Find the best business loan rates (2021)

Conventional vs. Alternative Lending: Weighing the Pros and Cons

By Elise Moores Managing Editor at Fast Capital 360 Reviewed By Mike Lucas Updated on May 04, 2021

Alternative lending offers another option for financing your business. But when should you use it instead of conventional lending? 

Learn what alternative lending is, what types of alternative lending are available and how its pros and cons stack up against conventional lending. We also will cover how to qualify and apply for alternative lending should you decide to pursue this option.

What Is Alternative Lending?

Alternative lending refers to consumer and business borrowing from non-conventional providers outside conventional lending channels such as banks and credit unions. It first emerged in 2005 when private individuals and groups began using the Internet to lend directly to consumer borrowers, a practice known as peer-to-peer (P2P) lending. Today, the term refers primarily to the use of digital technology to connect both consumer and business borrowers with lenders, which is known as marketplace lending.

Alternative lending today includes crowdfunding, a form of consumer and business financing which uses digital platforms to let borrowers raise funding from a large number of investors who each lend small amounts of money. This guide will focus on marketplace lending, only touching briefly on other forms of alternative lending for the sake of clarification through contrast.

Who Uses Alternative Lending?

Alternative lenders frequently work with consumers and business owners who are underserved by conventional lending institutions, such as borrowers with low credit scores who don’t qualify for conventional loans. However, they may work with borrowers who use both conventional and alternative channels. Some borrowers who could qualify for conventional financing still turn to alternative lending because they find it faster or more convenient.

Who Finances Alternative Lending?

Alternative lending is financed by investors who see it as an opportunity to generate a return on investment. Investors stand to profit from alternative lending because it often charges higher interest rates than conventional lending to offset the risk of lending to borrowers with lower credit ratings.

An image of a bank on one side versus a smartphone touting “Online Lending” on the screen on the other side.

How Does the Alternative Lending Process Work?

Alternative lending typically occurs through online platforms which connect borrowers with investors. Online lending platforms use digital technology to support and expedite the loan application process.

In a typical scenario, the prospective borrower fills out an online discovery form to find out if they prequalify for a loan or other form of financing. The form collects basic information about the applicant’s financial situation in order to make a preliminary assessment of creditworthiness. Data entered into the form gets reviewed automatically by a software program, often within minutes, although some applications may get passed on for follow-up manual review by a live person.

If the applicant passes the initial prequalifying process, they receive an invitation to continue the application process. This normally involves working with a designated loan officer and submitting qualifying paperwork. If their application gets approved, funds typically get transferred via electronic deposit within days or sometimes within hours.

What Are the Different Types of Alternative Lenders?

Today’s alternative lending market includes several major types of lenders:

  • Marketplace lenders
  • Direct private lenders
  • Crowdfunding platforms

Marketplace lending platforms use technology to process loan applications, screen applicants and connect qualified applicants with potential lenders. Marketplace lenders package loans from lenders and deliver them electronically to borrowers, instead of using deposited money to provide funds the way a bank would. The marketplace lender collects a commission and fees for this service.

Direct private lenders finance loans with their own money instead of using bank depositors or investors. This gives them wide discretion over loan qualifications and terms. For example, a direct private lender might be willing to lend a smaller amount of money than a conventional lender would normally consider.

Both marketplace lending and direct private lending as described above are often referred to as P2P lending. However, technically, P2P lending involves lending from an individual to a borrower, while marketplace lending can allow financial institutions as well as individuals to lend money, and more often involves institutions.

Crowdfunding platforms provide a digital platform which borrowers can use to raise money by asking large numbers of investors to contribute small amounts.

The remainder of the content below will focus on marketplace lending, although some of it applies to other categories of alternative lending.

Do you need a loan for your small business?

What Types of Financing Do Alternative Lenders Offer Businesses?

Alternative lenders offer both conventional loans and a wide range of other financial products to businesses. Depending on the lender, business financing options may include:

  • Term loans: funds which must be repaid over a specific period of time (the term of the loan) at a fixed or variable interest rate on a predetermined repayment schedule
  • Short-term loans: term loans with a short window for repayment, often under a year
  • Microloans: term loans for low amounts such as $50,000 or less, often with short-term repayment schedules
  • Bridge loans: short-term loans used to cover cash-flow needs while longer-term financing is being arranged
  • Commercial loans: longer-term business loans typically used to pay for major capital expenditures such as real estate or equipment investments or to cover operational costs
  • Working capital loans: short-term loans which are used to finance daily business operations rather than purchases of long-term assets or investments
  • Small Business Administration (SBA) loans: term loans which are backed by the SBA, reducing the risk to the lender and enabling lower interest rates for borrowers
  • Accounts receivable financing (invoice factoring): a type of cash advance lent on the strength of credit owed to the borrower by their customers
  • Merchant cash advances: a type of cash advance lent on the strength of sales projections, to be repaid from a percentage of future sales
  • Equipment financing: a type of loan used to purchase or lease equipment, with the equipment itself serving as collateral
  • Business lines of credit: similar to a credit card but differing in that it can be used to write checks, a credit line which may be borrowed against up to a set limit, with funds typically becoming available for spending again after they are repaid (known as a revolving line of credit)

Some lenders will offer all of these products. Others may specialize in certain types of products, including others not listed here.

