Microloans: What Are They and How Do They Work?

Microloans of up to $50,000 can give early-stage businesses a major boost right when it counts.

Microloans for small businesses are a powerful option for those who lack easy access to capital or whose credit history holds them back. They can help young businesses get off the ground or expand, paying for anything from new equipment to operating expenses. These loans have low rates, don’t require perfect credit, and are usually supplied by lenders who help their borrowers succeed. 

Let’s look at everything you need to know about this financing option.

Table of contents

What is microlending?

Microlending, sometimes called microcredit, is the business of giving out small loans—usually $50,000 or less, but sometimes as much as $100,000. Business owners can use these loans to start or expand their venture or project. Microloans are usually issued by individuals or nonprofits instead of by banks or other financial institutions. They usually come with relatively low interest rates and relatively short terms. 

Microlending is most associated with funding projects in developing countries, where many small-business owners struggle to access traditional sources of capital. But microloans for small businesses are also extremely effective at helping businesses in the U.S. thrive. 

Certain US communities such as people of color and women have also historically struggled to gain access to traditional sources of capital. Many microlenders have a mission to help those communities get the resources they need, and the lenders often provide advice and training to make borrowers more likely to succeed.

The pros and cons of microloans

Pros
Pro Bullet Early-stage businesses can get access to startup funding.
Pro Bullet Average credit is usually sufficient to qualify.
Pro Bullet Rates are usually lower than for typical business loans.
Pro Bullet You may get guidance or coaching along with the loan.
Cons
Con Bullet Lending amounts usually only go up to $50,000.
Con Bullet You may not qualify unless you fit specific parameters defined by the lender.
Con Bullet Terms might be shorter than for typical business loans.
Con Bullet The lender may restrict how you can use the funding.

Who should apply for a microloan?

Microloans are a good fit for small businesses that are in their early stages and need a bit of extra cash to get things off the ground. They can also be helpful to established small-business owners who need a relatively small amount of funding for a discrete project that will propel their business forward. Both new startups and established businesses may be able to get access to microloans. 

Many microlenders have a goal for their lending—for example, to support minority businesses or to help small-business owners improve their credit. Good candidates for microloans are small-business owners who need a relatively small amount of funding and who have an identity or a purpose that fits with the mission of a particular microlender.

How does microlending work?

Microlending works in a similar manner to other business lending: a potential borrower applies, receives approval, gets access to funds, and then pays the loan back over a period of time, with interest. 

Before you can apply for a microloan, you have to qualify to become a borrower of the lender you want to do business with. Typically, you must be a for-profit small business with average credit; good credit usually isn’t required, and some lenders don’t even check your credit.

Each lender has its own requirements for eligibility, so pay close attention to the details. You may need to be located in a specific region, state, county, or city; come from a certain underrepresented community; or have a particular goal in mind for the funding to support.

Application process

To apply for a microloan, you’ll typically have to fill out an application, and you might be asked to include some or all of the following:

  • Personal information 
  • Approval for the lender to check your credit
  • Two years of personal tax returns
  • Recent pay stubs
  • A business plan
  • A financial statement and/or cash flow projections
  • Contracts or purchase agreements
  • A personal guarantee or an indication of the collateral you’ll use to guarantee the loan 

Established businesses likely must supply more business and financial information, such as business tax returns; balance sheets and income statements; and business licenses and permits.

If you’re approved for your loan and accept a certain amount of funding, you may have to pay fees and/or closing costs. You’ll receive your funds as a lump sum and be able to put it to good use on your business right away.

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Repayment

You will be given a certain number of years to repay your loan—three to six years is typical. When you need to start repaying your loan will depend on your lender’s rules. But once repayment begins, you’ll need to provide monthly payments composed of principal and interest by a given date each month for a set number of months. 

You can pay extra principal payments if you want to repay the loan faster, and most microlenders will not charge prepayment fees when you do so.

Microloans vs. regular business loans

In the case of both a microloan and a regular business loan, the borrower receives a lump sum of cash that they must repay in regular installments over a term that the lender sets. In both cases the lender might specify what the borrower is permitted to use the loan for.

The more prominent difference between microloans and regular business loans is the size. Microloans are by nature smaller—often capping out at $50,000. Many microloans are far lower, weighing in at $10,000–$15,000. But there are also differences in the details: borrowers are likely to get lower rates on microloans than they would on larger business loans, and they may have to pay them back faster. 

