A simple guide on small business loan vs line of credit

Small business loans are similar to personal loans, but for business purposes. It's a lump sum of money that you receive from your lenders.​

As with personal loans, repayments and interest are scheduled for these loans. The total repayment amount is broken down into smaller repayments which are usually due on a regular basis (e.g., weekly, monthly). In essence, you have to pay the interest in addition to the amount borrowed throughout the loan term. Small business loan interest rates sometimes can vary, some lenders tailor their interest rates based on the business’s circumstances. ​

Like credit cards, a business line of credit works similarly. It means you can borrow money up to a credit limit and repay it over time. Once you’re approved to access a line of credit, you’ll be able to withdraw funds whenever it’s needed. Also, you only pay interest on the money you withdraw, not on the total amount of the credit limit. ​

For example, if you have a $10,000 line of credit, you could withdraw $2,000 to purchase equipment for your business. You’ll only need to pay the interest on that $2,000, at the same time, you still can use the remaining $8,000. ​

Now you’ve learnt the differences between a small business loan and a line of credit, you’ll want to decide what works best for you. ​

Here are some key questions to ask yourself before making your decision: ​

With these questions in mind, there are a few extra factors you should take into consideration when choosing a small business loan or a line of credit. ​

Small business loans generally offer a longer borrowing period than lines of credit. If you need to purchase expensive business assets or equipment, it’s likely that a small business loan is better than a line of credit. However, if you need help with working capital or extra cash for meeting expenses for a short period, especially when expenses and income have yet to catch up to pay for employees’ salary or rent, a line of credit could be more appropriate. ​

A major difference between a small business loan and a line of credit is that some lines of credit are revolving. The funds from the line of credit can be used up to your approved limit and repaid without having to reapply. A small business loan, on the other hand, is a lump sum you can borrow and repay once, with interest. If you run out of the borrowed money in your small business loan, you'll need to apply again. ​

In general, small business loans are best used for specific projects while lines of credits are more like business credit cards that you can use when you need it.​

You can apply for a business loan if you want a predictable payment schedule. By having a small business loan, you will have control over the repayment amount and period, and you can include those into your budget and forecast. On the other hand, the line of credit can be less predictable. You only repay it if you start to use the fund. It could be a good option if you have an inconsistent or unpredictable cash flow.​

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