Working Capital vs. Term Loan - Meaning and Difference

Working capital loans provide finance for daily cash flow expenses and short-term expenses. On the other hand, a term loan is a long-term loan for significant investments, such as the purchase of fixed assets. Businesses must understand the difference between these two loans to choose the best one as per their unique requirements and financial commitments. In this blog, we will explore the meanings and differences between them to support better financial planning.

Working Capital Loan Meaning

A working capital loan is a short-term Business Loan provided by banks or NBFCs to cover a business's day-to-day expenses. The primary goal of a working capital loan is to provide financial assistance for short-term capital expenditure in business. This would include employee wages, rent, debt payments, etc.

Working Capital Loan: Key Features

• Typically has a short tenure, depending on the lender's policies and business needs.

• Can be secured or unsecured, with unsecured loans not requiring collateral. However, a business loan without collateral may have higher interest rates.

• Loan amounts are generally designed to cover daily cash flow and operational expenses and depend on the business's size and turnover.

• Provides faster approval for loan applications, and documentation requirements are minimal compared to term loans.

Term Loan Meaning

A term loan (a type of Business Loan) has a fixed tenure, which depends on the loan amount. This loan helps businesses manage larger expenses, such as purchasing machinery, equipment, and other business requirements. Broadly, there are three types of term loans: short-term loans, intermediate-term loans, and long-term loans.

Term Loan: Key Features

• Can have a fixed or variable interest rate.

• Comes with a fixed loan tenure that varies by lender and loan purpose.

• Can be secured or unsecured, depending on the loan amount and other factors.

• Loan amounts are generally higher to cover large and long-term business expenses.

• Such loans may require extensive documentation.

• The loan process may take longer due to verification steps and approvals.

Working Capital Loan vs Term Loan: Key Differences

To help you make an informed borrowing decision, here’s a clear comparison between a working capital loan and a term loan.

Working Capital Loan vs Term Loan: Which is Best for Your Business?

If a business requires a small amount of finance to manage day-to-day expenses, a working capital loan is more suitable. It ensures smooth business operations even during slow periods. These loans are short-term and a good choice for maintaining liquidity.

If the objective is long-term business growth, then a term loan is the better option. It is ideal for significant investments such as purchasing machinery, upgrading technology, or expanding production capacity.

So, before choosing between a working capital loan and a term loan, consider the purpose of the loan. For short-term needs, choose a working capital loan. For long-term investments, opt for a term loan.

To Conclude

Both term loans and working capital loans are good financing options that support business growth; however, they serve different purposes. Working capital loans are ideal for short durations and help meet day-to-day business needs. Term loans, on the other hand, are suited for long-term requirements and large business investments. It is essential to understand your business’s financial needs and choose the loan type that aligns best with your financial goals.

Looking for funds to grow your business? If yes, connect with Poonawalla Fincorp and apply for a Business Loan without collateral. Connect with us today!

Read Also: How Business Loans Take Your Business Higher?

FAQs

Do startups qualify for a working capital loan or term loan?

Depending on the business plan, financial stability, and the lender's criteria, startups may be eligible for these loans. Lenders require a minimum business vintage and basic financial records. However, the exact number of years varies from one lender to another.

Does a term loan have tax benefits?

Yes, term loan interest can be written off as business expenditure to avail the benefit on tax returns.

Is collateral required for a working capital loan?

Working capital loans offered as unsecured Business Loans do not require collateral, allowing businesses to obtain funds without pledging any security.

Which loan is better to manage cash flow issues?

A working capital loan is best suited for cash flow concerns. It can help you to deal with short-term cash flow gaps, seasonal demands, and operational expenses for the better financial health of your business.

Do term loans have low interest rates?

In general, term loans may have lower interest rates compared to working capital loans. This is because they are often secured with collateral and are offered for longer tenures. However, this can vary depending on the financial institution, the borrower’s credit profile, and the loan type. Not all term loans are secured, and unsecured term loans may have higher interest rates.