Term Loans vs Working Capital: Which Is Right for Your Business?
Two of the most common business funding options are term loans and working capital. Both put money in your account, but they're designed for different purposes and come with very different costs and terms. Choosing the wrong one can cost your business thousands of dollars or leave you struggling with payments that don't match your cash flow.
This guide breaks down the key differences between term loans and working capital financing. You'll learn when each option makes sense, how costs compare, what to watch out for, and how to decide which is right for your specific situation.
Understanding these products helps you avoid overpaying for capital and choose financing that actually supports your business goals.
What Is a Term Loan?
A term loan is the traditional business loan structure most people think of when they hear "business loan." You borrow a fixed amount, repay it over a set period (the "term"), and pay interest on the balance.
Key Characteristics of Term Loans
- Fixed repayment schedule: Monthly payments over 1-10 years
- Interest-based cost: You pay interest (APR) on the outstanding balance
- Larger amounts: Typically $50,000 to $5 million+
- Lower effective cost: For comparable amounts, usually cheaper than short-term options
- More requirements: Stronger credit, more documentation, longer approval process
Example: You borrow $100,000 at 12% APR over 5 years. Your monthly payment is about $2,224. Total repayment: ~$133,400. The $33,400 in interest is your cost of borrowing.
What Is Working Capital Financing?
Working capital products provide quick access to cash for short-term needs. This category includes various products: short-term loans, merchant cash advances, revenue-based financing, and similar options. They're designed to bridge cash flow gaps, not fund long-term investments.
Key Characteristics of Working Capital
- Faster funding: Often approved and funded within 24-48 hours
- Shorter terms: Typically 3-18 months
- Factor rate or fixed fee: Often uses factor rates instead of APR
- Smaller amounts: Usually $5,000 to $500,000
- Easier qualification: Revenue-focused, less emphasis on credit
- Daily or weekly payments: Automatic debits based on revenue or fixed amounts
Example: You receive $50,000 with a 1.3 factor rate, repaid over 6 months. Total repayment: $65,000. The $15,000 cost is fixed regardless of how quickly you repay (in most cases).
Side-by-Side Comparison
| Factor | Term Loan | Working Capital |
|---|---|---|
| Best For | Major investments, expansion, equipment | Cash flow gaps, inventory, short-term needs |
| Loan Amount | $50,000 - $5M+ | $5,000 - $500,000 |
| Repayment Term | 1-10 years | 3-18 months |
| Payment Frequency | Monthly | Daily or weekly |
| Cost Structure | Interest rate (APR) | Factor rate or fixed fee |
| Effective Cost | 8-25% APR typical | 20-100%+ APR equivalent |
| Approval Time | 1-4 weeks | 24 hours - 3 days |
| Credit Requirements | Good to excellent (650+) | Fair to good (500+) |
| Documentation | Tax returns, financials, business plan | Bank statements, ID |
| Early Payoff | Usually reduces total cost | Often no discount |
When to Choose a Term Loan
Term loans make sense when you're investing in something that will generate returns over time. The lower cost and longer repayment period match investments that don't produce immediate cash flow.
Good Uses for Term Loans
- • Purchasing major equipment
- • Buying real estate
- • Opening new locations
- • Acquiring another business
- • Major renovations or buildouts
- • Refinancing existing high-cost debt
When Term Loans Don't Fit
- • You need money this week
- • The need will resolve in a few months
- • Credit or documentation won't qualify
- • It's for short-term operating expenses
- • You're not sure how much you need
When to Choose Working Capital
Working capital financing makes sense for short-term needs that will resolve quickly. The higher cost is acceptable when the alternative is missing payroll, losing a big contract, or running out of inventory.
Good Uses for Working Capital
- • Covering payroll during slow season
- • Stocking inventory before busy period
- • Bridging a gap between receivables
- • Taking advantage of vendor discounts
- • Emergency repairs
- • Seasonal marketing push
When Working Capital Doesn't Fit
- • You're buying long-term assets
- • The need is permanent, not temporary
- • You qualify for a lower-cost term loan
- • Daily payments would strain cash flow
- • You're already carrying other advances
Understanding the True Cost Difference
The real cost difference between these products is often misunderstood. Here's a clear example:
Term Loan Example
- Amount: $100,000
- Rate: 15% APR
- Term: 3 years
- Monthly payment: ~$3,467
- Total repayment: ~$124,800
- Total cost: $24,800
Working Capital Example
- Amount: $100,000
- Factor rate: 1.35
- Term: 12 months
- Daily payment: ~$625
- Total repayment: $135,000
- Total cost: $35,000
In this example, the working capital costs $10,200 more—and that's for a shorter term. But if you only need the money for 3 months to cover seasonal inventory and the term loan takes 3 weeks to fund, the working capital option might still make sense.
Common Mistakes to Avoid
- Using working capital for long-term needs: If you're buying equipment or expanding, the high cost of working capital will eat into your returns. Take the extra time to get a term loan.
- Using a term loan when you need speed: If the opportunity or crisis is now, waiting weeks for term loan approval might cost you more than the higher price of working capital.
- Ignoring payment impact on cash flow: Daily or weekly payments from working capital products can strain a business with uneven revenue. Make sure you can handle the payment structure.
- Stacking multiple working capital advances: Taking new advances to pay off old ones creates a debt spiral that's hard to escape. Address the underlying cash flow problem instead.
How Goodlane Group Helps You Choose
Goodlane Group works with lenders offering both term loans and working capital products—over 50 in total. When you apply with us, we evaluate your specific situation: what you need the money for, how quickly you need it, your credit profile, and your business financials.
We then match you with appropriate options from our network and present you with offers from each category you qualify for. This lets you compare a term loan against working capital options side by side, with clear explanations of total cost and payment structure.
Many business owners don't realize they qualify for better options than what they've been offered directly. Our job is to show you what's available so you can make an informed decision.
Quick Decision Guide
Choose a Term Loan when:
- You're making a long-term investment
- You have time to wait for approval
- You want the lowest total cost
- Monthly payments work for your cash flow
Choose Working Capital when:
- You need money within days
- The need is short-term and specific
- You can handle daily/weekly payments
- Credit or documentation limits term loan options
Not Sure Which Option Is Right?
Apply once and see offers for both term loans and working capital. Compare them side by side with our team's guidance.