Business loans vs. personal loans: Which is right for you?
Deciding between a business loan and a personal loan? Here are the differences you need to know. Presented by Chase for Business.
A loan is the bridge connecting your business goals with the capital you need to realize them. It’s typically issued as a lump sum of money and repaid in installments. Although business loans and personal loans can both help you grow your business, there are key differences between them that can affect your borrowing strategy — and your bottom line.
7 differences between personal loans and business loans
Loan amounts
Loan limits are significantly higher for business loans than personal loans. This can be good if you are planning an expansion, renovation or have to make any type of expensive capital investment in your business. Though it can be tempting to apply for a large sum of money, remember that a higher principal comes with more interest. Carefully assess your borrowing needs and repayment strategy before heading to the bank.
Personal loans tend to start smaller, sometimes at just a few hundred dollars. Maximums can vary based on your monthly spending, creditworthiness and other factors.
Use cases
Business loans can limit how you spend your funds. Some loans, such as equipment loans and commercial real estate loans, are intended only for specific purposes. Other loans may be more flexible and can go toward working capital, payroll and inventory. For even greater flexibility, compare a business loan with a business line of credit to learn which would be a better fit for your needs.
Personal loans usually come no-strings-attached, so you use the money however you want. Common purposes for these loans include debt consolidation, home improvement projects and medical bills. You may be able to use a personal loan to cover business expenses, too, but it’s generally recommended to keep your business and personal finances separate as much as possible.
Eligibility
Business loan eligibility is based on your business credit score and overall financial health. Lenders consider your profit and loss statement, balance sheet and cash flow statement, in addition to factors such as years in business and annual revenue. Businesses with strong finances are more likely to get approved — and to get better loan terms. This can pose a big challenge for newer businesses that are still building business credit.
Personal loan eligibility is based on your credit score, often requiring a score of 580 or higher. The higher your credit score, the more likely you are to qualify for low interest rates and better repayment terms. Lenders will also look at your credit history and debt-to-income ratio. Together, these factors paint a picture of your creditworthiness, which is a measure of how likely you are to repay your debts.
Interest rates
Interest rates for business and personal loans vary widely based on the type of loan, the lender and your creditworthiness as a borrower. Traditional banks and the Small Business Association (SBA) usually offer the lowest interest rates on business loans — but also have lower approval rates. Online and alternative lenders generally have high interest rates but require less paperwork.
Personal loan interest rates are typically on the higher side, but still less than the annual percentage rate (APR) on a credit card. Understanding how interest rates work can help you make an informed decision about your borrowing strategy.
Repayment terms
Business loans usually have longer repayment terms of five to 25 years. This results in smaller monthly payments, which can be beneficial for cash flow, but you’ll end up paying more interest over the lifetime of the loan. Personal loan repayment terms are shorter, often two to seven years. This cuts down on accrued interest, but your monthly payments may be higher.
Funding speed
Business loans vary in how quickly they reach your account, taking anywhere from a few days to a few months. Some online lenders offer much faster business loans, but these frequently come with elevated interest rates.
Personal loans are typically funded quickly, sometimes as fast as one or two days. If time is of the essence, also bear in mind that it’s faster to apply for a personal loan than a business loan.
Collateral
Securing your loan with collateral can help you get more favorable interest rates and higher borrowing limits. Collateral for a secured business loan is usually tied directly to your business assets, such as real estate, inventory or equipment. However, you may be asked to sign a personal guarantee for a business loan, which would make you personally liable for repayments should your business default.
Some personal loans are secured with collateral such as cash, a certificate of deposit (CD) or stock certificates.
Business loans: pros and cons
Pros:
- Builds business credit — On-time payments will help raise your business credit score, which can make it easier to borrow and qualify for better loan terms in the future.
- Offers higher funding limits — A bigger pool of money allows you to invest more in your business. It also helps streamline your financing through a centralized resource.
- Incurs less personal liability — Depending on your business structure and whether you signed a personal guarantee, you could avoid personal liability for missed payments.
Cons:
- Involves a complex application process — Applying for a business loan isn’t a guarantee that you’ll get approved. And the application process can be lengthy. You have to show that your business is in great financial health, with documents to prove it.
- Requires established business credit — Lenders need to see that you have a track record of borrowing responsibly. Newer businesses often don’t have enough business credit built up to qualify. If that’s you, check out our article on how to build business credit.
- Mandates stricter usage limits — Many business loans have stipulations for how they’re used. Just because the money is there, doesn’t necessarily mean you can spend it however you’d like.
Personal loans: pros and cons
Pros:
- Offers faster and easier funding — Applying for a personal loan is relatively simple, and funds are typically available within days. Many lenders even offer pre-approval, so you can know your odds of approval in advance — and without getting a hard inquiry into your credit score.
- Allows usage flexibility — With a personal loan, you’re typically free to spend your money however you want, no strings attached.
Cons:
- Limits opportunities to grow your business credit — A personal loan can help build your personal credit score, but it won’t do anything for your business credit. A high business credit score is a valuable asset that can help you access future funding.
- Risks personal liability — With a personal loan, it’s your name on the line. Your credit score could take a hit if you miss payments.
- Charges more for less — Personal loans tend to have lower funding limits and higher interest rates than business loans. If you only need a small amount of money, this might not be an issue. But if you need a lot of money, higher interest rates and lower funding limits could restrict your cash flow.
Personal vs. business loan: how to choose
In a perfect world, you would always separate your business and personal finances. In reality, many business owners operate in more of a gray area. Choosing between a business and a personal loan comes down to your own unique circumstances and priorities.
Start by identifying your deal-breakers. For example, do you need a higher amount of funding? Then a business loan is likely a better fit. Do you need money right away? A personal loan could be a faster fix.
When business loans might be a better option
Business loans are a great choice if you’re a more established business — especially when you have a specific purpose for the money, a medium- to long-term timeline for your investment and established business credit. Applying for a business loan will be much easier if you already have a track record of growth and well-organized financial documents.
When personal loans might be a better option
If your business is new, you may not have enough business credit to qualify for a business loan. In this case, a personal loan may be better, especially if you also need flexible spending, fast financing or a smaller loan. Before mingling your business and personal finances, it’s worth considering whether other types of business funding could fit your needs.
FAQs: Business loans vs. personal loans
Is it better to get a business loan or a personal loan to fund my small business?
It’s always best to separate your business and personal finances. If you can qualify for a business loan and don’t need the money immediately, then a business loan is the best way to fund your small business. Keep in mind that there are other financing options that can help build your business credit, like a business line of credit or business credit card.
Can I use a business loan for personal expenses?
No, a business loan can only be used for business expenses. Some business loans have specific, limited uses within your business, too, such as equipment loans and real estate loans.
Can I use a personal loan for business expenses?
Yes, you can use a personal loan for business expenses. Talk to your lender to make sure there aren’t any limits to how you spend your loan and be prepared to take full responsibility for repayments.
Can I apply for a business and a personal loan together?
Yes, many lenders let you apply for a business and personal loan at the same time, as long as they offer both types of loans. Working with a single lender might help increase your odds of approval.
How do business loans work?
Business loans allow you to borrow a lump sum of money and pay it back in installments with interest. Eligibility is based on your business credit score and overall financial health. Loan terms such as collateral, interest rates and funding limits vary by lender, loan type and the creditworthiness of the borrower.
Take your next step toward securing a loan
To learn more about personal loans and different types of business loans, reach out to a Chase business banker. They can help answer your questions and provide guidance on how to apply.
