Small Business Grant vs. Loan: 4 Differences to Know

Rebecca Lake

Updated June 8, 2021

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Editor’s note: Lantern by SoFi seeks to provide content that is objective, independent and accurate. Writers are separate from our business operation and do not receive direct compensation from advertisers or partners. Read more about our Editorial Guidelines and How We Make Money.

When you're starting a new business or expanding an existing one, you may find that funding is one of the biggest hurdles to overcome. While bootstrapping is an option, it's not always necessarily realistic when cash supplies run short. Small business grants or loans, however, can help close many financial gaps for business owners. Whether you decide to use a grant or a loan--or a combination of both--may depend on where you are in your business's life cycle, what your needs are and what type of funding you're able to qualify for. And it’s important to understand the differences between loans versus grants.

Comparing Small Business Loans vs. Grants

Small business grants provide funding to businesses, typically without any requirement that the money be paid back. This is essentially free money that's provided to business owners who meet specific criteria. A small business loan, on the other hand, represents a financing agreement between a business and a lender. A lender extends a lump sum of money to the business and the business is responsible for paying it back over time, usually with interest. This is probably the most significant difference between grant and loan options for small businesses. But there are some other things that set them apart from one another. As you explore small business financing possibilities, here's a closer look at grants versus loans.

1. Grant vs. Loan Eligibility Requirements

Small business grants can come from nonprofit organizations, for-profit organizations, and independent agencies such as the Small Business Administration (SBA). Note that the federal government doesn't make grants or loans to businesses directly but it can assist with programs that do. Each organization offering a business grant can establish criteria to determine who qualifies. For example, some organizations may exclusively offer small business grants for women. Others may provide small business grants for minorities. Still others may cater to veterans or disabled entrepreneurs or businesses that operate in certain industries, for example. Organizations that offer small business grants may look at other criteria, too, such as:

Type of business or industry
Whether it's a startup or an established business
Business size and number of employees
Estimated or actual revenues

But while factors like these are important, a primary consideration for small business grants may be whether the business owner meets specific demographic or industry requirements. For example, if you're looking at the top business grants for veterans then you should (and probably do) realize that you need to be a veteran to qualify. With small business loans, lenders are more interested in the fundamentals of the business and the business owner's financial health. For example, when you’re applying for a small business loan, lenders may review your:

Business and personal credit scores
Personal income or business income
Profit and loss statement
Cash flow statement
Business or personal assets

While a lot depends on your business’s individual situation, in terms of eligibility requirements, it may be tougher to qualify for a grant than for a loan.

2. How Grant vs. Loan Funding Can Be Used

Another important difference between grant and loan options for small business has to do with how you can put the funds you receive to work. With a small business loan, you generally have a lot of control of what you do with the money. For example, you might use a small business loan to upgrade your computer equipment, purchase business vehicles, or open a second business location. Small business grants, however, may be more restrictive in terms of how you can use them. For example, you may be able to use a grant only to fund efforts to grow your business. Or some grants may limit you to expenses related to the cost of starting a brand-new business from the ground up.If you're looking for more flexibility in how you can spend funding, then a small business loan may be a more useful option than a small business grant.

3. Funding Amounts

When seeking out grants vs. loans, it's important to understand how much money you may be able to access. With a grant, funding isn't unlimited. Organizations that make grants to small businesses can cap how much they offer. So for example, you might be limited to receiving $5,000 or $10,000, though some may offer $25,000 or more. The upside is that you don't have to pay grant money back, but it may not be enough to fully meet your funding needs. With small business loans, lenders can typically set the borrowing limit much higher. SBA 7(a) loans, for example, have a maximum cap of $5 million. When you look at the numbers, you may lean more toward an SBA loan than a grant. But it's important to keep in mind how much you actually need, as well as the repayment terms.

