Quick overview

A business line of credit gives flexible access to working capital; a term loan delivers a fixed amount for a specific purchase or project. Use a line to smooth short-term gaps and seasonal swings; use a term loan to finance major, predictable investments like equipment or real estate.

Background and when each emerged

Lines of credit grew in popularity with small businesses that needed on-demand cash to manage inventory, payroll, or seasonal revenue swings. Term loans are the traditional bank product for financing defined, long-lived purchases with set repayment schedules.

In my practice helping small and mid-size companies for over 15 years, I see early-stage firms favor lines of credit for runway and marketing bursts, while more established firms use term loans for capital expenditures that match asset life to loan term.

How each product works (simple)

  • Business line of credit: lender sets a maximum limit. You draw, repay, and redraw during the term. Interest accrues only on the outstanding balance; some products charge a maintenance or non-use fee.
  • Term loan: lender disburses the full principal up front. You repay principal plus interest on a fixed schedule (monthly, quarterly). Terms range from months to several years.

Real examples by growth stage

  • Startup / early growth: short runway and irregular revenue — a line of credit covers payroll and ad spend without paying interest on unused funds.
  • Growth / scaling: predictable but growing revenue — a mixed approach (small term loan for equipment + line for working capital) often fits.
  • Mature / expansion: steady cash flow and big capital needs — term loans (or commercial mortgages) offer lower rates and fixed payments for planned investments.

Eligibility and underwriting differences

  • Lines of credit often require recent revenue, positive cash flow, and business or owner credit history. Some lenders use daily or weekly revenue (e.g., merchant cash flow lenders).
  • Term loans require documentation of collateral, cash flow projections, and typically stronger credit for larger amounts.

For small-business lending guidance see the U.S. Small Business Administration (SBA) (https://www.sba.gov/funding-programs/loans) and the Consumer Financial Protection Bureau (CFPB) overview of business lending (https://www.consumerfinance.gov/).

Cost and terms — what to compare

  • Interest rate: term loans usually have lower fixed rates; lines may be variable and slightly higher for flexibility.
  • Fees: lines can carry origination, renewal, or unused-commitment fees. Term loans may have origination fees, but fewer ongoing charges.
  • Repayment structure: lines let you manage payments by drawing only what you need; term loans force amortization, which builds equity but raises monthly cash needs.
Feature Line of credit Term loan
Best for Short-term working capital, seasonal needs Large, planned purchases, equipment, property
Flexibility High Low
Interest On drawn balance, often variable On full principal, often lower or fixed
Fees Renewal / unused fees common Origination, prepayment penalties possible

Common mistakes to avoid

  • Choosing a line because it’s ‘flexible’ without planning how fees and variable rates affect long-term cost.
  • Using a term loan for working capital (risks tight cash during slow seasons).
  • Not stress-testing cash flow for amortizing term-loan payments.

Professional tips (practical)

  • Match the loan life to the asset life: finance equipment with a term that roughly matches expected useful life.
  • Keep a small, committed line for emergencies even when you have long-term debt — it preserves liquidity.
  • Negotiate fees and covenants. In my experience, a simple covenant tied to debt-service coverage can unlock better rates.

Where to learn more (internal resources)

Frequently asked questions

  • Can a business hold both? Yes. Many companies pair a term loan for long-term assets with a line for day-to-day working capital.
  • Which is cheaper? For the same dollar amount, a term loan often carries a lower rate but less flexibility; total cost depends on term, fees, and how much of a line you actually use.
  • Can you convert one to the other? Lenders sometimes refinance term debt into a revolving facility or vice versa, based on credit and strategy.

Professional disclaimer

This article is educational and does not replace personalized financial advice. Consult a lender or licensed financial professional about your business’s specific needs before borrowing.

Authoritative sources