Business Loan vs Personal Loan: What’s the Difference, and Which Should You Use?
Business loan vs personal loan – it’s one of the most fundamental hurdles that small business owners need to overcome in the early stages of getting established. The question becomes particularly relevant for new business owners who naturally have fewer options when it comes to financing.
Feeling personally invested in the company that you yourself founded is perfectly normal, but sentimental feelings shouldn’t be the deciding factor when it comes to choosing between a personal loan or business loan. Of course, before you can make a decision there are pieces of info that you’ll need to cover in order to make the right choice.
- What are the differences between business loans and personal loans?
- What are the benefits of business loans?
- Is there a difference between business loan interest rates vs personal loan interest rates?
- How can you use a personal loan for business?
That’s only the tip of the iceberg – you’ll definitely want to find out what lies beneath the surface…
Discover all there is to know about the ‘business loan vs personal loan’ debate below.
Of course, the type of business will affect the kind of industry loans a business needs, as well as the specific circumstances that business finds itself in. Be sure to weigh your options carefully in order to choose the right funding solution for your business.
Personal vs business loan – what’s the difference?
If you’re new to the field of business financing, you may not know what the difference is when comparing a business loan vs personal loan. The answer might be simpler than you expected. In plain English, a personal loan is used for your personal needs (or wants), and a business loan is for business uses.
But that’s truly an oversimplified look at the two loan types. What if you personally want to start a business and can’t qualify for a business loan? Or what if your business is a personal hobby that you’ve managed to monetize? The lines aren’t always so clear-cut.
What’s also worth considering is the variety of personal and business loan options, what they are typically used for, what their qualifications and terms are, and so on. Before delving into the differences, what are some of the similarities between personal loans and business loans?
Both personal loans and business loans:
- Can come in the form of a line of credit or as a lump sum
- Can be obtained from a bank, online lender, or credit union
Personal loan defined
Personal loan – also referred to as consumer loans, personal loans are a form of financing that is granted for the borrower’s personal use; personal loans can be either secured or unsecured.
If the loan is secured, the loan provider will require the amount to be guaranteed by your personal assets or by a co-signer who acts as a guarantor on your behalf. In other words, if it’s a secured loan then if you fail to make payments and default on the loan, the lending institution will be able to seize your assets or approach your guarantor and demand the outstanding balance from them.
If the loan is unsecured, it is also referred to as a signature loan. With unsecured loans, the amount being borrowed is approved based on the lending institution’s assessment of the borrower’s ability to repay.
Broadly speaking, unsecured loans are a bigger risk for the lender than secured loans. Whether it’s a secured or an unsecured loan, repayment is normally made over a specified period of time (and in specified amounts) agreed upon in advance by the borrower and the lender.
Business loan defined
Business loan – unlike personal loans which are approved for the personal use of the borrower, business loans are provided for specific reasons (more on that below). Getting approved for a business loan will generally require taking a serious and detailed look over your company’s financial history.
What are the benefits of business loans? Where personal loans are split into secured and unsecured categories, business loans have a bit more variety to them because they are specialized for certain purposes. Lending institutions will want to provide a financing solution that fits the loan applicant’s financial need in order to avoid risky lending practices.
This means borrowers are a lot less likely to get roped into taking out a loan they can’t afford to pay back.
What are the different types of business loans?
- Startup business loans
- SBA loans
- Equipment/vehicle financing
- Line of credit
- Commercial business loan
- Merchant cash advance
- Invoice factoring
- Asset-based loan
- Unsecured business loan
Become makes it easier to choose for the wide variety of business loan types, and loan providers. Advanced algorithms work to match your business with the funding option that best meets your requirements and financial profile.
What is a personal loan used for?
The uses for personal loans are virtually limitless, but a wise and responsible borrower will have a strong reason to borrow money.
Uses for personal loans include:
- Medical expenses
- Purchasing a car
- Obtaining an education
- Buying, or repairing, a home
- Starting or funding a small business
What is a business loan used for?
Since business loans tend to be larger amounts than personal loans and are riskier for lenders, they are granted by loan providers for specified purposes. In other words, before giving a sizeable amount of their money to help your business, a lender will want to feel confident that the risk of that investment is minimal.
By obtaining an exact reason for borrowing the money, the lender’s confidence in your business’s ability to repay the loan increases.
Uses for business loans include:
- Purchasing new or used equipment
- Stocking up on inventory
- Paying employees’ salaries
- Covering rent or utilities
- Opening a new location
- Repairs or renovations
These are just a few uses – ultimately, a business loan is used to for financing a business. It should go without saying that ‘financing a business’ can mean a lot of things.
