Business Line of Credit vs. Term Loan: Which Is Right for You?

When deciding between a business line of credit and a term loan, the right choice depends on your business needs. Here’s a quick breakdown:

• Business Line of Credit: Best for short-term, flexible funding like managing cash flow, seasonal expenses, or emergencies. You borrow as needed, only paying interest on what you use. Approval rates are higher (71%), but interest rates can vary and may be high.
• Term Loan: Ideal for long-term investments like equipment, real estate, or expansion. You get a lump sum upfront with fixed payments over time. Approval rates are lower (57%), but interest rates are more predictable and often lower.

Quick Comparison Table

Feature	Business Line of Credit	Term Loan
Fund Access	Revolving credit	One-time lump sum
Interest Rates	Variable (up to 99% APR)	Fixed (6.54%–11.7% at banks)
Repayment	Flexible, based on usage	Fixed monthly installments
Term Length	6 months to 5 years	1 to 25 years
Collateral	Often unsecured	Usually required
Approval Rate	71%	57%

Key Takeaway: Use a line of credit for short-term, flexible needs and a term loan for large, long-term investments.

Business Line of Credit Basics

Main Components

A business line of credit works similarly to a credit card. It gives you access to a set amount of funds, which you can draw from as needed. The big difference from a traditional loan? You only pay interest on the amount you actually use, not the total credit limit ^[1].

One standout feature is its revolving nature. As you repay what you've borrowed, your available credit is restored. For example, if you have a $100,000 credit line and borrow $30,000, you’ll have $70,000 left. Pay back the $30,000, and your full $100,000 limit is available again.

In the U.S., credit lines typically range from $10,000 to $500,000, with terms spanning 6 months to 5 years ^[4]. Most come with variable interest rates tied to the Prime Rate. For instance, Chase Business Line of Credit requires a monthly payment of either accrued interest plus 1% of the outstanding balance or $100, whichever is higher ^[4].

"A business line of credit is a very specific lending product designed to bridge the gap between a company's buying and selling cycle." - Mike Beasley, SVP, Commercial Banking Division Director Eastern Washington and Idaho ^[6]

This revolving setup is especially helpful for businesses dealing with fluctuating financial demands.

Best Uses

Business lines of credit are ideal for several situations:

Purpose	Application	Benefit
Cash Flow Management	Cover payroll during revenue dips	Keep operations running smoothly
Seasonal Preparation	Buy inventory before peak seasons	Take advantage of bulk discounts
Emergency Expenses	Handle unexpected repairs or costs	Quick access to needed funds
Working Capital	Finance accounts receivables	Bridge gaps in supplier payments

This flexibility makes a business line of credit a go-to option for short-term financial needs. For example, retailers often use it to stock up on inventory ahead of their busy season, allowing them to secure supplier discounts while preserving cash flow ^[6].

The revolving structure is especially helpful for handling irregular expenses or seizing opportunities. Since you can draw funds multiple times without reapplying, it’s a practical solution for businesses with fluctuating capital needs ^[5]. You only pay interest on the amount you use, keeping it cost-effective while maintaining financial flexibility.

Term Loan Basics

Main Components

Term loans provide a lump sum upfront, which borrowers repay over a set period with either fixed or variable interest rates. They offer structured financing with predictable payments ^[8]. Loan amounts typically range from $5,000 to $5 million, with APRs between 6% and 99%, depending on credit scores and market conditions ^[8].

Repayment comes in two formats ^[11]:

Payment Type	Principal	Interest	Total Payment
Even Principal	Fixed amount	Decreases over time	Decreases gradually
Even Total	Increases over time	Decreases over time	Remains constant

Term lengths fall into three categories: short-term (less than 1 year), intermediate-term (1–3 years), and long-term (3–25 years) ^[9].

"A term loan provides borrowers with a lump sum of cash upfront in exchange for specific borrowing terms." ^[9]

For secured loans, the purchased asset often acts as collateral, which can lead to better interest rates ^[10].

These features make term loans a reliable option for funding large-scale, long-term projects.

Best Uses

Term loans work well for established businesses planning major investments.

Investment Type	Typical Term Length	Benefits
Real Estate	Up to 25 years	Lower monthly payments, potential tax advantages
Equipment	5-10 years	Matches the lifespan of the asset
Business Acquisition	3-10 years	Structured payments for large purchases
Leasehold Improvements	5-10 years	Aligns with lease terms

For instance, a construction company used a $250,000 term loan to buy a marble and granite saw. This purchase increased cutting capacity from 400 to 900 square feet per hour, significantly boosting sales ^[7].

"If you need to invest in a new fixed asset for your business, such as property, equipment, or even acquiring a part or whole of another company, term financing is almost always the way to go." ^[7]

The predictable payment schedule makes term loans a great fit for projects requiring longer timelines ^[12].

Next, we’ll compare these financing options side by side to highlight their key differences.

Term Loan vs Line of Credit: Which Is the Best for Your Business?

Side-by-Side Comparison

Now that we've covered the basics, let's take a closer look at these options to help you decide which one suits your needs better.

Core Differences

Here’s a breakdown of how business lines of credit and term loans compare in key areas:

Feature	Business Line of Credit	Term Loan
Fund Access	Revolving credit up to limit	One-time lump sum
Interest Rates	Variable (up to 99% APR)	Fixed (6.54% to 11.7% at banks)
Repayment Structure	Flexible payments on used amount	Fixed monthly installments
Term Length	6 months to 5 years	1 to 25 years
Collateral Requirements	Often unsecured	Usually requires collateral
Approval Rate	71%	57%

While business lines of credit offer easier access, they often come with higher variable rates and lower credit limits.

