Nearly every small business owner needs to borrow money at some point, whether it’s because of a cash flow shortage or unexpected emergency, or to help start a new business or grow an existing one. Depending on your situation, you may be weighing the pros and cons of paying a large expense with a business credit card versus taking out a small business loan. These are two of the most popular financing options for small business owners. There is no correct choice between the two – the decision is dependent on your business needs, your financial situation, and what you are most comfortable with.
Here is an outline of each option to aid in your selection.
What to Expect with a Business Loan
When a bank approves a loan for your company, like a personal loan, you receive a one-time lump sum of money. You pay back the amount borrowed, plus interest, in the form of monthly payments until the loan is paid off in full. In many cases you can pay off a business loan early, but be sure to check with your lender first to ensure there is no pre-payment penalty.
Lenders typically require extensive documentation before issuing a business loan, and borrowers must also usually meet specific criteria before being approved for a loan. For example, you may need a minimum personal or business credit score, and the lender may also have requirements regarding your business’s annual revenue and the length of time you’ve been in business. The following are examples of supporting documents that many business lenders require before issuing a loan:
• Business tax returns from the previous two to three years
• Business bank statements from at least the past 12 months
• Profit and loss statement
• Business plan
• Balance sheet
In some cases a lender may also require you to sign a personal guarantee, which holds you personally responsible for repaying the loan should your business fail. It’s important to keep in mind that a personal guarantee can override some of the protections you’d typically benefit from if your business is established as an S corporation or LLC.
Some business loans require some type of collateral in order to secure the loan. For small businesses, collateral could include assets such as real estate or equipment. If the loan is secured by collateral and the business defaults on the loan, the lender can legally take possession of the collateral.
Another consideration is that a business loan is classified as installment credit rather than revolving credit. Installment credit can actually help your business build credit, if payments are made on time.
In some cases you may be able to get more attractive loan terms by working with a lender that offers Small Business Administration (SBA) loans. The SBA guarantees a portion of the loan, so the lender is protected in the event that the business defaults on the loan. Because of this, lenders may have less stringent qualifications for SBA loans than traditional business loans.
What to Expect with a Business Credit Card
If you’re more concerned with payment flexibility than obtaining a large loan amount, a business credit card may be the better option. Much like a personal credit card, a business credit card has a credit limit that you cannot exceed. As you make payments toward your card balance, you free up available credit for additional purchases.
In many cases, a business owner will have an easier time obtaining approval for a credit card than they would a loan. Credit card issuers don’t require the same level of documentation either. You typically complete a short application form, and the lender reviews your personal and business credit files to determine whether to approve or deny your request. The process is often much faster than closing on a business loan, which can take several weeks in some cases.
The average credit limit on a business credit card is around $50,000. That may not be enough capital for business owners who need to purchase business equipment or who have significant start-up costs. On the flip side, business loans can allow businesses to borrow significantly more money. Unlike business loans however, you won’t have to put up any collateral to receive approval for a business credit card.
One thing to keep in mind with business credit cards is associated fees such as a yearly fees, late payment fees, and foreign transaction fees. Another consideration is business credit card interest rates, which are typically much higher than the interest rates you would encounter with a business loan. Business credit cards typically have annual percentage rates upwards of 13%, while traditional business loans from banks and credit unions typically have annual percentage rates in the 3% to 7% range.
Because of the high interest costs associated with business credit cards, they’re typically a better bet for expenses you know you can pay off in a timely fashion. Not only can it be convenient to use a credit card for these types of purchases, but your business may be able to reap some savings benefits as well, since many business credit cards offer rewards and cash back on eligible purchases.
How to Make the Best Choice for Your Business
Before deciding which type of financing to apply for, here are some things to consider when weighing your options:
• Your business credit score and personal credit score
• The annual revenue of your business
• An idea of what you need the money for
• An idea of how much funding you need and when you will need it by
• A timeline of when you think you will be able to pay off the debt
Ultimately, the decision to utilize a business credit card or business loan will be dependent on all of these factors, as well as your comfort level and existing financial situation. Whether you’re looking to increase cash flow, purchase equipment or real estate, or ensure short-term spending flexibility, both business credit cards and business loans can be helpful ways to obtain the necessary funds. Just be sure to weigh the pros and cons of each option to ensure the best fit for yourself and your business.
