Business Grants vs. Business Loans

Running a business is expensive – plain and simple. At some point, there is a good chance you will need to seek additional funding from an outside source. One way to do that is through a business grant or loan. Although the two may seem similar, there are a few key differences that will make one type the better option for your business.

What is a business loan?

A business loan is a sum of money that a financing institution, like a bank or credit union, temporarily gives to a small business, with the expectation that it will be paid back over time, plus interest. Loan repayment typically ranges between five and 10 years. A business loan can be used for expenditures like starting or expanding a company, paying employee wages, funding marketing efforts, purchasing new equipment or vehicles, or paying for office space.

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What is a business grant?

A business grant is a sum of free money that a private organization or a federal, state, or local government gives to a small business to use toward very specific business functions. Unlike loans, grants do not have to be repaid; however, small businesses must meet very specific criteria to receive a grant, and they must use the money for reasons specified by the granter.

"Business grants are not easily obtainable," Nick Chandi, founder and CEO of Smansha, told business.com. "Your business needs to meet certain requirements. [A grant] is given for an authorized and specified purpose only that usually aims for public good. You may have to repay a grant if it's not used for the purpose it's awarded for. The federal government doesn't provide grants for paying off debt, covering operational expenses, and starting or expanding a business." [Read related article: Top Small Business Grants of 2020]

What is the difference between a loan and a grant?

The biggest difference between a loan and a grant is that a loan must be repaid, and a grant does not. If you cannot repay funding, a grant may be the better option. Although this is the primary distinction between the two funding options, there are other differences small business owners should be aware of.

For example, the criteria a lender or grantor evaluates you on can vary. Only businesses operating in select industries and locations may be eligible for specific grants – which can be a benefit or disadvantage, depending on your business – whereas lenders are more focused on your financial health and ability to repay the loan.

"Small businesses can qualify for grants based on their demographics or industry," said Leslie H. Tayne, founder and head attorney of Tayne Law Group. "For loans, lenders take your credit score and finances into consideration when making a lending decision. From checking the internet to requesting bank statements and business plans, small businesses may find that applying for a loan requires they provide much more information than a grant." [Read related article: How to Apply (and Get Approved) for a Business Loan]

Small businesses should also consider how quickly they need the capital. Grantors typically take much longer to approve applications and disburse funds than lenders do. If you need money immediately, a loan may be the only option.

"Unlike with grants, small businesses can apply for loans and receive funding whenever they need financing," said Tayne. "If a small business needs immediate funding with no restrictions, seeking out a loan is the better option."

Additionally, loans are offered by financial institutions and private lenders, whereas grants are provided by various governments and corporations. Depending on your professional connections, it may make sense to seek funding from one source or the other.

Types of business loans

Business loans are vast and plentiful, so small business owners should be diligent in vetting out various loan terms to secure the best loan for their business. Here's a sampling of some of the most common types of small business loan options.

Business line of credit: This financing option is an arrangement between a small business owner and a bank or financial institution in which the borrower has the flexibility to access a specified amount of money at any time. Similar to how a credit card works, a line of credit enables the borrower to repay the amount they use via minimum monthly payments and only pay interest on the amount they use.

Equipment loans:. These loans are given specifically to fund the purchase or lease of business equipment and are typically based on the value of the equipment you are acquiring. Similar loan options are also available for vehicles and real estate.

Invoice financing and factoring: With invoice financing, a small business owner can borrow money against their outstanding accounts receivable, whereas with invoice factoring, a small business sells their accounts receivables to a lender who will collect on them.

Merchant cash advance: A merchant cash advance is a type of funding given to a small business based on the organization's anticipated credit card transactions for a specified term. The borrower then makes repayments based on a portion of their credit card sales. Merchant advances are typically only a good choice for those who have a high volume of credit card sales but are unable to secure a traditional loan because of poor credit.

SBA loans: An SBA loan is a highly competitive loan guaranteed by the S. Small Business Administration. These loan programs, like the Paycheck Protection Program and Economic Injury Disaster Loan program, have become very popular during the COVID-19 pandemic, as they are often less expensive than many alternative loans. SBA loans are available from banks and other lenders, but because a portion of the loans is guaranteed by the government, the application process is longer.

