Installment vs. Revolving Credit for Small Businesses: Which is Right for You?
Getting a business loan is a big step for any company, and it’s important to approach it with strategic thinking. While getting approved is a major goal, knowing how to repay it effectively is equally important. Surprisingly, 82% of business owners don’t know how to interpret their credit scores, yet those who do are 41% more likely to get their loans approved. This lack of understanding can lead to financial stress, especially if you’re unsure whether a revolving or installment loan is right for your business. Understanding these differences can help you manage your finances better and keep your business thriving without unnecessary stress.
Is a Small Business Loan Installment or Revolving?
When thinking about small business loans, it’s important to know if the loan is installment or revolving. These two types have different features that can affect how you manage your money.
Installment Loans
With an installment loan, you get a fixed amount of money upfront and pay it back over a set time with regular payments. These payments usually include both the loan amount and interest. The interest rate is often fixed, so your payments are predictable. This type of loan is great for big, one-time expenses like buying equipment or renovating your office. For example, if you need $50,000 to buy new machinery, an installment loan allows you to pay it off over several years.
Revolving Loans
A revolving loan gives you a credit line that you can use as needed up to a certain limit. You can borrow, pay back, and borrow again without having to reapply, which makes it handy for covering ongoing expenses or unexpected costs. You only pay interest on the amount you use, and this interest rate can change. For instance, if you have a $20,000 credit line and use $5,000 for extra inventory, you only pay interest on that $5,000.
Pros and Cons of Installment and Revolving Business Loans
Choosing between installment and revolving loans involves understanding their pros and cons. Here’s a simple breakdown to help you decide:
Installment Loans
Pros
- Predictable Payments: You pay the same amount every month, which helps in planning your budget. For instance, if you borrow to buy office equipment, you know exactly when and how much you need to pay each month.
- Good for Big Purchases: If you need a large sum for things like buying a vehicle or renovating your space, this loan type provides the full amount upfront.
- Set Payoff Date: You know when the loan will be fully paid off, making it easier to plan your finances.
Cons
- Less Flexibility: You can’t borrow more without applying for a new loan if unexpected costs arise.
- Early Payoff Fees: Some lenders may charge you if you want to pay off the loan early.
- Needs Good Credit: Usually requires a good credit score for better terms, which might be tough for new businesses.
Revolving Loans
Pros
- Flexible Use: You can borrow as needed up to a certain limit, which is handy for managing day-to-day expenses.
- Interest Only on What You Use: You only pay interest on the amount you take out, saving you money if you don’t use the full credit.
- Reusable Credit: Once you repay, the credit is available again, so you don’t need to reapply every time.
Cons
- Changing Payments: Interest rates can vary, making it hard to predict monthly costs.
- Risk of Over-Borrowing: Having easy access to money could cause people to take out more loans than they need to.
- Need to Monitor Spending: It’s important to keep track of your borrowing to avoid reaching your credit limit.
Choosing the Right Loan for Your Business: Installment vs. Revolving
When you’re deciding between an installment loan and a revolving loan for your business, it’s important to consider specific details and scenarios. Here’s a more detailed look at what to think about and when each loan might be the best choice:
Factors to Consider
Purpose of Funding
- If you need a large, one-time sum, like buying a delivery truck or new office computers, an installment loan is great. You get all the money upfront and pay it back over time with fixed payments.
- For ongoing costs, like restocking inventory or paying seasonal staff, a revolving loan works well. You can borrow what you need, when you need it, up to a certain limit.
Cash Flow Needs
- Businesses with steady cash flow, such as a local gym with monthly memberships, might prefer the predictability of installment loans.
- If your cash flow varies, like a store that sells more during holidays, a revolving loan can help you manage ups and downs.
Repayment Preferences
- Installment loans offer fixed monthly payments, which can be easier to budget for. This is ideal if you like having a set schedule.
- Revolving loans let you repay and borrow again as needed, offering flexibility for businesses with changing needs.
Credit Requirements
- Installment loans often need a good credit score to get favorable terms. If your business is well-established with a solid credit history, this might be the way to go.
- Revolving loans might be more accessible if your credit score is moderate, making them a good option for newer businesses.
Making the Right Loan Choice for Your Business
To wrap up, choosing the right loan for your business means thinking about what you really need. If you’re planning a big project like renovating your store or starting a big marketing push, an installment loan is perfect because you get all the cash you need at once. It’s also great for long-term plans like creating new software, as you know exactly how and when you’ll pay it back.
However, if your business has ups and downs in cash flow, like in retail or food services that sell more during certain seasons, a revolving loan is useful. It’s flexible and handy for unexpected expenses, like a sudden equipment repair, or if your plans often change, such as launching new products or hiring extra help temporarily. Knowing these circumstances will assist you in selecting the best loan. If you’re still unsure, talking to a financial advisor can give you the guidance you need to make a smart choice.