A business line of credit gives you a revolving pool of funds you draw from as needed and repay on your own schedule. A term loan gives you a fixed lump sum upfront, repaid in equal installments over a set period. The right choice depends on whether your need is ongoing and unpredictable, or one-time and specific.
The Core Difference
| Feature | Line of Credit | Term Loan |
|---|---|---|
| How funds are disbursed | Draw as needed, up to your limit | One lump sum at closing |
| Interest charged on | Only what you draw | The full loan amount |
| Repayment | Revolving, pay down and redraw | Fixed monthly installments |
| Best for | Ongoing or unpredictable expenses | A specific one-time purchase or project |
| Typical use | Payroll gaps, inventory, seasonal cash flow | Equipment, expansion, acquisition |
When a Line of Credit Fits Better
A line of credit works best when you don’t know exactly how much you’ll need or when you’ll need it. Seasonal businesses use it to cover payroll during slow months. Retailers use it to stock up before a busy season. You draw what you need, pay interest only on that amount, and pay it back down as cash comes in. Then the credit is available again. This flexibility is the entire point of the product.
The tradeoff is that a line of credit usually comes with a lower total limit than a term loan of similar qualifications. It’s built for ongoing access, not for funding one large expense.
When a Term Loan Fits Better
A term loan works best when you have one clear, specific need. You’re buying a piece of equipment. You’re renovating a location. You’re acquiring another business. You know the exact amount you need, and you want a predictable monthly payment you can plan around. Once the loan funds, you’re not going back to the lender for more unless you apply again.
Term loans often come with lower interest rates than a line of credit for borrowers who qualify, since the lender’s risk profile is different when the full amount is disbursed and repaid on a known schedule.
Cost Comparison, in Practical Terms
Say you need 50,000 dollars. With a term loan, you pay interest on the full 50,000 starting day one, whether you use it all right away or not. With a line of credit, if you only draw 20,000 of your 50,000 limit this month, you only pay interest on that 20,000. That’s the core financial tradeoff. A line of credit costs less when your need is partial or spread out. A term loan costs less when you need the full amount immediately and will use all of it.
Qualification Differences
- Credit score. Both products consider your credit score, but term loan lenders often place more weight on it since they’re committing the full amount upfront.
- Time in business. Lines of credit are sometimes available to newer businesses with strong revenue, while many term loans favor established businesses with two or more years of history.
- Revenue documentation. Both require revenue verification, but term loan applications for larger amounts typically require more extensive financial documentation.
- Collateral. Larger term loans are more likely to require specific collateral tied to what’s being purchased, like the equipment itself.
Can You Use Both?
Yes, and many established businesses do. A term loan can fund a large, planned purchase like new equipment, while a line of credit sits in reserve for the cash flow gaps that inevitably show up in between. Lenders will factor in your existing debt when they evaluate a new application, so don’t stack more short-term debt than your cash flow can comfortably support.
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Frequently Asked Questions
Is a line of credit cheaper than a term loan?
It depends on how much you actually use. A line of credit only charges interest on the amount you draw, so it can be cheaper for partial or spread-out needs. A term loan charges interest on the full amount from day one, which is more efficient when you need all of it immediately.
Which is easier to qualify for, a line of credit or a term loan?
It varies by lender. Some lines of credit are more accessible to newer businesses with strong revenue, while term loans for larger amounts often favor businesses with a longer operating history.
Can I convert a line of credit into a term loan later?
Not directly, but you can apply for a term loan separately once you have a specific need, even while an existing line of credit stays open.
Do both options require collateral?
Not always. Smaller lines of credit and term loans are sometimes unsecured, while larger amounts of either product are more likely to require collateral.
What happens if I don’t use my full line of credit limit?
Nothing negative happens to your rate. You only pay interest on what you actually draw, so an unused limit simply sits available for whenever you need it.
Sources referenced on this page
Authoritative references consulted for lender-program details, rate ranges, and eligibility requirements discussed above. See our research sources policy for how we verify claims.