When most people want to start or refinance their business, they usually seek credit support from lending institutions. However, most of the borrowers are only familiar with and aware of business loans. Few of them understand the application procedures and payment terms involved in credit lines. That is understandable as both are unique and different in their own ways. This difference leaves potential borrowers with a dilemma when choosing the most suitable funding option for their business.
What’s A Business Loan?
A business loan is where a borrower gets all the financing at once and repays it over a period of time. Within that specified time, the borrower has to keep paying the agreed amount with interest on top. Most long-term business loans will ask for collateral to act as the security for the loan.
What’s A Credit Line?
A line of credit is a floating type of cash advance that you can access whenever you need it. After borrowing within your credit utilization limit, then you can repay it later. You can only borrow the money after you have cleared the outstanding balances.
Comparison between Business Loan and Credit Line
1. Application Timing- with a business loan, you can only apply for it whenever you need it. For example, to boost the inventory, lease a machine or hire new workers. With a line of credit, you can apply even when you don’t need it at that moment. For a business owner, credit lines can be used in different ways. Unlike a loan, credit line funds don’t have to be for a specific purpose.
2. Repayments- Loans come with strict repayment terms that expect borrowers to make monthly repayments with interest on top. This does not matter whether you start the business right away or not, as there are penalties for missed payments. With credit lines, borrowers do have to make monthly payments, and their balances are cleared once the borrower makes the full repayments.
3. Reapplication – lines of credit do not need reapplication as you can get the fund once you have cleared the outstanding balances. Loans do not offer renewal agreements, and once you clear the balances, you will have to reapply if you need further financing. New loans are likely to come with new interest and repayment terms.
4. Interest Rates- Business loans usually come with stiffer interest rate terms. They also come with fixed interest rates throughout the repayment period. On the other hand, business owners using lines of credit normally enjoy lower interest rates. However, interest rates will depend on the borrower’s repayment history, as late repayments are likely to attract higher interest rates next time.
5. Application And Approval Flexibility- A borrower can request credit line financing and receive it within a few hours or days. With loans, a borrower has to follow the due process of making and filing an application. They also have several weeks before they get approved.
6. Loan Use and Period- Borrowers will make loan applications with clear minds on how they plan to use the funds over a certain period of time. Normally a business owner will make a loan application with a long-term view on it. This may include buying valuable business assets such as vehicles, buildings, and equipment or when trying to make an acquisition. These are large and demanding transactions that require a large pool of cash. Lines of credit, however, are used for short-term needs. Needs such as boosting the inventory, paying workers, or other business-related emergencies.
7 Loan Closing- Business owners always pay close attention to closing costs before choosing funding options. Lines of credit will usually carry little to no closing costs. The only costs in lines of credit include normal processing and withdrawal fees. Business loans, however, have closing costs that account for over 5% of the overall loan cost.
Which one should you choose?
Your financing choice should be determined by several factors. Among the determining factors should be the nature of your business needs. If you have an urgent and less demanding business need, then lines of credit would be your most viable option. Although they come with relatively lower loaning amounts, credit lines are flexible in applying and withdrawing. Enterprises with long-term business needs, such as buying real estate or a fleet of vehicles, should opt for business loans. They offer a wide large pull of funds to businesses that need to fund financially demanding projects.
Image by Steve Buissinne