Business owners will need to borrow money from time to time, sometimes a lot of money. In such cases there are typically two options available: a business line of credit and a business loan. What exactly does a business line of credit or a business loan entail and which one is the right option for your business?
Business Line of Credit
A business line of credit is revolving credit, allowing you to borrow up to a designated limit that accrues interest. Think of it like a credit card. As such, you will have to pay interest only for the amount borrowed. You can either pay the full amount or only the minimum each month, just be aware that any remaining balance will accrue interest. As you repay your balance you will be able to borrow again without having to reapply and get reapproved.
Business lines of credit are suitable for short-term financial needs, useful when a business owner needs to pay seasonal employees or when an unexpected need for fund arises, an emergency fund, as it were. The funds are available to draw from if you need, but if you don’t then there isn’t anything to pay back.
You can get a business line of credit at direct online lenders and banks. These are typically smaller than loans and because many banks don’t like to make small loans, around $250,000, a business line of credit may be the right option for you.
A business loan is installment credit. Also known as term loans, business loans will provide your business a lump sum that you will be paying back over time, with interest. Different types of business loans are available for different situations.
Short-term business loans are smaller and intended for smaller, immediate needs, such as buying inventory or paying seasonal employees. These types of loans usually come in six to 24-month terms. Larger than a short-term business loan, a long-term business loan is intended for financing long-term investments. These are suitable for large projects, such as buying or remodeling a building. Long-term business loans are repaid over years, with a minimum of three. With invoice financing, funds are advanced to your business against outstanding invoices, minus a fee. Available from manufacturers, equipment financing companies and banks, another type of loan is an equipment loan. It is designed to help you buy equipment or machinery that will be considered collateral.
Business loans have fixed interest rates and are available from direct online lenders, large commercial banks, and community banks. SBA-guaranteed loans, which are backed by the Small Business Administration (SBA), are created through approved lenders. These can range from $500 to $5.5 million. Bank loans as well as SBA loans generally require bank statements, financial statements and projections, detailed business plans, as well as contracts and incorporation documents. They may also require collateral. Lenders consider business and personal credit scores, so you will need to provide a business credit report, personal credit report and your personal credit score.
Which Option is Right for your Business?
If you don’t want restrictions in how you use your borrowed funds, then a business line of credit is what you need as business loans are limited to specific uses. You can’t, for example, use an equipment loan to pay your employees. If you need a large sum, well over $250,000 and don’t have any qualms about providing collateral, consider a business loan. If you want flexibility, a business line of credit will allow you to borrow only what you need and only when you need it. If you’re more comfortable paying the same amount month after month, a business loan with its set monthly payments and fixed interest rate is best suited for you. If you need to build up your credit score, a business line of credit will help you do just that.
Carefully consider your long-term goals, financial needs and business track record to see which is the right option for your business.