Stretch Loan: Definition & Meaning

KEY TAKEAWAYS

• A stretch loan is a specific type of financing that lets a business or individual cover a short-term gap until they are able to receive more money to pay off the loan.
• In an individual’s case, a stretch loan works very similarly to a payday loan. However, it’s usually cheaper when it relates to fees and interest rates. 
• If a business doesn’t have sufficient working capital, it might be looking for a stretch loan to help finance things like an inventory purchase. 
• Stretch loans can offer a level of convenience, however, they usually have higher application fees and interest rates compared to traditional loan programs. 

What Is a Stretch Loan?

There are different types of financing that individuals or businesses can get, and a stretch loan is a type of business loan to help cover short-term gaps. To keep things simple, the loan basically stretches over the gap so that the borrower can meet their financial obligations when it comes to the purchase price. 

This usually comes into play while the borrower is waiting to receive more money so they can pay off their loan in full. A stretch loan can also be called a Payday Alternative Loan (PAL) when it’s issued by a federal credit union.

How Does a Stretch Loan Work?

A borrower would get a stretch loan from a financial institution that they already have good standing with. In the case of an individual, they would use the funds to help cover things like bills and basic living expenses until they receive their next paycheck. This usually happens through a payday loan or personal loans. 

Once they receive their paycheck, they then pay off the loan. There are usually simple credit checks with these loans and they’re offered by credit merchants that are smaller but are still regulated. 

A stretch loan often charges interest rates that are lower than payday loans. The biggest reason for this is that stretch loans are usually only offered to existing customers of a credit union or bank. This is since they have already demonstrated an ability to repay any debts that they might have. 

Businesses might choose to take out a stretch loan to gain some extra working capital. For example, if a company wanted to buy new inventory but hasn’t received payments on their accounts receivable, they could take out a stretch loan to cover the costs. 

Once they receive their outstanding accounts receivable they would then pay the stretch loan 

Drawbacks of a Stretch Loan 

Even though a stretch loan offers a different level of convenience, it can end up being more expensive than a traditional loan. They’re going to have higher interest rates and there are usually application fees that you would have to pay before moving forward. 

Before taking out a stretch loan, it’s important to understand a few important aspects. These can include:

• The loan terms, including the maximum term and other term lengths 
• The time frame for repayment 
• Whether you need to provide any money upfront

Benefits of a Stretch Loan 

There can be a range of benefits that a stretch loan can provide, but it may largely depend on what your business might need the loan for. Even though it can be a little more costly compared to personal loans, stretch loans often come with a lower rate of interest. 

A business might also decide to take out a stretch loan to obtain extra working capital for a short period. There can also be a level of convenience for the consumer when they’re in a time of need. 

Example of a Stretch Loan

Typically, a borrower would inquire about a stretch loan from a financial institution they already have a relationship with. For example, a stretch loan works similarly to payday loan applications. However, borrowers often use payday loans to help cover basic living expenses and other personal bills and it usually comes with a high interest rate.

Instead, you could look into a stretch loan which can be costlier but charge a lower interest rate on the maximum loan. You’re more likely to be able to receive this from your financial institution since you have a history and demonstrated ability to repay your debts. 

Another example is a business that needs to restock its warehouse. Yet, it hasn’t collected most of its accounts receivable, making it difficult to make a capital purchase. The business decides to take out a stretch loan from its bank, instead of a normal working capital loan.

This helps the business generate additional financing to cover the inventory purchase. After the outstanding accounts receivable is collected, the business would pay off the stretch loan.

Summary 

A stretch loan is a type of financing that a business or individual can obtain to help cover short-term gaps. It allows the borrower to stretch out their financial obligations so they’re able to pay them off when they can. It’s most common in the form of a familiar payday loan when it comes to loan costs. 

It works in a different way compared to commercial loans, a permanent loan, personal property loan, and mezzanine loans, for example. If you want to explore a potential loan estimate, you can use an online loan calculator to find out more. It can break down the loan process including your monthly loan payment.