/factoring.

2. Revenue-based financing

Revenue-based financing (RBF) is a unique funding option where repayments are directly tied to your business's monthly revenue. Instead of fixed monthly payments, you agree to pay back a percentage of your revenue until the loan and fees are repaid. This model makes RBF particularly attractive for companies with fluctuating revenue streams.

💡 Best for:

• eCommerce and SaaS businesses: RBF aligns perfectly with eCommerce and the recurring revenue models often seen in software as a service (SaaS)
• Companies that need fast funding: RBF agreements are typically processed much faster than traditional bank loans. You can access capital within 48 hours of signing the agreement. This example of a non-bank credit option is ideal for time-sensitive funding needs
• Businesses seeking performance-based repayments: With RBF, your weekly or monthly payments directly reflect your revenue. You pay more when business is booming and less if you hit a slow period, so repayments are manageable and aligned with your cashflow

⚠️ Things to consider:

• Funding limits: Because RBF relies on your future revenue, lenders may not be willing to provide large sums upfront, especially if your revenue is unpredictable
• Financial history matters: Your business's financial track record (revenue, profitability) plays a big role in securing RBF. Lenders want to see consistency and growth potential

Are you an eCommerce or SaaS business looking for a financing option? Learn more about how revenue-based may be a perfect fit for your business.

3. Merchant cash advance

A merchant cash advance (MCA) is a type of short-term financing where a non-banking finance provider gives a business a lump sum of cash upfront in exchange for a percentage of future credit and debit card sales. It's not technically a loan but rather a cash advance based on your projected sales.

💡 Best for:

• Businesses with strong credit card sales: MCAs are most suitable for those that generate a significant portion of their revenue through credit and debit card transactions
• Short-term cashflow needs: MCAs are designed to address immediate, short-term funding gaps, such as covering seasonal expenses, purchasing inventory, or managing unexpected costs
• Businesses that may not qualify for traditional loans: MCA providers often have more lenient eligibility requirements compared to banks. It’s a non-bank credit option for businesses with less-than-perfect credit history

⚠️ Things to consider:

• High cost: MCAs typically come with higher costs than traditional loans or lines of credit. The factor rate, rather than an interest rate, determines the total repayment amount, and it can be substantial
• Daily or weekly repayments: The frequent repayment schedule can put a strain on cashflow, especially during slower sales periods
• Potential for debt cycles: The ease of obtaining multiple MCAs can lead to a cycle of debt if not managed carefully

4. Asset-based lending

Asset-based lending is a type of financing where a business secures a loan using its assets as collateral. These assets can include accounts receivable, inventory, machinery, or equipment. Unlike traditional loans that focus primarily on creditworthiness, ABL considers the value of the borrower's assets as the primary security for the loan.

💡 Best for:

• SMEs facing cashflow challenges: Asset-based loans are a lifeline for small and medium-sized businesses (SMBs) struggling with cashflow or needing working capital to cover operational expenses, even if they don't qualify for traditional bank loans
• Businesses with limited credit history or stretched credit limits: It provides an alternative financing route for companies that might be turned away by traditional lenders due to a limited credit history or having already maxed out their existing credit lines
• Supplementing existing financing: Asset-based loans can be used alongside other forms of funding, providing an additional layer of financial flexibility for businesses

⚠️ Things to consider:

• Risk of asset seizure: If you fail to repay the loan according to the agreed-upon terms, the lender has the legal right to seize the assets you pledged as collateral
• Negative impact on credit rating: Defaulting on this non-bank credit option can severely damage your business's credit rating, making it difficult and more expensive to secure financing in the future
• Future borrowing challenges: Having assets seized due to loan default can make it extremely challenging to obtain financing from other lenders down the line

5. Business lines of credit

A business line of credit is a flexible financing option that works like a credit card for your business. It provides access to a predetermined amount of funds that you can draw from as needed. A line of credit allows you to borrow funds multiple times, up to your credit limit, and only pay interest on the amount you actually use.

💡 Best for:

• Managing short-term cashflow: A business line of credit is ideal for bridging gaps in cashflow, covering unexpected expenses, or managing seasonal variations in revenue
• Taking advantage of opportunities: Having access to a line of credit provides financial flexibility to act quickly on time-sensitive business opportunities, such as purchasing inventory at a discount or investing in a sudden growth spurt

⚠️ Things to consider:

• Interest rates and fees: Business lines of credit often have variable interest rates that can fluctuate with market conditions. Additionally, lenders may charge origination fees, annual fees, or inactivity fees if you don't use the line of credit regularly
• Credit limit restrictions: Your credit limit may not be sufficient for larger capital needs. Lines of credit are typically smaller than term loans
• Potential for overspending: The easy access to funds can tempt businesses to overspend, leading to higher debt levels and potential cashflow problems if not managed carefully

6. Peer-to-peer Lending

Peer-to-peer (P2P) lending, also known as marketplace lending, cuts out traditional financial institutions. Instead, this example of a non-bank credit option connects borrowers directly with individual investors willing to lend money. These transactions are facilitated through online platforms that manage the loan process, from application to repayment.

