What is an Asset Based Loan?
Businesses use accounts receivable or property in asset backed loans to secure funds in a pinch or to take out a larger loan.
Written by Bellina Gaskey
Reviewed by Jessica Barrett
Asset based loans are usually given to businesses that use assets, like accounts, real estate, or equipment, as collateral.
Lenders offer asset based loans, otherwise known as “asset backed loans” or “asset loans,” for businesses in times of low cash flow, for paying employees, or making acquisitions.
If you’re looking to become more financially savvy, you’ve come to the right place. Here, Jerry covers the definition of asset based loans and when you might need one.
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What is an asset based loan?
An asset based loan is a loan in which the lender takes assets as collateral. (Collateral is what you offer to the lender as security. In case you default or fail to pay your loan, the lender has the right to take possession of the collateral).
Lenders usually prefer liquid assets, or assets that are easily converted into cash (like accounts receivable), over illiquid assets, which are harder to convert into cash (like property).
Using assets as collateral makes the loan more secure for lenders, so asset based loans often come with more favorable terms than traditional loans.
This allows businesses to take on more debt with an asset based loan than they would otherwise.
How an asset backed loan works
The lender will first determine the debt capacity of the borrower by valuing their assets. (Traditional loans calculate debt capacity using a formula including income minus taxes.)
Lenders will often offer a loan amount equal to a high percentage (75% or above) of the borrower’s assets. So if a corporation has $200,000 in highly liquid accounts, the lender may offer a loan of $160,000 (80%). In this case, $160,000 of the borrower’s accounts will then be used as collateral.
On the other hand, if a business offers illiquid assets like property, the lender may choose to offer a lower percentage of the asset value. A lender may offer a loan of $40,000 to a company with $80,000 in land.
Then, the borrower pays off the asset based loan like any other loan. If the borrower defaults, the lender takes possession of the collateral to recoup their loss.
Asset based loans can be used for anything from getting cash to pay employees to getting funds to make a major acquisition.
Key Takeaway The amount given in an asset based loan is determined by the value of the borrower’s assets. Lenders prefer liquid assets to illiquid assets.
Who can take out asset based loans?
Businesses are the primary borrowers of asset backed loans, especially those who don’t have cash to offer but have physical assets with high value.
In the past, asset backed loans used to be geared toward small businesses, but they have become much more common and are now given to businesses of all sizes.
Today, large corporations even have an edge in obtaining this type of loan. This is because lenders prefer to give large loan amounts. The more assets a business has, the larger the loan it can obtain.
Manufacturing companies are especially good candidates, since they have an abundance of equipment and property to offer as collateral.
In terms of lenders, more banks and finance companies are offering asset loans than ever before.
Key Takeaway Asset based loans were primarily utilized by small businesses in the past, but they are popular now with even large corporations. They may offer higher loan amounts, lower rates, and more flexibility than traditional loans.
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