Interested in being your own boss and starting your own small business?
Once you settle on a great concept, you have to figure out how you'' finance your brilliant idea. Although some people can foot the bill from the beginning, many startups need a loan to get off the ground.
Big banks, smaller financial institutions, and private, alternative lenders all take loan requests from small businesses. But, the bigger banks approve about 25% of the loan requests for small business they receive.
Applying through a small bank or alternative lender gives you a much better chance of approval. These lenders accept about 50-60% of requests.
It's not as simple as filling out a form and hoping for the best. Knowing the right loan to apply makes a big difference in whether you get approved.
Read on for a breakdown of a fixed term loan vs. a line of credit loan. Once you do, you'll know exactly which one is right for your small business.
What Is a Fixed Term Loan?
A fixed term loan is when a business borrows a large, lump sum of money all at once. They then pay back the loan over a predefined period of time. You'll also see this referred to as a term loan.
This designated period of time may range from one year up to 20+ years. The payment amounts remain the same over the entire course of the loan repayment, which is why it's considered "fixed."
This differs from credit loans that get renewed every couple of years. Although most lenders prefer businesses offer collateral for fixed term loans, options exist for unsecured fixed loans as well.
The loan repayment period and interest rate will vary, depending on what institution grants you the loan. But, they won't vary during the term of the loan.
This gives you more flexibility at the beginning and security throughout the process. Since economic uncertainty is one of the biggest challenges that startups face, a fixed term loan offers some much-needed stability.
Keep in mind that you must begin repaying a fixed term loan immediately, even if you haven't spent a dime of the money yet. They also often come with higher interest rates and closing costs than an inventory line of credit loan.
Once you run out of money, you must reapply for a completely different and unconnected loan.
What Is an Inventory/Trade Line of Credit Loan?
An inventory or trade line of credit loan differs from a fixed term loan in many ways.
Rather than getting a lump sum of funds, it acts as a personal line of credit closer to a home equity credit line or credit card. You apply for access to a specified amount of funds and then, like a credit card, you do not incur interest or need to make payments until you actually use the borrowed money.
Lending intuitions generally offer two lines of credit: secured or unsecured. A secured line of credit means the borrower offered some type of collateral to guarantee the loan, usually receivables or inventory. An unsecured loan does not require the borrower to offer collateral.
Many lenders offer revolving lines of credit that allow you to withdraw funds multiple times, just like a credit card. For example, if you obtain a credit line of $100,000, you may use any part of that and still have access to the remaining portion. Then, if you pay it back down, you get access to all $100,000 again without needing to reapply.
An inventory line of credit often comes with lower closing costs and interest rates than a fixed loan of similar size.
But, be careful about making late payments! A late payment or overdrawn loan will increase your interest rate substantially since the rate gets renewed every few years.
Choose the Right One For Your Small Business
Trying to decide between a term loan and a line of credit loan? Here's some advice on when you should choose a fixed term loan versus an inventory line of credit loan.
Fixed Term Loans
Choose a fixed term loan if you plan to make a long-term investment. Borrowing a lump sum works best when you need to buy fixed assets, like capital equipment, that will take more than a few years to pay off. It also works for buying a whole business or if you need major construction.
Often lenders offer fixed term loans only for a certain purpose. Similar to a personal loan, you must present the lender with a case proving why you need the loan, what you plan to use the funds for, and how the plan will increase profits or sales for your business.
The lender wants to know you're able to pay back the loan in the time allotted.
Trade Line of Credit Loans
Also known as an operating line of credit, an inventory line of credit loan works best to finance your ongoing or daily operating expenses. It doesn't matter if you get a secured or unsecured loan, you can always think of a line of credit loan as an emergency credit card. It's your insurance policy during down months to provide a little extra cash when you need it.
Therefore, you should apply for a line of credit loan before you actually need the cash. Remember that to obtain a credit loan, you must show your business is already profitable.
Choose a line of credit loan for short-term projects or needs like seasonal expenses and payroll. They also work well for a quick financial boost when you need to make an unexpected payment or you experience a temporary shortage of cash flow.
Avoid using a line of credit loan for long-term investment projects, though. It ties up the money and prevents you from accessing it during an emergency, which is the whole point of this loan type.
Find a Reliable Lender for a Fixed Term Loan vs. Line of Credit Loan
Now you should be able to establish whether a fixed term loan or a line of credit loan is better for your small business. What comes next? You need to find a reliable lender and partner!
Our trusted loan advisors are ready and waiting to pre-approve your loan request in just a few minutes. Contact us today for access to up to $500,000 in funding to build the small business of your dreams!