💡 Best for:

• Competitive interest rates: P2P lending can be a cost-effective financing option, offering more attractive interest rates than traditional banks and building societies, especially for borrowers with good credit scores
• Smaller loan amounts: P2P platforms can be a good option for those seeking smaller loan amounts that might not meet the minimum requirements of some traditional lenders

⚠️ Things to consider:

• Additional fees: In addition to interest, P2P platforms may charge borrowers origination fees or other administrative fees that can add to the overall cost of borrowing
• Potential higher interest rates: While P2P lending can be more accessible for borrowers with lower credit scores, they may face higher interest rates compared to those with excellent credit. Poor credit histories may not qualify for loans at all
• Limited borrower protections: P2P lending platforms are not subject to the same regulatory oversight as traditional banks. Borrowers may have fewer protections if they encounter difficulties repaying their loans

7. Angel investors

Angel investors are typically high-net-worth individuals who provide capital to startups and early-stage businesses in exchange for equity ownership. They are often motivated by more than just financial returns as they might also be driven by a desire to support entrepreneurship, contribute to innovative ideas, or mentor promising businesses.

💡 Best for:

• Startups and early-stage businesses: Angel investors are a primary source of alternative funding for businesses that are too new or small to qualify for traditional bank loans or venture capital
• Businesses with high growth potential: They are drawn to businesses operating in high-growth industries or with the potential to disrupt existing markets, as these ventures offer the possibility of significant returns on investment
• Entrepreneurs seeking mentorship and guidance: Beyond financial capital, angel investors can provide invaluable experience, industry connections, and strategic guidance to help startups navigate the challenges of building and scaling a business

⚠️ Things to consider:

• Equity dilution: Accepting investment from angel investors means giving up a portion of equity ownership in your company. It's essential to carefully consider the trade-off between equity dilution and the capital and support gained
• Loss of control: Bringing on investors can lead to a potential loss of control over certain business decisions, as investors may have voting rights or influence over strategic direction
• Finding the right fit: It's crucial to find angel investors whose values, investment philosophy, and industry expertise align with your business goals and vision

8. Venture capitalists

Venture capitalists (VCs) are professional investors who manage funds raised from institutions and wealthy individuals. They invest this capital into high-potential, high-growth companies, typically at a later stage than angel investors.

💡 Best for:

• Substantial funding rounds: VCs invest larger sums of money than angel investors, frequently participating in Series A funding rounds and beyond, providing the capital needed for rapid expansion
• Significant growth and scaling: VCs bring not only capital but also expertise, networks, and resources that can help companies navigate the challenges of rapid growth, build strong teams, and scale their operations

⚠️ Things to consider:

• Significant equity dilution: VC investments typically involve giving up a substantial equity stake in your company, potentially diluting the ownership of founders and early investors
• Intense scrutiny and pressure to perform: VCs have high expectations for growth and returns. Companies accepting this type of funding may face pressure to meet ambitious milestones and deliver on their promises
• Loss of control and strategic decision-making: VCs often take board seats and have a strong influence on strategic decisions. Founders may need to be prepared to relinquish some control over their company's direction

Leave traditional finance in the dust

While traditional bank loans remain a familiar route, a growing number of entrepreneurs are discovering the agility and opportunity that non-bank credit options provide. The alternatives, from invoice financing to venture capitalists, offer a unique set of advantages and drawbacks. 

The key is understanding which option aligns with your specific needs and goals.

Are you a fast-growing eCommerce business seeking flexible repayment options? Revenue-based financing might be your perfect match. Need a quick cash injection to capitalize on a time-sensitive opportunity? Invoice financing could help you unlock funds tied up in unpaid invoices.

Carefully weigh the pros and cons, check the details of each option, and don't hesitate to seek expert guidance.

Ready to leave traditional finance in the dust? Stenn is the next-gen capital platform providing financing alternatives for businesses operating in international trade, eCommerce, and digital services. 

Explore our financing alternatives and discover a world of opportunities to propel your business forward.