Businesses use term loans for a huge variety of purposes, depending on whether they’re a short term loan or a long term loan. These can range from investing in premises to buying new equipment or financing a project. However, different loans and different terms tend to work differently, which can decide the best kind of financing for your business.
So let’s go through what you need to know about term loans and how you can use them to support your business.
What is a business term loan?
A business term loan is a type of financing where a business borrows a lump sum of money from a lender, which is then repaid with interest over a fixed period.
- Term loans are typically used for specific investments, such as purchasing machinery, expanding premises, or financing long-term projects.
- The key feature of a term loan is its repayment schedule, which can vary from a few months (short-term loans) to several years (long-term loans), depending on the loan agreement.
Depending on the term, lenders may set different conditions, such as asking for collateral or a personal guarantee.
What kind of business uses term loans?
Business term loans are often used by established businesses that need to make significant investments without drawing on their cash reserves. The key advantage is their flexibility – unlike forms of financing tied to specific investments, such as equipment finance or inventory finance.
Whether you’re a retailer looking to stock up on seasonal inventory or a manufacturer needing to upgrade your equipment, a term loan provides the capital required while allowing you to spread the cost over time.
How do business term loans work?
Business term loans are a broad category of lending that covers a number of different products. Lenders, from high street banks to alternative finance, may offer various types of term loan, so it’s important to understand what's going to work for your business.
Short-term vs. long-term loans
- Short-Term Loans: These loans are typically repaid within 12 to 24 months. They are ideal for businesses needing quick access to cash to cover immediate expenses, such as working capital or small-scale projects.
- Long-Term Loans: These loans have a repayment period ranging from two to ten years or more. Long-term loans are better suited for substantial investments, such as purchasing real estate, large-scale renovations, or significant equipment upgrades – these are also more likely to require security.
Secured vs. unsecured term loans
- Secured Term Loans: These loans require collateral, such as property or equipment, which the lender can claim if you default on the loan. The advantage is that secured loans usually offer lower interest rates due to the reduced risk for the lender.
- Unsecured Term Loans: These loans do not require collateral but typically come with higher interest rates and stricter eligibility criteria. These can be faster to approve, since there’s no need for the lender to review the collateral.
Fixed vs. variable interest rates
- Fixed interest rates: The interest rate remains the same throughout the loan term, providing predictability in repayment amounts. This is ideal for businesses that prefer stability in their financial planning.
- Variable interest rates: Here, the interest rate can fluctuate based on market conditions, which means your repayments might vary. While this option can be riskier, it may result in lower interest payments if rates decrease.
Repayment terms and flexibility
Repayment schedules for term loans can be customised to fit your business’s cash flow needs.
Some lenders offer the flexibility to choose between monthly, quarterly, or even annual repayments. It’s also important to understand the conditions around early repayment – paying off your loan early can save you all the interest you would have paid over the whole. For example, you can pay off a flexi-loan from iwoca early with no penalties.
{{calculator-cta="/components"}}
Fees and charges
Depending on the lender, the process of securing can come with a variety of different fees, including origination fees, late payment penalties, prepayment fees or annual fees. For some loans, these fees will be considered part of your loan payments, which means you risk paying interest on the fees as well.
Advantages of business term loans
Term loans are one of the most common forms of lending for a reason, helping business access finance in an easy to understand, easy to manage way.
- Predictable repayment schedule: With a fixed interest rate, term loans offer predictability, allowing you to budget more effectively. You’ll know exactly how much you need to repay each month, which helps with long-term financial planning.
- Flexible use of funds: Unlike some other types of financing, term loans can be used for a wide range of business purposes. Whether you’re looking to expand, purchase equipment, or even refinance existing debt, a term loan provides the flexibility you need.
- Interest rates and tax benefits: Interest on term loans is often tax-deductible, which can reduce your overall tax liability. Additionally, secured term loans generally offer lower interest rates compared to unsecured loans, making them a cost-effective option for many businesses.
Disadvantages of business term loans
While term loans have many advantages, there are also some potential drawbacks to consider:
- Collateral risks: For secured term loans, your assets are at risk if you’re unable to make repayments. This could lead to the loss of critical business property, which might hinder your operations.
- Interest rate fluctuations: If you opt for a variable interest rate, changes in market conditions could lead to higher repayment costs, putting pressure on your cash flow.
- Managing debt: Taking on a large term loan can significantly increase your business’s debt burden. It’s essential to ensure that your revenue projections support the repayment of the loan, even in challenging times.
How to compare term loans
When comparing term loans, consider the following factors:
- Interest rates and fees: Look beyond the headline interest rate and consider the total cost of the loan, including any fees for arrangement, early repayment, or late payment.
- Loan terms and conditions: Carefully read the terms and conditions, paying attention to repayment flexibility, collateral requirements, and any restrictions on how the loan can be used.
- Customer service and support: Choose a lender that can offer you the service and support and support, as this can make a significant difference in your borrowing experience, especially if you run into challenges.
How to apply for a term loan
Here’s a step-by-step guide to applying for a business term loan:
Preparing your application
Before applying, gather all necessary documents, including your business’s financial statements, tax returns, and a detailed business plan outlining how you’ll use the loan.
Key documents required
Lenders typically require the following documents:
- Business financial statements (e.g., profit and loss statement, balance sheet)
- Business plan or project proposal
- Personal and business credit history
- Proof of collateral (if applicable)
Tips for a successful application
- Be transparent: Provide complete and accurate information. Any discrepancies can delay your application or even result in a denial.
- Show financial stability: Lenders want to see that your business is stable and has a clear plan for repayment.
- Choose the right lender: Not all lenders are created equal. Find one that understands your business’s unique needs and can offer terms that fit your situation.
Finance your business with a short term loan from iwoca
When choosing a term loan, it's important to find a lender who understands your needs. iwoca is one of the UK’s leading providers of flexible finance for small businesses – our Flexi-Loan is designed around your needs, with fast funding, transparent terms, and no hidden fees. Borrow £1000-£1,000,000 for up to 24 months
- Apply in minutes
- Get approved in under 24 hours
- Repay on your terms, with no charges for early repayment
