Payroll loans: What to know

Key takeaways

• Payroll loans are business loans that help businesses cover payroll and other employee costs

• You may need to state that you're using the funding for payroll when applying for the business loan

• You can use a variety of loans to cover cash shortages for payroll, including short-term loans and lines of credit

If you have a stack of unpaid invoices in your accounts receivable department, your cash flow may eventually affect payroll. A payroll loan can help you keep your employees paid while rebuilding your cash reserves.

Short-term loans provide temporary relief for payroll woes, and you can use the funds for anything related to your business.

What is a payroll loan?

Payroll loans are business loans that provide funding for businesses that may be short on cash for things like employee benefits, wages and payroll taxes. Payroll loans refer to how you use the lending funds instead of a specific financial product. You can use short-term small business loans, lines of credit or other types of funding to stay ahead of payroll when money is tight.

Types of payroll loans

You can use a few popular business lending products as payroll funding to bridge periods of financial hardship. Terms and interest rates will vary based on the lender and the type of loan. There are three types of business loans often used as payroll loans.

Type of loan	Best for	Typical terms
Short-term loan	Fast funding for an emergency	Often unsecured with financing up to $250,000 (sometimes more) Repayment periods of 24 months or under Interest rates are higher than long-term loans
Line of credit	Ongoing access to cash	Term lengths of up to five years Often have a draw period and then a repayment period May include draw fees for each withdrawal Interest rates may be competitive with other business loans
Invoice factoring	Businesses without a long history	Lenders will buy up to 90 percent of unpaid invoices May include both interest and factoring fees The lender may take over the responsibility of collecting invoice payments from business’s customers
Merchant cash advance	Businesses with credit or debit card sales	The financing company advances a portion of sales The advance is repaid by future sales The financing company often requires you to pay a percentage of your sales until the advance is paid back

When to use payroll loans

Your business may need a payroll loan to cover payroll expenses when there’s a cash shortage in the business. These loans are considered emergency loans, so you may want to avoid using them unless you’re in dire need. For example, you may:

• Have an unexpected expense that drains revenue normally used for payroll

• See a seasonal or economic downturn

• See diminished sales for a month or more

• Be waiting for unpaid invoices

You may also need the loan to cover payroll when you’re expanding your business, but revenue can’t quite support new employees.

Where to find payroll loans

Where to find a business loan will depend on a few factors, including your time in business and how quickly you need the cash. You can find payroll loans at any institution that offers business loans.

• Alternative lenders: Many businesses can benefit from alternative lending, often via online lenders, when they need a payroll loan. Online lenders characteristically have fast turnaround times, often offering approval and funding within 24 hours of a small business loan application. Alternative lenders have both short-term loans and lines of credit and may be willing to consider new businesses and startups.

• Traditional banks: Traditional banks often have the lowest interest rates, but they also have an underwriting process that can take time. These loans are best for businesses with at least a few years in operation who don’t need money today. If you think you’ll need a payroll loan in a couple of months, apply for a traditional loan or line of credit now.

• Credit unions: If your city has a credit union, it may also be a viable option for a payroll loan. Credit unions are member-owned and may be very involved in the community. They work with small businesses and can have competitive interest rates on fast short-term loans and lines of credit.

• Direct lenders: Direct lenders use their own money to fund a business loan. You can find direct lenders online via peer-to-peer lending sites. Some direct lenders have their own site and application process.

Bankrate insight

The government and Small Business Administration offered guaranteed Paycheck Protection Program (PPP) loans during COVID-19 that were forgiven if businesses maintained their employees on payroll. This program expired on May 31, 2021.

Pros and cons of payroll loans

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Pros

• Can find fast business loans

• Extra funds can be used for other purposes like inventory

• Some lenders will approve startups

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Cons

• Low interest rate loans take extra time for approval

• Increases your business's debt

• Short-term loans may have steep origination fees

Requirements for payroll loans

The application for a payroll loan is easier to complete if you have the right documents, especially if you’re going for an alternative loan with a fast approval promise. To get approved for a payroll loan, expect to provide several documents, including:

• Business tax returns

• Income statements

• Bank statements

• Business licenses and/or permits (when applicable)

• Financial projections

Bankrate insight

Payroll loans can be costly because the loan may come with high interest rates, origination fees and more. You may want to avoid these loans unless you have an emergency need to cover payroll.

How to avoid payroll loans

Avoiding payroll loans will be different for each business based on the financial situation that you’re in. You may want to consult a financial professional to see your specific next steps for avoiding the loan. Some general tips to help you avoid getting a business loan for payroll:

• Assess your business budget to see where you can cut expenses

• Use a business credit card to get through a short-term cash shortage

• Raise capital through venture capital funding or angel investors

• Predict future revenue, accounting for seasonality or market fluctuations

• Build an emergency fund to cover unexpected expenses

Alternatives to payroll loans

If you can’t get approved for a short-term business loan, the costs of a short-term loan are too high, or you would like to consider other options, there are alternatives. You can use these funds for working capital and long-term expenses, freeing up your cash flow for payroll costs. Here are a few alternatives to consider:

• Business credit cards. Business credit cards offer revolving credit and often have introductory offers or rewards and perks. Additionally, you won’t be charged interest if you don’t carry a monthly balance.

• Grants. Grants are free money that doesn’t have to be repaid. You may find regional or federal grants for businesses in your industry.

• SBA loans. The government backs SBA loans. They have interest rate caps, making them a good choice if the need for funds isn’t immediate.

The bottom line

Payroll loans are really just any financial product that can be approved for use as business cash flow. Short-term loans are one common option, but a line of credit may be a better option if you think you may have an ongoing need for extra payroll cash. Be sure to pay attention to fees beyond interest rates — origination fees, annual fees, draw fees and more can add up.

Frequently asked questions

• If you’re considering a payroll loan right now, you may be able to avoid a loan by cutting business expenses and reallocating the revenue to cover payroll. You can also use a business credit card to get you through this cash shortage and then take steps for the future. For example, you can forecast your revenue across the year and take into account the ups and downs of the market.

• Short-term payroll loan interest rates can vary between about 7 percent to 30 percent or more. Lenders factor in the length of time in business, business credit score, revenue and other details when assigning an interest rate.

• Yes. Business loans can be used to cover payroll when a company is having cash flow problems.