Business Line of Credit vs Term Loan: Which Should You Choose?

When Dallas business owners seek financing, two options frequently rise to the top: business lines of credit and term loans. Both can provide the capital your business needs, but they work in fundamentally different ways.

Understanding these distinctions is the only way to ensure you don’t overpay for capital you don’t need.

We see this confusion almost every day.

Business owners often assume “a loan is a loan,” yet picking the wrong structure can severely impact cash flow. Misaligning your debt structure with your revenue cycle is a common mistake.

Our team is here to break down the specific mechanics, costs, and strategic uses of each option so you can borrow with confidence.

The Fundamental Difference

A term loan functions much like a traditional mortgage or auto loan. You receive a lump sum of money upfront that you repay over a fixed period with regular payments.

Once the funds hit your account and you repay them, that specific loan is closed.

We find that this structure offers stability for long-term planning.

A business line of credit provides access to a pool of funds you can draw from as needed, similar to a credit card but with higher limits and lower rates. You only pay interest on the specific amount you use.

As you repay the principal, those funds become available again for future use. This is revolving credit that remains open for ongoing operational needs.

How Term Loans Work

When you take out a term loan, you receive the entire approved amount in a single deposit. If you are approved for $200,000 to buy kitchen equipment or expand a warehouse, you get $200,000 deposited immediately.

You then make fixed monthly payments that include both principal and interest over the loan term. Terms typically range from one to ten years, though SBA 7(a) loans for real estate can extend up to 25 years.

We advise clients to look closely at the amortization schedule before signing.

The interest rate is typically fixed, meaning your payment stays the same throughout the life of the loan. This stability is vital for businesses with tight margins.

Some term loans have variable rates that can change based on the Prime Rate. In the current economic climate of 2025 and 2026, fixed rates generally offer better protection against market volatility. You know from the start exactly how much you will repay in total.

How Lines of Credit Work

With a line of credit, approval for $200,000 means you have the option to borrow up to that amount. You do not have to take it all at once.

You might draw $50,000 to cover payroll during a slow season, repay it over three months, and then draw $75,000 later for emergency inventory.

Our clients appreciate that their balance fluctuates based entirely on their borrowing and repayment activity.

Interest accrues only on outstanding balances. If you have a $200,000 line but only $30,000 drawn, you pay interest on that $30,000 alone.

The “Clean-Up” Period Nuance

There is one specific requirement many borrowers miss. Many bank-issued lines of credit require a “clean-up period.”

This is a 30-day period, usually once a year, where your balance must sit at $0 to prove you aren’t using the line as a permanent crutch. Knowing this rule helps you avoid surprise defaults.

Direct Comparison

To help you weigh the options, we have broken down the critical differences in cost, access, and qualification.

Cost Structure

Term Loans: You pay interest on the full loan amount from day one. If you borrow $100,000 at 8% for five years, you will pay interest on the full principal regardless of whether you use all the funds immediately. Origination fees on these loans usually range from 1% to 5% of the total loan amount.

Lines of Credit: Interest applies only to drawn amounts. If you have a $100,000 line at 10% but average only $25,000 in use throughout the year, you pay interest only on that $25,000. However, be aware of “non-usage fees” or annual maintenance fees that some lenders charge to keep the line open.

Predictability

Term Loans: These offer complete predictability with fixed payments. You know exactly what your monthly obligation will be. This makes budgeting straightforward for fixed costs like rent and insurance.

Lines of Credit: Payments vary based on how much you have borrowed and the current interest rate, as most lines are variable. While this offers flexibility, it requires more active cash flow management to ensure you can meet higher payments if rates rise.

Access to Funds

Term Loans: This is one-time funding. If you underestimate your project costs and need more money later, you must apply for an entirely new loan. This process can take weeks.

Lines of Credit: You have ongoing access as long as you stay within your limit and maintain good standing. Funds replenish as you repay, giving you a safety net for unexpected expenses.

Qualification Requirements

Term Loans: Banks often have stricter requirements for term loans. We generally see that a FICO score of 680+ and strong profitability are necessary for the best rates. Collateral, such as equipment or real estate, is almost always required.

Lines of Credit: Requirements vary widely. Bank lines are competitive with term loan requirements, while online lines may be more accessible to newer businesses with scores in the 600s. However, online lenders often charge significantly higher APRs to offset the risk.

When to Choose a Term Loan

Term loans are the standard tool for growth and major asset acquisition. They make sense when:

• You have a specific, one-time need: Purchasing equipment, buying a building, acquiring another business, or funding a major renovation project fits the term loan model perfectly.
• You want payment predictability: Fixed monthly payments make budgeting easier and ensure the debt is paid off by a specific date.
• You can use all funds immediately: Since you pay interest on the full amount, term loans are most cost-effective when you put the money to work right away to generate revenue.
• You qualify for excellent rates: Term loans from banks and SBA lenders often offer the lowest rates available, typically falling between 7% and 11% for well-qualified borrowers in today’s market.

When to Choose a Line of Credit

Lines of credit are essentially working capital tools. They work better when:

• Your funding needs fluctuate: If you need $20,000 one month and $80,000 the next, a line of credit lets you borrow exactly what you need without reapplying.
• You want ongoing access to capital: Rather than applying for new financing each time you need funds, a line of credit provides ready access for years.
• Cash flow timing is unpredictable: Businesses with irregular revenue patterns, like seasonal restaurants or construction firms waiting on net-60 invoices, benefit from the flexibility to draw during slow periods.
• You want to pay for only what you use: If you are unsure exactly how much a project will cost, a line of credit prevents you from overpaying interest on unused funds.

Using Both Together

Many successful Dallas businesses maintain both a term loan and a line of credit. This strategy is often called “capital stacking.”

They use term loans for major capital expenditures like equipment or real estate, while keeping a line of credit available for working capital needs.

For example, a manufacturing company might have:

Loan Type	Purpose	Why It Works
$500,000 Term Loan	Machinery purchase	Low fixed rate, 7-year term matches the useful life of the machine.
$150,000 Line of Credit	Inventory & Payroll	Handles cash flow gaps while waiting for customer payments.

We help clients structure this combination to provide stability for major investments while maintaining flexibility for daily operations.

Interest Rate Comparison

Generally, term loans offer lower interest rates than lines of credit for comparable borrower profiles. However, the total cost depends on usage patterns.

A line of credit with a higher rate might cost less overall if you only use a fraction of the available funds. Let’s look at the math.

Consider this example:

• Term loan: $100,000 at 7% for three years = $11,161 total interest (paid regardless of usage).
• Line of credit: $100,000 available at 9%, average balance $40,000 over three years = $10,800 total interest.

Despite the higher rate, the line of credit costs less in this scenario because you only pay interest on what you actually use.

Making Your Decision

Choosing the right path requires an honest look at your business model. Ask yourself these questions:

1. Is my funding need one-time (like a truck) or ongoing (like inventory)?
2. Do I know exactly how much I need, or could costs vary?
3. How important is payment predictability to my monthly budget?
4. Would I benefit from having funds available for unexpected emergencies?
5. What rates and terms can I qualify for based on my current FICO score and revenue?

Get Expert Guidance

At Equipment Financing Dallas Pros, we help Dallas businesses navigate these decisions daily. We can analyze your specific situation, compare available options, and recommend the financing structure that best supports your goals.

Financial mistakes are expensive, but expert advice pays for itself.

Contact us today to discuss whether a term loan, line of credit, or combination approach makes the most sense for your business.