When you look at financial possibilities for your small business, two repayment structures are probably what you’ll see. One structure can mandate that you pay back your debt in equal monthly payments. You might be able to repay items on your own terms using an alternative arrangement. When describing this arrangement, you may hear words other than “loan,” which may be used to describe the latter type, leaving you to wonder: Is a small business loan installment or revolving?
Is a Small Business Loan Revolving or Installment?
Loans for small businesses might be ongoing or installment loans. For instance, business lines of credit are revolving, whereas SBA 7(a) loans are installment loans. Both equipment loans and microloans are available.
Installment loans: What Are They?
Installment loans are any type of financing that requires constant monthly payments. Compared to revolving loans, installment loans frequently feature longer repayment terms and greater loan sums.
Some installment loans feature fixed interest rates, which means that your monthly borrowing costs will remain constant over time. Others have variable interest rates, such SBA 7(a) loans. Even while your monthly principal payment remains the same, you’ll often spend less on interest on your loan.
How Do Revolving Loans Work?
Revolving loans provide access to a set amount of money without requiring you to spend it all at once. A common example is business credit cards: You are not required to use your card’s entire $50,000 credit limit.
You are permitted to borrow the whole amount of any revolving loan for a single transaction. The remaining money can then be used for additional purchases or you can decide not to use any of it at all. Any money you don’t utilize won’t be subject to fees or interest.
Important Distinctions Between Installment Loans and Revolving Loans
Loan types such as installment and revolving have distinct surface-level characteristics. The advantages and disadvantages of each are not totally covered by these differences. You should be able to choose which loan type best meets your needs by considering the differences between each loan that go beyond the surface.
In comparison to installment loans, revolving loans have the following advantages and disadvantages:
- Less than the total loan amount may be borrowed. Let’s imagine you have a new hire this month, and you need $5,000 more to cover payroll. You can use just the $5,000 required for payroll if you take up a revolving loan with a $10,000 credit limit. There are no expenses associated with the $5,000 that is left over.
- Money can be withdrawn more than once. You can easily use a revolving loan to get access to the remaining $5,000 of your credit line at any time if you unexpectedly need it. The exception is if your credit line has an expiration date. You would then need to withdraw the $5,000 before closing the credit account. You won’t be charged for any money you didn’t borrow in either case.
- The loan can be repaid at your own pace. Monthly payments are not required for revolving loans. You have the option of making a single large payment to repay your debt or multiple smaller ones. It’s up to you when and how you repay everything as long as you do it by the due date.
- It is easier to apply. Some company credit lines don’t need customers to have excellent personal or corporate credit ratings. Since these credit lines are frequently easier to apply for, you can stabilize your cash flow sooner rather than later.
- You can avoid the use of collateral. You can only get some small business loans if you pledge specific assets as collateral. In this manner, the lender might seize your property and sell it to reclaim any unpaid loan balance. Some revolving loans don’t require this collateral. They may be safer bets if you are concerned about losing your assets.
- They are not eligible for tax deductions. Certain loan kinds may decrease your taxable income. Revolving loans usually don’t have this benefit.
- Your credit score can decrease. Your credit score may drop between using funds from your revolving credit line and making the required repayments. Your overall credit health could be harmed if you use the majority or all of your credit line and don’t make any payments for a period.
- The interest rates you pay will increase. Revolving loans nearly always have interest rates that are substantially higher than installment loans. In fact, the APR on some corporate credit lines can reach 99%. This could result in you having to repay twice as much as you borrowed.
The following are installment loans’ benefits and drawbacks.
- You are given the full amount up front. $100,000 is $100,000 with installment loans – neither more nor less. That’s excellent if you need to pay that much in bills right now. Additionally, it eliminates the chance that you won’t have to pay any fees or interest on a particular amount of your loan. Nevertheless, some SBA loans have completely amortized variable interest rates, which means that their costs may be very low.
- You’ll be completely aware of your obligations. Your payback schedule should be expressly stated in the contracts for SBA and term loans, two of the most popular types of installment loans. You’ll be fully aware of each monthly payment’s amount and due date. You may be able to better budget for loan costs because to this predictability. It can also aid in keeping you from forgetting to pay back your loans on time and avoiding late fees.
- You’ll have more money available to you. Installment loans frequently provide a much larger amount of funding than revolving loans. That means installment loans will work better for you if you require a lot of money for a certain purpose, like buying commercial property.
- You’ll pay less in fees. You would probably notice that the installment loan has smaller fees if you were to compare it to a revolving loan of the same value. Even the highest installment rates often fall below revolving rates. It is true that the costs for any sort of loan might vary depending on the lender.
- If you make payments late, you’ll be penalized. Since installment loans have a predetermined payback plan, paying past your due dates will incur fines. Some loans impose prepayment penalties if you choose to pay off your entire loan sum before the payment term expires.
- You’ll likely have more trouble getting accepted. The qualifications for installment loans are typically more stringent. You’ll probably need a high credit score, and your company must have been operating for at least two years. Despite this, many authorities on small business financing still encourage any borrower who thinks they could be eligible to apply for one of these loans.
- It will take a while for you to apply. Because of the stringent requirements for installment loans, there is sometimes a lengthy application process. However, some online installment lenders have created digital tools that make the entire procedure more efficient.
Which is better for a small business: a revolving or an installment loan?
The decision between an installment loan and a revolving loan will ultimately depend on two factors. You must first decide exactly how you will use the loan funds. Second, you must determine the best method for paying it back.
Revolving loans may fall short if you require a loan to consolidate your business obligations. Using them to pay for salaries, inventory, office equipment, and other physical products is preferable. On the other hand, installment loans are better for operating capital, commercial real estate purchases, and debt restructuring.
Installment loans are also preferable if your business budgets and spreadsheets perform better when you mark down predictable monthly payments. Revolving loans ought to operate for you if you have the flexibility to pay loan costs whenever and however you like.
In either scenario, you could favor installment loans if you’re more accustomed to breaking even than to earning a profit. This is due to the fact that the best installment loans have cheap fees and interest rates that frequently go down over time.