Can you use a personal loan for a business or startup?
In short, yes, you can use a personal loan for a startup business. But just because you can doesn’t mean you necessarily should.
If you haven’t actually established the business yet and it’s still in its early stages, it’ll likely be difficult to obtain a business loan. For this singular reason, personal loans are among the most useful financing solutions for startups.
What other reasons are there for you to take a personal loan for business purposes?
Perhaps you only need a very small amount, say a few thousand dollars. In that case it may be worth investigating the option of taking a personal loan even if you can obtain a small loan from alternative lenders, since the interest rates are lower for personal loans.
Business loan interest rates vs personal loan interest rates can be a bit tricky to give an accurate assessment on since they range so widely depending on the loan provider, sub-type of the loan, the loan amount, your financial history, and so on. Generally speaking, personal loan interest rates can range 4%-99%+, and business loans can range 5%-36%.
Or maybe you don’t feel comfortable placing your personal assets in jeopardy of being seized in the event that you default on the loan. Much of the time personal loans won’t require you to put your assets up as collateral the way secured business loans do.
But again, personal loans may still not be the best option if your goal is to finance your already-established business. Keeping your personal and business finances separate is one of the most fundamental steps in staying organized as a business owner.
In fact, even though many personal loans don’t require collateral, if you don’t separate your personal and business finances then your personal assets may still be at risk if your business were to be sued.
It’s crucial that you weigh the costs and benefits of all financing options available to your business, and assess them in light of your business’s financial situation. There’s no ‘one-size-fits-all’ answer when it comes to business financing.
Personal loan requirements
Compared to business loans, the qualifying requirements for personal loans are very relaxed. The reason for that is personal loans are much smaller on average compared to business loans; the average personal loan amount is roughly $7,500 (the absolute maximum being $100,000).
Even if you explain to the loan provider that your intentions are to put the borrowed funds towards financing your business, only your personal financial situation will be taken into consideration when determining your fitness for approval.
Qualifications for personal loans:
- Have a good to excellent credit score/history (680+ FICO)
- Have a healthy debt-to-income ratio (around 30%)
Business loan requirements
Qualifying for a business loan is more complicated than qualifying for a personal loan, although your personal financial history will certainly play into the assessment.
The reason the requirements for a business loan are stricter is that the loan amounts are larger than personal loans, and so the risk is higher as well; the average business loan amount from alternative lenders is roughly $50,000-$80,000 (the maximum being $5 million through the SBA).
Since different lenders have different qualifications, it’s always advisable that you do your due diligence before making any decisions, particularly when it comes to your finances. But here are a few general qualifications for business loans.
Qualifications for business loans:
- Have a properly detailed outline of how you intend on using the borrowed funds
- Be in business for at least 3 months earning a minimum of $10,000 in monthly revenue
- OR at least 6 months in business earning a minimum of $2,000 in monthly revenue
- Have a good credit score (640+ FICO)
- Provide tax returns & bank statements
Personal vs business loan – which is right for my business?
With all of the factors that need to be taken into consideration, making the decision in the ‘business loan vs personal loan’ standoff can still be difficult to do. As far as business loan interest rates vs personal loan interest rates go, the latter tend to offer a better deal for borrowers. And, the qualifications are clearly much easier when it comes to personal loans.
To simplify the process, here’s a shorthand look at how to choose between personal loans and business loans when it comes to financing your business:
When to take a personal loan:
- When you have a high credit score
- If you make a good salary
- If you don’t mind putting your personal credit history in jeopardy
- If you’re either not in business yet, or have only been in business for a very short time
When to take a business loan:
- When your credit score is rated as fair
- If your business is your primary source of income
- If you don’t want to risk your personal credit getting damaged
- If you’ve been in business long enough that you can comfortably offer business assets as collateral
- If you’re exploring financing options other than term loans (i.e. line of credit, merchant cash advance)
Settling the score
We’ve taken a full three-sixty of the business loan vs personal loan question, and we’ve answered a few important questions for you.
- What needs to be considered when comparing business loans vs personal loans?
- Can you use a personal loan for business startup?
- How can you use a personal loan for business?
The short answer is, if your company has been around long enough, you should check to see if you can qualify for a business loan. But that is not the final word on the matter – there’s no universal answer when choosing which sort of loan is right for you and your business. You’ll need to compare your business’s financial profile to the terms and conditions of the loan, and see if you’ll be able to meet your business’s funding needs that way.
Hopefully, with the information provided above, you now have a better idea of how to make a smart decision. If there are any questions that you feel were left unanswered, please feel free to comment below.
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