Secured and unsecured loans: Secured business loans are loans backed with a business asset (e.g., bank account balance, equipment, vehicle, real estate). Unsecured business loans don't require the borrower to pledge collateral, and, instead, are based on a borrower's creditworthiness.

Short-term business loans: A short-term loan is a type of term loan that is typically repaid in less than a year with floating or fixed interest rates. They are typically available for businesses that may not be eligible for a line of credit.

Term loans: A term loan is an agreement where a small business borrows a lump sum of money and repays it over a specified period of time with a fixed interest rate. Common types of business term loans include bridge term loans, multiyear term loans, SBA term loans, asset-based term loans and equipment term loans.

Types of business grants

There are several types of business grants offered by governments and private organizations. Grants are highly competitive and are only given to businesses that meet a specific set of criteria. Here are some popular options.

Federal business grants

Federally funded government grants are awarded to select small businesses that meet each grant's respective criteria. Chandi listed some primary federal funding options as follows:

State business grants

These grants are similar to federal busines grants, except they are awarded by state governments and are slightly less competitive. To find a state grant, check with the following organizations:

Local business grants

Another funding option is a local business grant. Although still highly competitive, your business has a better chance of receiving a local business grant than a federal or state grant, assuming you meet all the criteria. Chandi listed some local business grant options as follows:

Small business relief grants

If your business was impacted by a disaster (like COVID-19) and is seeking relief funds, there are several grants specifically for you. Chandi recommends checking out the following relief packages:

Corporate business grants

Similar to government funding, private corporations offer grants to aid small businesses, typically through some form of competition. Some corporate grants include:

Research business grants

Small businesses seeking funding for scientific research and development can access grants that are awarded solely for this purpose. Many of these grants can be found through federal programs like:

Specialty business grants

Government and corporate grants are available for specific populations, like women entrepreneurs and minority-owned businesses. If you fall within an underrepresented or unique demographic, you may be eligible for a minority business grant, such as:

How to choose between a loan and a grant

When choosing whether you should pursue a business loan and grant, there are a few major business points you need to establish. Once you determine these points, you will have a better idea of which option is best for your business.

1. Establish how much money you need.

First, you need to know what you are seeking funding for and how much money you will need. There are several funding options out there, but only a select few will be suitable for your business. If you only need a small amount of funding, maybe a microloan or a short-term loan is a better option for you. If you need a significant endowment for research and development, maybe a grant is better for you.

"With grants, you can get a specific amount of money, whereas with loans you can get as much funding as you need," said Chandi. "Moreover, there are limited numbers of grants available, whereas you don't have to compete with anyone to get a loan. Therefore, it's always important to research and check the benefits and drawbacks associated with grants and loans to see what funding suits your needs the best."

2. Decide on a funding timeline.

How fast do you need the money, and how capable are you of repaying it in a respective timeframe? Grants will typically take longer to receive, so they are better suited for small businesses that don't need immediate funding. Although loans are given out quicker than grants, you have to assess how much time you need to repay it in full.

"When securing a business loan, personal credit history and score do matter," said Chandi. "Also, there are no hard-and-fast rules to secure a business loan – some lenders might provide you loans when you have more debts but a healthy cash flow too. Alternative lenders, such as online and non-bank lenders, are changing the face of small business lending, and providing loans easier and faster than a bank – as little as 48 hours."

3. Determine your eligibility.

Grants and loans each have specific eligibility requirements. Granters focus more on "what" you are doing with the money, whereas lenders focus more on "how" you can repay the money. These factors play into what funding you are eligible for.

"Make sure to read the fine print on any loans or grants before accepting them," said Tayne. "Grants can sometimes have restrictions on what the funds can be used for, and loans can come with high-interest fees and other fees you may not be aware of until it's too late. Check your city or state's local business associations and other resources for help regarding loans and grants." [Read related article: Hidden Gotchas in Your Business Loan Repayment Terms]

What's the Difference Between a Grant and Business Loan?

Learn whether a business grant or business loan is better for your business.