Today we shall be talking about the difference between a working capital and Term loan. Like today for instance, most businesses need help with financing their company/ business at any given point in time. Either they are looking at scaling inventories or trying to cover payroll until a big deal is closed, they often need financial support.
Working capital and term loans are two common types of business financing that business owners may face when thinking of the best funding option for their business. To really understand the difference between a working capital and term loan, we have to look at them one by one.
Term Loan: Term loan is a type of loan that allows business owners to borrow money with a fixed interest rate from the lender, that will be paid over a period. Business owners naturally apply for the term loan when they need to make a large future investment.
Debtors are responsible for repaying the full amount of loan plus the interest and the fees over the tenure of the loan. Some lenders allow business owners to repay the loans on time without late charges while others may have repayment charges.
Term loans generally come with a satisfactory condition than other funding options. Here are some benefits to business term loans:
Term loans come with low interest rates: other business loans or lines of credit come with higher interest rates, but that of the term loan usually have low interest rates, because they have longer repayment periods and a more stringent application process.
Term loans come with less restrictions: various types of business financing come with limitations on how the funds are being used but that of term loans typically do not. Term loan is one of the most flexible funding options that business owners can access and are available. They are flexible, business owners can use the funds to cover almost all their business expenses. Starting from purchasing goods/ materials and inventory to funding expansion projects. This can also be a source of extra capital when needed.
So, because term loans 3 Types of Business Term Loans
The word term loan is a name given to business loans that can be repaid over a period.
There are 3 types of business term loans and they include the following:
Short term loan: this is a type of business loan that is usually repaid within the space of 3 to 36 months. Short term loans are usually for emergencies or when businesses need quick cash. This type of loan comes with a higher interest rate.
Medium-term loan: This is a type of loan that usually matures within 1-2 years and has a slightly lower interest rate than the short term loan.
Long term loan: Generally speaking, the long-term loan normally runs between 2 to 10 year. These business loans are usually for a larger purchase and have lower interest rates because of their length.
Working Capital Loan
A working capital loan is a short-term loan fund that is made available for business owners to manage their business operations. A working capital loan is also designed to cover day to day business expenses that business owners would naturally pay with working capital. It is a business short-term liquidity or cash that is readily available for everyday expenses.
Here are some of the benefits of working capital loans.
Working capital loans are easier: unlike other business financing options, it requires few qualifications and a shortened application process.
It is faster: working capital loans are faster because they are emergencies loans that business owners can get approval and funded fast.
It encourages early repayment: this type of loan encourages early repayment for business owners. Some business loans penalize the borrower for repaying on time, but a working capital loan prefers on-time repayment. This can in turn boost the credit score of borrowers.
There are 2 common types of working capital loans.
- Invoice financing and factoring: invoice financing can be defined as a process at which business owners’ funds cash flow by selling their invoices to a 3rd party at a discounted amount. Unfortunately, late invoices are part of running a business. Nevertheless, business owners can take advantage of invoice financing/ factoring to trade in these outstanding invoices for working capital.
- Business line of credit: this can be seen as a process of turning a loan that gives access to a fixed amount of capital, which is used to meet short-term business needs. Businesses that get approved for a working capital line of credit can tap into a large pool of cash as needed. When you have cash flow gaps, you use a line credit and business owners are only obligated to pay on the cash you take out.
A working capital loan is not the same as a term loan. while a short-term loan is used as a working capital loan. A term loan and working capital loan has a lot of different qualifications, purposes and uses.
Term loan vs working capital loan: Qualifications.
There is a difference between working capital and term loans as the requirements and qualifications differ. The word qualifications for a term loan is much more intense than most working capital loans, where lenders will often require extensive paperwork and will check your credit, financial records, and background. Based on the size of the term loan. Business owners may have to provide collateral.
Working capital loan vs Term loan: purposes:
Working capital and term loan differ on the primary purpose of each loan. The purpose of a term loan is to help businesses scale. Lenders want to give borrowers a huge sum of funds to help them finance the growth of their operations. When the business grows, so does that relationship and the interest payments. The traditional lenders would rather use medium and long term loans over shorter ones because it brings in more money over time and offers more stability.
The purpose of a working capital loan is to help ease cash flow gaps within the business. Lenders provide working capital loans as a short term solution for business owners without enough cash to cover their urgent expenses. Most lenders avoid these short term loans because it can be riskier and other working capital financing options protect that risk with higher interest rates.
Term loan vs. working Capital loan: Uses.
Term loans can be used for anything related to business and it includes common expenses like rent and wages. It can also be used for a more complex purposes like investment and property financing. A good example is investing in materials and opening new locations.
Working capital loans are strictly used for day to day operations. This type of loan is reserved for emergencies and running costs needed to keep the business running.