5 Types of Collateral to Secure a Commercial Loan

^{Written by Robert Melchionne | SVP/Director of C&I Lending}

Lenders, including most community banks, almost always require collateral to secure a Commercial Loan for your business. Very simply put, collateral is security for the loan and helps to minimize the lender’s risk. Many types of collateral exist on the balance sheets of local businesses and understanding which option suits you best can be perplexing. Different collateral types have various perks and drawbacks, which can ultimately impact your business and personal finances in multiple ways.

The Benefits of Using Collateral for a Business Loan include:

• Better rates and terms
• Higher funding amounts
• Reduced personal credit score requirements
• Longer repayment schedules

Offering collateral gives lenders an extra level of protection against a possible default scenario. It reduces the lender’s risk associated with the loan request which allows for more favorable terms offered to the borrower.

Types of Collateral as Securitization for a Loan

It is crucial to be aware of how different types of collateral work. Various lenders may have different collateral conditions. Benefits and shortcomings should be noted relative to the type of collateral being pledged. However, this can differ based upon your specific situation and business type. The collateral evaluation process may also vary based on collateral type and the lender’s loan policy. Ultimately, the primary objective for the lender is to determine the most accurate value of the collateralized asset being pledged so that the loan structure may be accepted and approved.

Common types of collateral and their key characteristics:

• Accounts Receivable – Lenders will take the balance of your accounts receivable aging (invoices) and apply the value of your collateral based upon a certain advance rate.
• Machinery and Equipment – Depreciation is applied against the asset’s value to determine the true market value at the time of loan origination.
• Inventory Collateral – The quality and quantity of your inventory may be used collateral. There is a wide variety of types of inventory. For example, a food distributor’s inventory is perishable and is typically excluded from being used as collateral. A plastics manufacturer has inventory that contains both raw materials and finished goods and has a longer “shelf life” worthy of being used as collateral.
• Real Estate – The “fair market value” of real estate collateral is determined by an outside appraisal. Other factors come into play based on whether or not the real estate is owner occupied, investment property, commercial, or residential.
• Cash Collateral and Marketable Securities – Cash is King if you’re willing to pledge it! Marketable Securities and other types of liquid investments may be used as collateral.

Which Type of Collateral Suits You Best?

There is no perfect or simple answer to this question. However, you as the business owner of an operating company must decide which types of collateral are most suitable for your business. Most business owners begin by identifying the assets available to them and have real value on their balance sheets.

Perhaps you have outstanding invoices and accounts receivable or state of the art machinery and equipment that is of significant value. Do you personally own large investment accounts with a portfolio of marketable securities of significant value? Contemplate the assets which are readily available and evaluate the possible impact of pledging them as collateral upon your finances. Consult with your controller, CFO, or CPA.

More importantly, always communicate with the Commercial Loan Officer with whom you are working to secure the loan so that you fully understand the lender’s requirements with respect to collateral types and values.  

About Robert:

Robert Melchionne is SVP, Director of C&I Lending at Kearny Bank, where he leads a team of commercial and industrial lending professionals. Together, they provide commercial credit facilities to privately held businesses in need of debt capital in order to grow and expand their businesses. In a banking career of over 25 years, Robert has experience in providing commercial credit facilities to borrowers with needs such as short-term and long-term working capital, term debt financing for fixed asset expansion, business acquisition, commercial mortgages for real property, and international trade finance services for import and export companies.

Robert earned his bachelor’s degree in business administration/economics from Montclair State University. He also holds an MBA from Caldwell University.

To learn more about Kearny Bank’s C&I Lending capabilities, contact Robert.