To learn more about business lending options at BankFive or to schedule a consultation (either in-person, over the phone, or virtually) contact our Business Banking Team today.
Here is an outline of each option to aid in your selection.
What to Expect with a Business Loan
When a bank approves a loan for your company, like a personal loan, you receive a one-time lump sum of money. You pay back the amount borrowed, plus interest, in the form of monthly payments until the loan is paid off in full. In many cases you can pay off a business loan early, but be sure to check with your lender first to ensure there is no pre-payment penalty.
Lenders typically require extensive documentation before issuing a business loan, and borrowers must also usually meet specific criteria before being approved for a loan. For example, you may need a minimum personal or business credit score, and the lender may also have requirements regarding your business’s annual revenue and the length of time you’ve been in business. The following are examples of supporting documents that many business lenders require before issuing a loan:
• Business tax returns from the previous two to three years
• Business bank statements from at least the past 12 months
• Profit and loss statement
• Business plan
• Balance sheet
In some cases a lender may also require you to sign a personal guarantee, which holds you personally responsible for repaying the loan should your business fail. It’s important to keep in mind that a personal guarantee can override some of the protections you’d typically benefit from if your business is established as an S corporation or LLC.
Some business loans require some type of collateral in order to secure the loan. For small businesses, collateral could include assets such as real estate or equipment. If the loan is secured by collateral and the business defaults on the loan, the lender can legally take possession of the collateral.
Another consideration is that a business loan is classified as installment credit rather than revolving credit. Installment credit can actually help your business build credit, if payments are made on time.
In some cases you may be able to get more attractive loan terms by working with a lender that offers Small Business Administration (SBA) loans. The SBA guarantees a portion of the loan, so the lender is protected in the event that the business defaults on the loan. Because of this, lenders may have less stringent qualifications for SBA loans than traditional business loans.
What to Expect with a Business Credit Card
If you’re more concerned with payment flexibility than obtaining a large loan amount, a business credit card may be the better option. Much like a personal credit card, a business credit card has a credit limit that you cannot exceed. As you make payments toward your card balance, you free up available credit for additional purchases.
In many cases, a business owner will have an easier time obtaining approval for a credit card than they would a loan. Credit card issuers don’t require the same level of documentation either. You typically complete a short application form, and the lender reviews your personal and business credit files to determine whether to approve or deny your request. The process is often much faster than closing on a business loan, which can take several weeks in some cases.
The average credit limit on a business credit card is around $50,000. That may not be enough capital for business owners who need to purchase business equipment or who have significant start-up costs. On the flip side, business loans can allow businesses to borrow significantly more money. Unlike business loans however, you won’t have to put up any collateral to receive approval for a business credit card.
One thing to keep in mind with business credit cards is associated fees such as a yearly fees, late payment fees, and foreign transaction fees. Another consideration is business credit card interest rates, which are typically much higher than the interest rates you would encounter with a business loan. Business credit cards typically have annual percentage rates upwards of 13%, while traditional business loans from banks and credit unions typically have annual percentage rates in the 3% to 7% range.
Because of the high interest costs associated with business credit cards, they’re typically a better bet for expenses you know you can pay off in a timely fashion. Not only can it be convenient to use a credit card for these types of purchases, but your business may be able to reap some savings benefits as well, since many business credit cards offer rewards and cash back on eligible purchases.
How to Make the Best Choice for Your Business
Before deciding which type of financing to apply for, here are some things to consider when weighing your options:
• Your business credit score and personal credit score
• The annual revenue of your business
• An idea of what you need the money for
• An idea of how much funding you need and when you will need it by
• A timeline of when you think you will be able to pay off the debt
Ultimately, the decision to utilize a business credit card or business loan will be dependent on all of these factors, as well as your comfort level and existing financial situation. Whether you’re looking to increase cash flow, purchase equipment or real estate, or ensure short-term spending flexibility, both business credit cards and business loans can be helpful ways to obtain the necessary funds. Just be sure to weigh the pros and cons of each option to ensure the best fit for yourself and your business.
To learn more about business lending options at BankFive or to schedule a consultation (either in-person, over the phone, or virtually) contact our Business Banking Team today.