Pros and Cons

Let’s dive into the strengths and weaknesses of each option to better understand their suitability.

Business Line of Credit

Advantages:

• Borrow funds as needed and pay interest only on the amount used.
• Revolving credit allows you to borrow again after repayment.
• Easier to qualify for, with higher approval rates.
• Great for managing seasonal cash flow.
• Often doesn’t require collateral.

Disadvantages:

• Variable interest rates can climb as high as 99% APR ^[13].
• May include extra fees like annual, inactivity, or draw fees.
• Usually offers lower credit limits compared to term loans.
• Requires more frequent renewals or reviews.

Term Loan

Advantages:

• Fixed interest rates at banks are lower, ranging from 6.54% to 11.7% ^[13].
• Predictable monthly payments make budgeting easier.
• Provides access to larger funding amounts.
• A better option for long-term investments.

Disadvantages:

• Higher upfront costs, including closing and origination fees.
• Often requires collateral to secure the loan.
• Less flexibility in how and when you access funds.
• Stricter qualification criteria to meet.
• May include penalties for early repayment.

sbb-itb-a3ef7c1

Choosing Your Financing Option

The best financing option for your business depends on your specific needs and financial situation. Let’s break down when each option works best.

When to Use a Line of Credit

A business line of credit is ideal for flexible, short-term financial needs:

Managing Seasonal Fluctuations
Use it to cover cash flow gaps during slow periods or to stock up on inventory before peak seasons. Pay it down as sales pick up.

Emergency Expenses
Quickly address unexpected costs, such as equipment repairs or urgent inventory purchases. You only pay interest on the amount you borrow.

Short-Term Working Capital
Handle operating expenses like payroll or supplies when cash flow is tight. Borrow and repay as needed, giving you ongoing flexibility.

When to Use a Term Loan

Term loans are better suited for larger, one-time investments:

Making Major Purchases
Finance expensive items like equipment, real estate, or other significant assets. Fixed interest rates and predictable payments make budgeting easier.

Expanding Operations
Secure funding for growth initiatives, such as opening new locations or acquiring another business. Term loans provide the large, fixed amounts you need for these ventures.

"Understanding the difference between a term loan and a line of credit ensures you choose the right financing tool for your business. By considering the purpose of the loan, the repayment structure, and the overall costs, you can make a decision that supports your business's long-term success."
– Josh Andrade, AVP / Relationship Manager, Washington Trust Bank ^[3]

Long-Term Investments
Align the repayment period with the lifespan of the investment. This ensures payments are manageable and match the returns over time.

"You want to make sure that your repayment period aligns with the life of the goods or services you're financing." ^[2]

Quick Comparison of Financing Options

Business Need	Recommended Option	Why It Works
Seasonal inventory	Line of Credit	Flexible draws fit cash flow cycles
Equipment purchase	Term Loan	Fixed payments align with asset life
Emergency repairs	Line of Credit	Provides quick access to funds
Business expansion	Term Loan	Large funding with structured payments
Short-term working capital	Line of Credit	Revolving credit for daily operations

Pick the financing option that aligns with your business goals and cash flow patterns. Lines of credit give you flexibility for recurring or unexpected needs, while term loans offer stability for big investments ^[1].

Requirements and Process

Here’s a breakdown of what it takes to qualify, apply, and repay when considering these financing options.

Qualification Requirements

Lenders evaluate term loans and business lines of credit differently. Term loans often come with stricter criteria because of their longer terms and larger loan amounts.

Credit Score Requirements

• Business Line of Credit: Minimum credit score of 560
• Term Loan: Minimum credit score of 600

Key Business Criteria

Requirement	Business Line of Credit	Term Loan
Time in Business	1 year	1–2 years
Annual Revenue	$200,000	$200,000–$250,000
Documentation	Basic financial statements	Comprehensive documentation
Collateral	Sometimes required	Usually required

Application Steps

The application process varies depending on the type of financing.

For a business line of credit, the process is quick and straightforward:

• Fill out an online application in just a few minutes
• Provide your business Tax ID (EIN) and Social Security number
• Share industry details and revenue information
• Link your business bank account
• Get a decision in real time ^[14]

Applying for a term loan is more involved:

• Start with a basic application
• Meet with a financial advisor to confirm qualifications
• Prepare a full documentation package
• Submit a formal application
• Undergo an in-depth review by the lender ^[15]

Once approved, the repayment terms for each option have distinct differences.

Payment Structure

Business Line of Credit:

• Repayment terms range from 6 months to 5 years and may be renewable
• Interest is charged only on the amount you borrow
• Operates as a revolving credit structure ^[1]

Term Loan:

• Terms can range from 1 to 25 years
• Requires regular installment payments
• The total principal and interest must be repaid within the loan term
• Short-term loans may have terms as brief as 3 months ^[1]

Lenders may also assess your debt-service coverage ratio (DSCR) and could require a personal guarantee. These factors can impact both repayment terms and the overall cost of the financing.

Conclusion

Choose a financing option that fits your business goals. Here's a quick recap of the key differences:

• Purpose of Funding: Pick a financing option that aligns with your timeline and objectives.
• Access Requirements: Term loans typically need a stronger financial profile compared to lines of credit.
• Cost Structure: Term loans come with fixed rates and consistent payments, while lines of credit often have variable rates.

Take time to review these factors and make sure your choice supports your overall business strategy. Evaluating your cash flow can help pinpoint what type of funding you need ^[2].

For guidance, Clearly Acquired's team is available to help you find the financing solution that works best for your business. Whether you're navigating seasonal demands or planning for long-term investments, the right financing can provide a solid financial base for growth.

FAQs

Create Your Account