Two options are available for small businesses to take a loan. Business loans and line of credit.
In case of a business loan, the rate-of-interest and the repayment terms are agreed between the business and lender, before the loan amount is disbursed.
In the case of line-of-credit, the company may only use part of their line of credit amount and would be liable to pay interest on the amount borrowed as per the terms defined in the contract.
Here are the differences between a business loan and line of credit:
1. Can be used for
Business loans are granted for any business purpose and a particular amount has to be paid including interest even before an agreement is signed.
In case of a line of credit, this can be used to get funds within the overall credit limit.
2. Eligibility criteria
Lenders consider the business finances carefully while granting the loan, and business activity.
But, to be eligible for a line of credit, you have to have a good credit score. Other factors that are considered are your income and debt-to-income ratio.
3. Repayment terms
In a business loan, you have to pay monthly instalments which do not change for the entire term.
But with the line of credit, you have to pay the amount you borrowed and if you reach out the limit, you won’t be able to take on any more credit to pay until you pay the previous one first.
4. Account closing costs
The cost of closing a business loan is higher as compared to the line of credit. Cost of closing a business loan will be 2-7% of your total loan amount.
Whereas, the cost of closing a line of credit is very minimal.
5. Loan term
Small business loans are usually better for the long term that can be paid off over a longer-term.
Even if the line of credit is considered best for short term, it is advised to use the line of credit only immediate or short term cash requirements because of the higher cost of funding attached to it.
6. Rate of interest
The rate of interest that lenders charge for a business loan is usually fixed and does not change over time. This makes them more efficient for long-term funding.
And in case of a line of credit, the interest rate is usually lower but varies. Hence, timely payments should be made, otherwise, there can be additional charges.
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