A small business loan can be installment or revolving as both are used to grow upcoming enterprises. An installment loan provides a fixed capital, which you pay back with interest in monthly installments for a stated period. Revolving credit gives the funds needed to a specific limit. The minimum amount of money spent is paid monthly.
- Installment loans usually include equipment or vehicle loans, term loans, etc.
- Revolving credit is an open-ended credit and some common examples are business credit cards, lines of credit, or trade lines from vendors
- Both installments and revolving credit are available in secured and unsecured forms
- Revolving credit has an easy application process unlike installment loans
- Installment credit allows you to borrow a higher amount compared to revolving credit
What’s An Installment Loan?
An installment loan involves a fixed lump sum borrowed for a certain period (the term) which you’ll need to pay back monthly, i.e., principal and interest for the period of that loan term until the full repayment is made, thus ending the credit cycle.
Unlike revolving credit, the funds repaid on installment loans aren’t to be borrowed back unless you submit a new credit application and are approved.
Small businesses may use the money to cover their business costs or purchase business assets, but the purpose of an installment loan is generally specified with the application.
In the business installment loans category, banks, credit unions, or online lenders offer both short-term and long-term business loans. Qualifications vary depending on the lender. Borrowers pay fewer interest rates on secured loans because the lender risk is less, unlike unsecured ones, which they pay more.
Pros Of Installment Credit
1. Predictable payment because you’re always provided with a set monthly repayment amount for a stated period
2. Low borrowing costs.
3. Give you a chance to borrow a higher amount compared to their types of loans.
4. You get cash upfront to invest in your business.
5. You can get a long repayment term depending on the amount borrowed.
Cons Of Installment Credit
1. Hard to qualify
2. You might need a personal guarantee or collateral
3. It may take time before getting the money
4. The long and vigorous application process
5. Penalties on prepayment and late payment
How To Get Installment Loans For Business?
Getting a loan of any type for your business might be tricky, especially if it is a startup business. Also, it can be easier than you think, especially if you have a good credit score, assets and the company is doing great.
Here is what you need to get an installment loan for your business:
Good Credit is excellent for someone with good business credit already in place since it will be easier to get the funds. But for a startup, you’ll need at least good personal credit for you to be considered for a loan by some lenders. Check your credit report and see where you fall under based on lenders lending ratings.
Collateral/ Security: Lenders need collateral/ security like a car or proof of ownership of certain assets to secure their installment loans. Having security, in this case, doesn’t mean you’ve to sell your assets to get cash. It only means the lender can sell those assets for a certain amount if you default on payment.
Additional Guarantees: lenders may ask you to provide another proof. They may need personal security from you, and that means the lender may take some of your assets, like your house, if you default on the loan given. Also, you may need to find a co-signer who has assets to pledge you get the loan.
A Business Plan: If you’re a startup business, you may need to prepare a comprehensive business plan to justify the amount you want, plus the assets you will pledge and their value. The business plan should also indicate the ability of the business to generate enough capital to pay the bank the lender’s money.
What’s Revolving Credit?
It’s an open-ended credit account that you can use anytime for any business purpose, up to a specific borrowing limit. You are supposed to pay a minimum amount on the money spend or what you have used. Interest is charged at a certain percentage of the unpaid balance.
The payment amount may vary depending on the money spend, and the money you borrowed is available for borrowing again. These include business credit cards, lines of credit, or trade lines from vendors.
For example, let’s say you’re given a line of credit of 30,000 dollars for your small business. Within the first month, you take out 20,000 dollars but manage to pay back 10,000 dollars that same month, which means that you’ll pay payments and the interest on the 10,000 dollars you still owe. You can still be able to access the remaining 20,000 dollars.
Pros Of Revolving Credit
1. Flexible: business is allowed to borrow what they need and pay it back at the end of the billing cycle
2. Easy application process unlike installment loans
3. Collateral might be optional
4. limited interest: interest is based on what you borrow
5. Continuous access to funds: you can withdraw and repay the account balance repeatedly
6. Cash backs and travel rewards on different credit cards offers
Cons Of Revolving Credit
1. Good credit required
2. Annual and maintenance fee
3. Higher interest rates compared to non-revolving
4. Interest isn’t tax-deductible
5. It can impact your credit negatively if managed poorly.
Difference Between Installment Loans And Revolving Credit
Both of these types of business loans offer various companies access to the funds they are seeking, but there are a few key differences you need to know like;
How Do You Get Your Funds
With installment loans, you’ll receive a fixed lump sum when your loan is approved. But, on revolving, you only take what you need up to a set maximum limit.
When Does Payment Start?
For installment loans, the payment is often fixed, and it includes the principal plus interest. Usually, it starts after you receive the funds.
As for the revolving credit, the payments are charged after you draw the money. But, it will depend on the amount you have withdrawn, and you can pay a minimum monthly.
Annual Percentage Rate (APR)
The APR in installment loans ranges between 5 percent to 35 percent, and its often fixed. While for revolving credit, the AVR ranges between 7 percent and 24 percent and usually varies.
The possible fee you can pay on an installment loan includes an origination fee, late fee, application fee, prepayment fee, and administrative fee.
As for the revolving credit, the application fees include application fee, prepayment fee, monthly/annual account fee, origination fee withdraws, and late fee.
The term in installment loans is determined before, and it might be months or years. For revolving, the duration depends on how much you’ve taken out and the minimum payments.
It can be tough to qualify for installment credit based on your credit score, and the interest can be lower, especially for secured loans. As for the revolving credit, the interest might be higher and not that difficult to qualify for one.
Examples of installment loans include personal loans, auto loans, term loans, and mortgages. Examples for credit include credit cards, credit lines, and others.
Which One Is Better For You? Installment Loan VS. Revolving Credit
There’re significant points to consider when determining which one of these two options is suitable for your small business.
First, determine how much you need for a particular purpose you’re borrowing and if you’ll need it at once. You might be able to get more if you go for an installment loan than revolving credit.
Be sure if you need cash or credit. You may need a loan or line of credit if you’re purchasing vehicles for your business. But, if you want a resource to help you buy supplies from a vendor, go for a business credit card or tradeline.
An Installment Loan May Be Suitable For Your Business If;
1. For instance, you require a lump sum upfront to get a great deal on a major purchase.
2. The small business has a relatively stable income so that you can budget for regular income.
3. You’ve good credit, and your business is well established, meaning you’re likely to get good loan terms.
Revolving Credit May Be Suitable For Your Small Business If;
1. You want to be prepared for future financial needs, and you don’t want a lump sum amount instantly.
2. You need a relatively small amount quickly to access and take advantage of available business opportunities or pay for any shortfalls.
3. There is a need for those credit card perks offered to which your business will benefit. For example, a card that gives miles might help defray those costs.
Depending on your company’s financial strength and situation, you can use installment or revolving loans to grow and help manage your business. But, before you dive in, ensure you research, compare lenders, and consult with your team advisors, mainly the financial business advisor, on the best solution in certain circumstances. Remember paying your debt on time will boost your credit score, and spending the funds on nonessentials will put you in deeper debt.
Last Updated on October 30, 2022 by Magalie D.
Magalie D. is a Diploma holder in Public Administration & Management from McGill University of Canada. She shares management tips here in MGTBlog when she has nothing to do and gets some free time after working in a multinational company at Toronto.