When considering a loan, it is important to understand the differences between business and personal loans. While there can be some limited overlap, the differences are significant. It pays to be an informed customer, so you can decide whether a business loan or personal loan is best for you.
Each type of loan is designed for a different purpose and has different criteria for qualification. Personal loans allow you to make improvements to your home, purchase a car, pay for tuition, or consolidate other loans—and even grow your business (but more on that later).
What is a Personal Loan?
A personal loan, like the name implies, is designed for an individual, who could use some additional capital for home and personal expenses. Although there is nothing stopping you from using a personal loan to fund your business, in general, personal loans are intended for non-business-related expenditures. These can include the following:
Vacation planning, and more
You might also get a personal loan to consolidate other loans
With a personal loan, the individual taking out the loan is responsible for making payments as stipulated in the loan terms, and any loan offers are partly determined by the borrower’s personal credit score.
That means if anything goes wrong, such as non-repayment, the person’s assets can be used in an attempt by the bank to collect.
Can I Use a Personal Loan for Business Expenses?
“Once you’re approved for a personal loan, you can use it in any way that makes sense to…If you’re starting a small business, you can use the personal loan to cover anything from inventory to payroll to rent.”
Ashley Russo, Financial Planner and Educator (CNBC)
What is a Business Loan?
A business loan is ideal for paying larger business expenses, such as investments in locations or office equipment, staffing, storefront renovations, servers, business computers, and more. The loan may come with restrictions on what the money can be used for.
Generally speaking, the amount that is borrowed under business loans is greater than for personal loans. For this reason, and since business revenues and expenditures tend to be more complex, greater detail in the application process may be required when applying for a business loan. Once granted, the business loan is intended to be used for business purposes.
Approval is not as straightforward as a personal loan. You may be required to have:
Good business credit score (though that’s not required for all types of business financing)
Paperwork showing proof of profitability and cash flow
Documentation such as business licenses or even a business plan
Business Loan vs. Personal Loan
Advantages of a Personal Loan
Easier approvals – if you have an adequate credit score and stable income, approval is relatively straightforward.
Faster approvals – the process requires less paperwork and documentation, so the money is available sooner.
No collateral needed – the better personal loans don’t need collateral, whereas many business loans do.
Advantages of a Business Loan
Tax deductions – when business financing is kept separate from personal, the expense of the loan can be deducted at tax time.
Limited personal liability – reduced liability in the event anything goes wrong. If sales are lower than expected and the business is unable to return the borrowed amount, the business is held responsible, not the individual. Therefore, the person’s credit rating is less at risk.
Larger loan amounts – business loans can be much larger than personal loans.
Build a credit rating – if the business is a newer one, taking out a business loan and responsibly paying it back can build a good credit score.
Lower interest rates – if the business has a good credit rating, it can qualify for a lower interest rate, lower than would be possible with a personal loan.
Personal Loan vs. Business Loan: What are Your Options?
If you have an established business with a solid credit rating, chances are you will be approved for a loan or one or more lines of credit with a bank. However, the application process can still involve a lot of paperwork, and the approval process can take weeks or months.
Even with a good credit rating, a secured loan with collateral may be required. There could also be a hard pull on your credit, which could potentially affect your credit score.
There are a great variety of online lenders. Some require collateral, others do not. Interest rates and loan terms can vary, depending on the lender. Approvals can be very fast, some providing next-day or even same-day funding. And lenders who do soft-pull credit checks won’t affect your credit score.
Approval requirements and loan terms can vary a lot depending on the lender, so some lenders may be more suitable for your situation than others. Make sure you look around for not just the right type of financing, but the right lender too.
SBA (Small Business Administration)
Newer businesses, or those in a riskier sector, can apply for Small Business Administration, or SBA loans, which are guaranteed by the government but paid out by a private lender. This application process can take even longer than a regular bank loan.
Personal or business credit cards with a low-interest promotional period can be a quick way to get funds, but make sure to read the fine print. The rates can reach very high levels once the promo period ends
As you can see, there are several things to consider when deciding between a personal loan vs. business loan. Your decision can be made easier if you consider the following:
Does your lender allow you to use a personal loan for business purposes?
Do you want the lowest interest rates or a simpler loan application process?
Do you have a better business or personal credit score?
How fast do you need funds?
Applying for traditional bank loans can seem daunting (and be unfruitful for new businesses without a proven business model or history). But it’s a common misconception that businesses with a bad credit history or without long P&L sheets can’t get funded through small business loans.
Small business lenders are the best place to start to understand the financing options you have available.
The terms and conditions of every loan vary. Check if the lender explicitly prohibits you from using the loan amount for business-related matters.
Bad Business Credit? No Sweat
We know not every venture has an 800+ credit score from the get-go.
Talk to a loan officer today and find out about the financing options you have if you’re yet to build your credit.