Should You Get a Loan or a Line of Credit?

How To Decide What are lines of credit? When are loans a good choice? Let me share some of the experience I’ve accrued over the years as a small business owner and successful entrepreneur.

Loans Versus Lines of Credit

Even though your goal is the same with both options — to have capital for business expenses — loans and lines of credit go about things very differently. A loan is a large sum of money that you have to pay back with a concrete amount of interest.

On the other hand, a line of credit is potential financing that’s available. You pay interest on the amount of financing used. Lines of credit are revolving, so you can make many different
purchases with them.

The Pros and Cons of Business Loans

Conventional loans offer incredible interest rates compared to alternatives. This can literally save your business thousands of dollars or more. You may have up to 25 years to pay back a loan. Also, while lines of credit usually have a lower cap (around $40,000), term loans can easily cover purchases of $100,000–$500,000, from heavy equipment to building construction.

Of course, there are trade-offs. Virtually all loans require a business asset as collateral.
Companies need a good credit score (700+) to quality. Approval takes longer and you need
detailed business records.

The Advantages of Lines of Credit

Lines of credit are flexible. You only pay interest on what you use. You decide how much you
need, when and how, no questions asked.

Business credit is like a safety net for your company. Think of all the opportunities: website
development, digital marketing, more employees, bulk discounts on inventory and equipment leasing.

What about downsides? Depending on your credit score (and how good you are about paying off debts), interest rates are generally higher, at least 8% APR and often closer to 15–20%. In
comparison, traditional loans can go as low as 2–3% interest, or 7–8% for SBA loans.

The Dangers of Alternative Loans

Be very careful with hard money loans and other emergency financing. They can be useful for short-term needs if you have poor credit, but the enormous interest rates can suck you into heavy debt quickly. If possible, stick to long-term financing, SBA 7(a) loans, invoice factoring or microloans from lenders with a good reputation.

Ways To Use Loans and Lines of Credit

Both of these financing options are valuable for business owners. Some circumstances obviously favor one choice over the other:

• Emergency financing: Lines of credit are a clear winner in this category. For one thing,
they’re always ready to go. You don’t have to wait for approval in an emergency.

• Equipment purchases: Things like heavy machinery are best left to term loans because of
the lower interest rates. If you need to buy a new computer, it’s usually faster and easier to
use your business credit.

• Real estate financing: Always use long-term loans for anything related to real estate,
including remodeling, construction and expansion. If you have a small business, look at SBA
loan options for the best interest rates on real estate.

The truth is that there’s no right and wrong when deciding between loans and lines of credit. The difference comes down to your specific needs. Take advantage of these tools wisely for amazing business growth.