How to use a term loan to grow your small business

There are many ways to grow a business, such as opening new brick-and-mortar locations, hiring more employees, or launching a new product line. But every growth strategy requires capital, and business loans are one of the most straightforward ways to get it.

What is a term loan?

A term loan is a loan for a lump sum with that’s repaid in monthly installments with fixed interest rates. This type of funding is simpler and more consistent than other financing options like lines of credit and business credit cards.

Benefits of term loans for small businesses

• Term loans are more affordable than other types of loans because their interest rates are fixed and often lower than variable rates.
• Collateral requirements are also easier to meet, especially given the larger amounts you can receive from a term loan.
• The U.S. Small Business Administration offers even more affordable loans to small business owners who apply through their website.
• Repaying term loans on time can boost your business credit score, which will help you obtain different or larger loans in the future.

Common mistakes when using business term loans

Term loans are medium-risk funding options, whether secured or unsecured. To mitigate risk, make sure you have a business credit management plan that aligns your potential funding with your long-term business goals before finalizing a term loan. 

Lenders will want to see market research proving your investment can produce a return. Use this research to help reveal growth opportunities. Do a cost-benefit analysis and choose relevant KPIs to measure the success of your invested loan. Have your management or finance team review the plan and metrics before you sign off on the loan. 

Is your business eligible for a term loan?

Credit score requirements for loans vary by lender. In most cases, you’ll need to provide:

• Your personal and business credit scores. To get your business credit score, register with the business credit reporting bureaus, Dun & Bradstreet, Experian, and Equifax. 
• A business plan that meets the lender’s requirements and clearly explains your company’s strategy.
• Financial statements showing your revenue and whether you pay bills and debts on time.
• Tax returns to verify your business is in good legal standing.

How to manage your term loan repayment

Term loan repayment schedules can range from three months to 10 years. Interest rates on these repayments are typically fixed (so monthly payments are all for the same amount), and while that makes them easier to budget, it doesn’t guarantee you’ll be able to afford them if your revenue streams are variable.

Your budget and business plan are key for managing your loan repayments. Include installments in your budget, and outline how you’re going to use the funds. Sticking to your plan and auto-paying your loan will give you the most stability, and repaying your loan on time will improve your business credit rating.

Other types of business loans

Term loans aren’t the only form of business financing you can use to expand. Business lines of credit are revolving loans in which you can draw on funds over time. These are useful for long-term projects that require multiple funding stages.

Equity financing involves offering a share of ownership in exchange for funding. This form of financing is used when your company has matured into a corporation from which you can sell shares to dilute ownership. Shares can be sold privately to investors, or the company can go public and sell shares on a stock exchange.

The right form of business financing depends on your creditworthiness, short- and long-term goals, and ability to make repayments. Whether you choose to apply for a term loan or business line of credit, you can continue to build your business credit with consistent, on-time repayments—just make sure your lender reports your payment activity to one or more of the business credit bureaus.