Starting or running a business means making financial decisions—some simple, others confusing. One common challenge faced by Indian entrepreneurs and MSMEs is choosing between working capital loans and term loans. These two loan types serve different purposes, and choosing the wrong one can strain your business.
This blog explains the difference between them in simple, everyday language, so even if you don’t have a finance background, you’ll understand what suits your business best.
What is a Working Capital Loan?
Imagine your business is like a car. You need fuel every day to run it—pay salaries, buy raw materials, pay rent, electricity bills, etc. This daily fuel is your working capital.
A working capital loan is a short-term loan that helps you meet these everyday expenses. It is not used for buying big things like machines or land—it’s for running the business smoothly.
Features:
- Short-term loan (usually 12 months or renewable annually)
- Helps pay day-to-day business costs
- Comes in the form of cash credit, overdraft, or short-term loans
- Often secured against stock, inventory, or invoices
Example: You run a garment business and need ₹10 lakh to buy fabric and pay staff while waiting for customer payments. A working capital loan solves this.
What is a Term Loan?
Now, imagine you want to expand your factory or buy a new machine. This is a big, one-time expense. You don’t need fuel—you need an engine upgrade!
A term loan is a long-term loan used to buy assets like land, machinery, office space, or to expand your business. You pay it back in EMIs over a fixed period, like 3, 5, or 7 years.
Features:
- Long-term funding for fixed assets
- Repaid in monthly installments (EMIs)
- Can be secured against the asset bought
Example: You want to buy a ₹25 lakh embroidery machine. A term loan helps you finance this purchase and pay in EMIs.
Basic Differences at a Glance
| Feature | Working Capital Loan | Term Loan |
|---|---|---|
| Purpose | Daily operations | Asset purchase or expansion |
| Tenure | Short-term (up to 1 year) | Long-term (3–7 years) |
| Repayment | Flexible, sometimes interest-only | Fixed EMIs |
| Collateral | Inventory, invoices, cash flow | Asset being purchased |
| Interest Rate | Slightly higher | Often lower (depending on duration) |
When to Use a Working Capital Loan?
Choose this if:
- Your business has seasonal cash flow (e.g., Diwali sales, wedding season)
- Your clients pay late, and you need money in the meantime
- You run a trading, service, or manufacturing business with frequent expenses
Working capital is like oxygen—without it, even profitable businesses can collapse.
When to Use a Term Loan?
Choose this if:
- You’re buying new equipment or property
- You need to make a long-term investment in your business
- You want to grow your capacity and increase output
Term loans are like building blocks—they help you expand and take your business to the next level.
How to Apply for These Loans Easily
Whether it’s working capital or term loan, the process is similar. Here’s a simple step-by-step:
Step 1: Prepare Basic Documents
- PAN & Aadhaar (individual + business)
- Business registration documents (GST, Udyam, Partnership deed, etc.)
- Last 6–12 months’ bank statements
- Income Tax Returns (last 2–3 years)
- Quotation or invoice (for term loan assets)
- Debtor/Creditor details (for working capital loans)
Step 2: Choose a Bank or NBFC
- Compare interest rates and processing fees
- Ask about CGTMSE coverage for collateral-free loans
Step 3: Apply Online or Offline
- Most banks have online portals for MSME loans
- Submit documents and wait for appraisal
Step 4: Sanction and Agreement
- If approved, you’ll get a sanction letter
- Sign loan agreement and provide post-dated cheques or ECS mandate
Step 5: Disbursement
- Working capital loans may be offered as overdraft limits
- Term loans are disbursed lump-sum or in phases (e.g., for construction)
Tips to Use Loans Wisely
- Don’t use a working capital loan to buy assets
- Keep personal and business accounts separate
- Pay EMIs and interest on time to maintain credit score
- Maintain books and use digital invoicing—it helps with loan approvals
- Reassess your loan needs every year based on cash flow
Government Support for MSMEs
- CGTMSE Scheme – Offers collateral-free loans up to ₹2 crore
- PSB Loans in 59 Minutes – Apply online for term or working capital loans
- Mudra Loans – For micro and small enterprises (under ₹10 lakh)
Ask your bank which scheme suits your business. You may save on collateral or get interest subsidies.
Final Word: Which One Should You Choose?
There’s no one-size-fits-all answer:
- Use working capital loans for daily needs and short-term gaps
- Use term loans for long-term growth and big asset purchases
Many successful businesses use both, managing cash flow with working capital and building capacity with term loans. The key is understanding your need—and not mixing the two!
Still confused? At bizconsulting.io, we offer personalized loan planning and application support. Let us help you get the right funds, from the right bank, at the right time.
Tags: MSME Loans, Term Loan vs Working Capital, Loan for Small Business, Business Finance India, Easy Loans for MSMEs