How Do Alternative Business Loan Lenders Differ from Conventional Lending?

Alternative lenders tend to differ from conventional lenders in a number of respects:

  • Alternative lenders operate primarily online, whereas conventional lenders are normally based at physical locations
  • Alternate lenders can process applications quicker by using digital technology, while conventional lenders use manual review processes which are more complex and can take longer
  • Alternate lenders are often willing to extend credit to higher-risk borrowers in return for higher interest rates and other less favorable terms, while conventional lenders have stricter qualifying criteria
  • Alternative lenders may require less documentation than conventional lenders, simplifying the application process
  • Alternative lenders may expedite transfer of approved funds within days or hours using electronic deposits, while conventional lenders often take months before the application process is completed and funds become available

These differences underlie the respective pros and cons of alternative and conventional lending.

What Are the Advantages of Nonconventional Loan Lenders Over Conventional Loan Lenders?

Alternative lenders offer a number of benefits which can make them appealing to business borrowers:

  • The digital application process, reduced paperwork and expedited processing can make alternative loans more convenient than conventional loans
  • Alternative lenders may offer a more flexible range of financing products to meet the needs of a wider range of borrowers
  • Alternative loans can be easier to qualify for
  • Alternative loan funds can be made available more quickly

These advantages can make alternative lending attractive to business owners who have difficulty qualifying for conventional loans or who need access to financing quickly.

What Are the Cons of Alternative Lenders?

While alternative lending offers a number of advantages over conventional options, there are some tradeoffs:

  • Because alternative loans are easier to qualify for, they may come with higher interest rates or other less favorable terms (though this is not always the case, as with alternative lenders who handle SBA loans, which are generally similar regardless of lender)
  • Some alternative lending products may have shorter terms than conventional loans
  • Alternative lending products which rely on accounts receivable or future sales for collateral can cut into profits and cash flow while cash advances are being repaid

Take both the pros and cons of alternative lending into account when deciding which type of financing is right for you.

Question marks surround two elements: credit score and revenue history.

When Should I Try an Alternative Lender Instead of a Conventional Lender?

There are several scenarios where an alternative financing product might suit your needs:

  • You are having difficulty qualifying for conventional loan product because of factors such as a short amount of time in business, a low credit score or insufficient revenue
  • You need access to financing immediately and don’t have time to wait for the turnaround time on a conventional loan
  • Your business model and sales projections would make it easy for you to repay accounts receivable financing or a merchant cash advance
  • You need immediate financing for an equipment purchase

On the other hand, if you would find it easy to qualify for a conventional loan, or if you can afford to wait for financing, exploring conventional options might make sense for you.

How Do I Qualify for Alternative Business Lending?

Different alternative lenders may consider different qualifying factors when evaluating your application. In general, factors lenders consider typically include:

  • Your personal or business credit score
  • Your monthly or annual revenue
  • How long you’ve been in business

Certain criteria are specific to particular products. For accounts receivable financing, lenders may want documentation of your outstanding invoices. For merchant cash advances, lenders may want documentation of recent revenue levels supporting your sales projections.

Qualifying criteria also may be stricter for loans in larger amounts or with lower interest rates. As with conventional lenders, you can often secure larger amounts and more favorable terms if you have a strong credit rating and revenue history. You may wish to check your credit score and take steps to build your business credit before approaching an alternative lender.

How Do I Apply for Alternative Lending?

Applying for alternative lending normally involves a few steps:

  • Filling out an online form with prequalifying information, such as data on your revenue and years in business
  • If you pass prequalifying criteria, you may be given one or more loan options and asked to provide qualifying documentation, such as financial statements or tax returns
  • If your application is approved, you will receive documents to sign to finalize your lending agreement
  • Following finalization of your agreement, you will receive your funds, typically through electronic transfer

These steps may vary somewhat by lender and loan product. Some application processes may be more streamlined than others.

How Do I Find Alternative Lenders for Small Business Financing?

You can find an abundance of alternative lenders online through searches. There are a few main ways you can connect with lenders:

  • You can search for a particular type of loan product, visit the website of lenders who come up and fill out their application form
  • You can use review sites to save you time finding and evaluating competitive lenders
  • You can fill out a prequalifying form on a marketplace lending platform which works with multiple lenders and uses automated software to identify lenders representing a good fit for your needs and qualifying criteria

Fast Capital 360 provides reviews of many of today’s most popular alternative lenders. We also use smart software to compare your prequalifying criteria with our wide network of lenders and find a lender who’s right for you.

Find Out Whether You Qualify for Alternative Business Lending

Alternative lending can be an option for your business if you don’t qualify for a conventional loan or if you need to secure financing quickly. If this applies to you, you might benefit from an alternative lender. 

Fast Capital 360 works with lenders throughout the country to help small businesses find financing fast, including SBA loans, other business loans, business lines of credit, accounts receivable financing, merchant cash advances and more. Take a few minutes to fill out our no-obligation online application and find out which forms of alternative lending you may qualify for.

Get Your Business Loan Options in Minutes

Get Started

One application. Multiple loan offers.

Quickly compare loan offers from multiple lenders without impacting your credit score.

  Back to Top