What Is a Term Loan and How Do They Work?
Term loans are variable interest rate loans with pre-determined repayment periods. In the case of small businesses, these periods span long-term or short-term. In the case of long-term, repayment will occur across a series of monthly intervals for 10 to 20 years. Short-term small business loans lean closer to a one to five year range.
If a small business term loan application is accepted, the loan amount will transferred to the borrower within a day or two. Usually, the delivery of the lump sum is contingent on the provided collateral.
Broadly speaking, small business term loans are used to either finance upcoming business development or to invest in equipment acquisition, debt refinancing, or payroll requirements.
How High Are Interest Rates on a Small Business Loan?
Interest rates on small business loans are based on the maximums set by the Small Business Association. Although dependent on amount being borrowed, the interest rate limit generally swings between 3.98% and 4.54%.
When Getting a Term Loan Makes Sense
Getting a term loan makes the most sense of businesses that are already established, as opposed to those just starting out. Not only will the application process be made easier, but the risk on the part of the business will be lessened.
When taking out a small business loan, that amount of equity will be wrapped up in debt. Colloquially speaking, in the case new businesses, this would cause them to place all their financial eggs in one basket. As a result, this would largely reduce their ability to engage in other financial endeavors. Older businesses, with their greater cashflows, are in a far better position to take risks.
Term Loans vs. Small Business Lines of Credit
While small business term loans are treated as lump sums to be predictably repaid, lines of credit offer an increased degree of flexibility. When given a line of credit, the borrower is granted a draw limit. Repayment and interest is only owed on the amount withdrawn, rather than the granted total. This allows the borrower to only use the money as necessity arises, rather than working with more than is immediately needed.
Pros & Cons of Term Loans
- Predictable payment structure
- Wide range of business applications
- Improves credit score, if repaid properly
- Limits the amount of open equity
- Risks collateral
- Strict qualification criteria
What Do I Need to Qualify?
In order to qualify for a small business term loan, any potential lender will examine a business’ credit score, length of time in operation, and average annual revenue. While these values can vary greatly, a business that generates $300,000 with a credit score of 680, and over 3 years in business will treated as a good candidate.
In that event that a business’ application is accepted, the lender will make an offer detailing the loan term, the interest rate, and the maximum loan amount. If this sounds right for your business, our top ten lenders of small business loans would be happy to accommodate.