As your business grows, you may need access to resources you cannot readily afford—maybe new real estate to expand production, tools or equipment to increase outputs, or a strategic partnership you’ll need to buy into. If you don’t yet have the cash you need, small business loans can close the gap. A term loan is one popular financial tool for precisely this purpose.
Like other financing tools, term loans typically require applicants to prove their creditworthiness. Approval, loan amounts, terms, and interest rates may depend on an applicant’s credit score and income. For businesses, creditworthiness may hinge on factors like cash flow and revenue, business credit score, capital investment, and the business plan.
Term loans aren’t lines of credit like business credit cards. Those tools offer access to a credit limit you can tap into as needed to address cash flow issues. With a business term loan, on the other hand, you receive cash up front to support your company’s advancement. You repay the loan over a fixed term.
Key Considerations
- Term loans provide businesses with lump sum payouts for operational expenses and beyond, which they repay over a fixed term.
- Businesses can choose between short-term, intermediate-term, and long-term loans.
- The best loan depends on your business’s financial health, goals, and timeline. To make the best decision, factor in your immediate needs and goals for long-term growth.
What Is a Term Loan?
A term loan is a financing tool that pays out a lump sum of cash, which borrowers repay in regular installments. The “term” is the repayment period that a borrower and lending partner agree to. Term loans can give businesses the financial flexibility to pursue their goals.
Terms may be as short as several months or as long as over two decades, depending on the borrower’s needs, conditions, and financial circumstances. If you use a term loan to purchase an asset, like a piece of equipment, that asset’s expected durability could affect your term. Most lending partners prefer to align the repayment term with the useful life of an asset, so the borrower doesn’t continue to pay for the product after it stops generating income, but that’s far from its only use-case.
Term loans could have fixed or variable interest rates and often require payments to be made on a monthly or quarterly basis. A fixed interest rate stays the same throughout the lifetime of the loan. A floating interest rate, on the other hand, could change with fluctuating market conditions. Loans with floating interest may also have lower rates at the beginning of a loan’s term but can increase over time.
Businesses typically have to demonstrate their creditworthiness through bank statements, business plans, existing loan agreements, and other documents to qualify for a term loan. To obtain a secured term loan, a business must also provide the lender with collateral. If a borrower defaults on the loan, lenders may seize that collateral to recoup their losses. When a business loan is used to purchase an asset like inventory, real estate, or a vehicle, that asset often acts as collateral.
If you want business financing but don’t want to risk losing an asset, an unsecured loan could be a better fit. Unsecured loans don’t require collateral. They may instead have stricter credit requirements and higher interest rates than secured loans to offset the added risk to lenders. The right choice for your business may depend on your company’s assets, credit history, and ability to absorb higher interest charges.
You could use a term loan to make a wide variety of investments in your company’s future. Some specific applications for term loans include the following:
- Business acquisitions
- Debt consolidation
- Working capital
- Inventory
- Payroll
- Real estate
- Repairs
- Buying or leasing equipment
- Software
- Marketing
- And more
Types of Term Loans
There are three types of term loans, which are differentiated by their lengths. However, different term lengths also come with changes in interest rates and some unique limitations. The best fit depends on unique business needs, conditions, and timelines.
Short-Term Loans
Short-term loans could take up to two years to repay. They tend to be smaller than longer-term loans. Newer businesses that are still building their credit history might consider short-term loans to cover inventory, launch small projects, or bridge cash flow needs. Qualifications for short-term loans are often more flexible than requirements for longer-term loans, so they’re easier for new businesses to access. However, interest rates for short-term loans may be higher than rates on loans with longer terms.
Intermediate-Term Loans
Intermediate-term loans, sometimes called “medium-term loans,” have repayment periods of up to five years. Businesses typically make monthly payments for medium-term loans from their cash flow, so operational budgets should reflect debt payments. In addition to having slightly longer terms than short-term loans, intermediate-term loans may also come in higher amounts. These loans could help businesses access tools for advancement and expansion, like a new space or salaries for additional team members.
For the highest loan amounts and longest repayment periods, businesses should consider long-term loans. Repayment periods could last up to 25 years, and loans may amount to millions of dollars. Established companies with solid credit histories and financials may consider a long-term loan to pursue major expansions and business acquisitions. Long-term loans may have smaller interest rates than intermediate and short-term loans. However, you could still pay more interest for a long-term loan simply because interest has more time to accrue.
Because long-term loans are risky for lending partners, they typically have stricter requirements and a more extensive application process than shorter-term financing. Many long-term loans require collateral. Businesses often pay long-term loans out of their profits, and installments may be due on a monthly or quarterly basis.
Choosing the Right Term Loan for You
Your best business financing option depends on your unique needs and current phase of business development. Before taking on any debt, you should assess your financial well-being, specific needs, and financing options.
Short-term loans provide companies with working capital to cover operational expenses. While businesses typically need strong credit to qualify, they don’t necessarily have to demonstrate an extensive credit history. If your business needs capital quickly to cover inventory, payroll, necessary equipment, or emergencies, a short-term loan may be the best fit. Short-term loans could also help a newer business begin building a credit history.
If your business has a steady flow of revenue but needs an extra boost to advance, an intermediate-term loan may be the right fit. You may use funds from an intermediate-term loan to launch a new project or marketing campaign, upgrade your storefront, or improve efficiency with a new piece of equipment. These expenses would ideally become sustainable after a couple of years, in alignment with your loan term. You could also use an intermediate-term loan for debt consolidation if your business is juggling multiple debts. Intermediate-term loans strike a balance between short— and long-term loans, which makes them a good fit for many business needs.
Long-term loans are often best for significant investments in your company. They require substantial commitment, including a thorough application process and, in some cases, collateral. Long-term loan repayments may influence your business budget for many years, so it’s vital to ensure the loan is the best fit. Fortunately, the extended repayment terms give your business ample time to make purchases or upgrades that generate returns before the loan term ends. You might use a long-term loan for major expenses like new business acquisitions, real estate purchases for large expansions, or large-scale equipment.
How BHG Financial's Term Loans Can Improve Your Finances
BHG Financial can help your business thrive with specialized commercial financing of up to $500,0001,2 for small businesses. Our 12-year term1 small business loans could make it possible for you to focus on working capital or meet operational goals, from expediting your production to breaking into new markets. Plus, BHG offers large loan amounts that could finance multiple initiatives without requiring personal collateral. Our payment estimator can help you gauge your potential rates and monthly costs so you can determine whether a long-term loan from BHG Financial is right for you.
The average BHG Financial business loan customer has a 755 FICO score, has been in business for 13 years and receives $153K in funding.
Term Loans FAQs
How does a term loan work?
Lenders disburse term loans in the form of a lump sum upfront to borrowers who agree to specific terms. Borrowers repay the loan, plus interest, in installments over a fixed schedule.
How can my business use term loans?
Your business may use a term loan to assist with working capital, operational costs, equipment, real estate, inventory, or any expense you intend to repay over an extended timeframe. Term loans may not be the best fit for emergency funds, as the application and approval process may take some time to complete.