Since microlenders tend to be mission-driven organizations that are focused on the success of business owners, they may provide technical assistance and business guidance to borrowers to help their businesses grow stronger. Traditional business lenders don’t typically provide this type of service to borrowers.

What are peer-to-peer microloans?

Certain microloan lenders are actually platforms or programs through which individuals can invest money that is packaged into small loans for deserving candidates. Crowdfunding or peer-to-peer lending can be a great way for small-business owners to get a boost of cash—if they meet the requirements.

Some of these platforms, such as Kiva and SoLo, provide loans with low or no interest as a service to help cash-strapped borrowers. Some of them require the borrower to solicit contributions from friends and family to prove their creditworthiness.

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Reputable microlenders

Considering a microloan? Check out these microlenders with good reputations to see if one might be a match for you.

U.S. Small Business Administration (SBA)

The SBA is the most prominent US microlender, providing loans of up to $50,000 to small businesses and some not-for-profit childcare centers through its SBA Microloan Program. The loans, which average $13,000, are meant to help businesses start and expand their operations. The loans are originated and administered by a network of nonprofit, community-based organizations.

LiftFund

Texas-based nonprofit LiftFund provides loans as low as $500 to businesses in a number of southern US states. The organization focuses on lending to those who struggle to access capital elsewhere: 75% of LiftFund’s borrowers are Hispanic or African-American, and 38% of them are women. Most borrowers use the funds for working capital or to buy equipment. LiftFund works with borrowers who lack a solid credit history to build up good credit.

Accion Opportunity Fund

California-based nonprofit Accion Opportunity Fund offers small business funding through its lending arm, Accion Opportunity Fund Community Development. It lends primarily to women, people of color, or immigrants, many of whom have been unable to access traditional sources of financing. Its loans range from $5,000 to $100,000 and have rates starting at 5.99%. Borrowers also get access to educational resources, coaching, and support networks.

Accompany Capital

New York-based Accompany Capital focuses its lending on immigrants, refugees, and women entrepreneurs in New York City. The organization offers microloans of between $500 and $50,000 with a three-year repayment term and a 3% rate. No minimum credit score is required, but the borrower must have a decent history of credit repayment. The funds are intended to help a business get started, expand, or refinance existing debt.

Microlending FAQ

What are microloans?

Microloans are small loans of up to $50,000, or sometimes $100,000, that entrepreneurs can use to launch or grow their business. These loans usually have lower rates and shorter terms than larger traditional business loans. They are often aimed at business owners in certain communities or locations, and frequently are accompanied by business guidance.

How do microloans work?

Microloans are often provided by nonprofit financial organizations or even by individuals. Some microloans must be used for specific purposes, while others can be used for anything a business needs. Once a prospective borrower applies and is approved, the lender provides the funding in one lump sum, after which the borrower must pay the principal and interest back in regular installments over a set number of years.

Why do microloans have low rates?

Microloans usually have lower rates than typical business loans from traditional lenders for a couple of reasons. One is that the loans are small and for a relatively short term, so the lender is not taking a very large risk in providing each one. Another reason is that in many cases microloans are designed to prioritize the success of the recipient over the profit of the lender.

How much funding do microloans provide?

Microloans are typically $50,000 or less, though some consider business loans up to $100,000 to be microloans. Microloans for US borrowers can be as little as $500, and loans of $10,000–$15,000 are the most common in this category.

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Do you have to pay back microloans?

Yes, borrowers of microloans must pay them back, along with interest. Repayment occurs in regular—usually monthly—installments over the course of several years, perhaps three or six.

Why do people apply for microloans?

People look to microloans to finance business expenses like startup costs, operational costs, equipment purchases or upgrades, and debt refinance, among other things. People may apply for microloans as opposed to larger business loans because they aren’t able to access capital from a traditional lender. Business owners who belong to certain communities supported by microlenders may find a microloan a good option for securing startup financing while receiving technical support and guidance.

The takeaway

Microloans are powerful tools for certain businesses, particularly those that struggle to access capital. Borrowers don’t need an exemplary credit score, and startups don’t need to have too much business experience under their belt to qualify. These loans have the notable advantage of lower rates than typical business loans, and they often come with a side of technical assistance and advice from experienced professionals. 

Microloans may be small, but they are mighty: they can help businesses get off the ground or expand, giving them a vital boost toward success.

Would you like to learn more about the ins and outs of business loans? Read How Do Business Loans Work?

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Katherine Gustafson
Written by
Katherine Gustafson
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