4. Repayment Requirements

As mentioned, the chief difference between a grant and a loan is that a loan has to be repaid while a grant typically does not. But it's also important to note that small business loans are not all identical when it comes to their repayment requirements. Short-term loans, for example, may have repayment periods lasting less than one year. Long-term loans may have repayment periods extending over several years. With SBA 7(a) loans you can take up to 25 years to repay what you borrow, depending on what you're using the loan proceeds for. That may potentially be another mark in favor of an SBA loan rather than a grant. When comparing small business loans, it's important to understand how the repayment term works, how much you'll pay monthly, and what you'll pay in interest over the life of the loan. This can help you weigh whether which makes more sense for you: a loan versus a grant.

5. The Application Process

Regardless of whether you decide to apply for a loan or a grant, you’ll have to apply for it. There are some differences to consider when it comes to applying for a small business loan versus applying for a grant.For loan funding you'll need to meet the lender's criteria for things like credit score, revenues and time in business. So as you compare small business loan options, it’s wise to take time to check the minimum qualification requirements carefully to weed out loans that you're less likely to qualify for. Finding the right lender may require a bit of a balancing act. For example, say you’re considering whether an SBA loan could make sense for your borrowing needs. The SBA loan, for example, has the $5 million upper cap for borrowing, so if you think you'll need a large loan, then the Small Business Administration might be able to help. Keep in mind, however, that the SBA may have stricter qualification requirements than a traditional bank or an online lender. If you're considering online small business lenders, it's also important to dig into the specifics of things like:

Loan interest rates
Whether rates are fixed or variable
Loan fees, including origination fees and prepayment penalties
Repayment terms
Collateral requirements
Personal guarantee requirements

You may also need collateral or a personal guarantee or both to secure a small business loan so it's important to know beforehand what you might be required to offer.When you’re applying for a small business grant, there can be a lot more variability. Your business’s financial situation may be less relevant. But it’s key to make sure that you understand the eligibility requirements for the grant and that you meet them. Small business loans meant for women, for instance, generally require businesses to have one or more women owners. Depending on the grant, you may be asked to show proof of your eligibility, so bear that in mind. Once you’ve done that, it’s a good idea to check any additional requirements that your business might need to meet and be sure you understand the application--including the deadline. You may also need to explain how exactly you expect to use the funding. Unlike a loan, with a grant you don’t have to provide collateral or a personal guarantee, but having your business’s financial statements and business plan at the ready couldn’t hurt. And while you shouldn’t need to worry about repayment terms, you could be asked about how you’ve used the money down the road, so read the fine print to be aware of all the prospective grantor’s expectations.Finally, bear in mind that grants are very competitive and that not every eligible candidate for a grant will receive it, regardless of merit. While getting free money is appealing, the investment of time and energy you put into a grant application isn’t guaranteed to pay off.

Loan versus Grant: How to Decide

What makes the most sense for your small business depends on a lot of variables that are unique to your situation. As you’re making your decision, some questions you may want to ask yourself might include:

Can I earmark these funds for a specific purpose?
How much money do I need?
Are there any grants for which my small business is eligible?
Will my business be able to pay back these funds?
Do I have the time to search out and apply for grants?
Do I have a personal or business credit score that will allow me to get good terms on loans?

Finding the right option for your small business can take some time. Just remember, you may be able to combine options if that makes the most sense for you--taking out a loan to ramp up inventory, for example, while applying for a grant to help you launch a new product.

The Takeaway

Choosing between grants and loans ultimately comes down to knowing what your business needs are and what type of funding fits best in your overall financial strategy. Remember that you can combine more than one option--and that your needs may change over time. If you end up opting to explore small business loan options, SoFi Lantern can help. Visit SoFi Lantern to compare small business financing and apply online today.

Third-Party Brand Mentions: No brands or products mentioned are affiliated with SoFi, nor do they endorse or sponsor this article. Third-party trademarks referenced herein are property of their respective owners.The information and analysis provided through hyperlinks to third-party websites, while believed to be accurate, cannot be guaranteed by SoFi. Links are provided for informational purposes and should not be viewed as an endorsement.The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.SOLC21022

About the Author

Rebecca Lake

Rebecca Lake is a freelance writer specializing in personal finance, investing and small business. Her work has appeared online at U.S. News and World Report, Forbes Advisor, CreditCards.com and Investopedia. Rebecca writes about a variety of topics for SoFi, including budgeting, saving money and student loans.

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