Should I Get a Credit Card or a Small Interest Loan?

All small-business owners need a little financial help to run and grow their enterprises at some point, whether it's to hire more employees, buy new equipment or market a recently launched product.

But how to meet these ongoing capital requirements — with a business credit card, term loan or line of credit — can be confusing.

Credit cards: easier approval, perks and flexibility at a cost

A business credit card provides a revolving line of credit, just like a consumer card. This means you can use and repay the credit line as many times as you want, as long as you make the minimum monthly payments and the balance doesn't exceed the account's credit limit.

It's a popular option for small-business owners, as 65% use credit cards on a frequent basis, according to the U.S. Small Business Administration. Collateral isn't required, which means no assets are pledged as security for repayment of any debt outstanding.

So what are the drawbacks? Because what you charge amounts to an unsecured loan, cards tend to carry much higher interest rates than loans backed by collateral. Most business credit cards come with variable rates, which means the amount of interest you pay on the card balance can change, depending on a market gauge like the prime lending rate used in the banking system.

Having a balance on each card that's too high can negatively affect your credit scores. Both your business and personal credit score take your credit utilization ratio into account, so keep this in mind before racking up too much debt.

Business loans: lower interest costs, but tougher approval

Business loans generally come in two forms: a term loan, which provides a lump sum of money at closing, repaid monthly at a fixed interest rate, and a line of credit. This is a variable-rate loan similar to how a credit card works, as you have access to a specific amount of money — say, $20,000 — and you can borrow and repay funds up to that limit as many times as you wish.

Term loans typically involve larger sums and are better suited for financing big-ticket items, such as new equipment, real estate, purchasing other assets or to refinance an existing debt. Lines of credit often are better for supplying working capital, as they provide flexible, convenient access to funds. The interest rate you receive on a business loan is likely to be far better than what you pay on a business credit card balance.

Keep in mind that term loans are generally backed by collateral, which means you'll have to pledge an asset to secure the debt. The lending requirements are also far more stringent for business loans than for a credit card.

The bottom line

Business credit cards come with numerous advantages over term loans and lines of credit, such as rewards for spending, 0% interest introductory rates, sign-up bonuses and the ability to track your spending. However, because of high interest costs and other fees, they are generally better suited for smaller regular expenses, or for business owners who can't qualify for other types of financing.

Business term loans are generally a better way to go if you're looking to refinance an existing debt. Business lines of credit are typically more appropriate for short-term working capital and may carry much lower rates than credit cards.

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