A business line of credit can give your company quick access to revolving credit. And though you may find business credit cards to be equally convenient, you might see lower interest rates, fewer fees, and more flexible repayment terms with a line of credit.
You might receive one of two different types of lines of credit: unsecured or secured.
An unsecured line of credit doesn’t require any type of collateral: just your personal guarantee.
A secured line of credit, on the other hand, requires you to use some type of property as collateral. In the event you default on your payments, your lender can use your collateral as payment towards whatever you owe.
Since a secured line of credit is less risky for lenders, you may qualify for better rates and repayment terms than you would with an unsecured loan.
At the same time, you should be willing to lose whatever property you use as collateral in case the unforeseen happens and you can’t make your payments.
What's the Total Cost?
The biggest cost involved is interest.
The amount you’ll pay depends on a number of factors, including the strength of your application and the lender you choose. Rates can start as low as 7% and go as high as 60%.
You might also encounter origination fees, draw fees, and maintenance fees depending on the lender.
Only Pay Interest on Funds Drawn
The most notable benefit is that you only pay interest on the funds you actually draw from your account, saving you money over time.
This is because you won’t have to go through the process of estimating what a business expense might cost you, then adding in a buffer to your loan request just in case something goes over budget.
With a corporate credit line, you can wait until you actually need to use the money and only take out money when you’re ready to pay for a bill.
You don’t end up paying interest on money you didn’t end up using.
Funds Can Be Available When You Need Them
The next big advantage of getting a business line of credit is timing.
Rather than waiting for an emergency and then applying for a loan, you could have funds readily available.
Plus, you may not need a specific purpose with a line of credit. The funds might simply be used for whatever working capital you need.
This can provide you with a lot of flexibility to help your cash flow and your balance sheet.
Could Build Your Business Credit
Some lenders report your timely payments to the credit bureaus, which builds your positive credit history.
And with payment history accounting for the largest percentage of your credit score, you could quickly start seeing results.
Disadvantages of Business Lines of Credit
While there are a lot of advantages, this type of short-term financing comes with its own set of disadvantages too.
For one, you may be required to provide your lender with updated financials on your business when you’re ready to draw on your account.
It may be cumbersome, but it reassures your lender that your business is still viable and able to make the repayments.
Offering Up Collateral
As mentioned earlier, you may also be required to provide collateral for a new line of credit.
The kind of collateral accepted varies lender by lender, but typically you can use personal property like a vehicle or boat, a savings account, or sometimes inventory or other assets.
Variable Interest Rate
Small business lines of credit also use a variable rate rather than a fixed rate.
Often it’s calculated as the prime rate plus an additional number of percentage points.
If the prime rate changes, your interest rate correspondingly changes as well.
On Demand Status
Another feature of lines of credit is what’s known as “on demand,” which allows your lender to close your line of credit at will and require your balance to be paid within 30 to 90 business days.
It’s important to use your line of credit strategically so that you’re not overburdening your financial situation.
Higher Interest for Poor Credit
Finally, as with any type of financing solution, you’ll pay more if you have bad credit.
While that can be good news because you actually can get a line of credit for bad credit, you should still realize that your interest rate will undoubtedly be higher compared to someone with a strong credit history.
How To Qualify
Obtaining a line of credit can be an easy process if you’re organized and prepare your information ahead of time, rather than scrambling for documents as your lender requests them.
While you’ll have a better chance of qualifying if you have a more established business and a good credit history, it’s still possible to get a line of credit if your business credit history is less-than-impressive.
Demonstrated Ability to Pay
Business line of credit requirements may include your personal credit score as well as your business’s financials.
The lender might want to review your revenue figures, profit and loss statements, and other documentation demonstrating you the health of your business.
A positive cash flow is a huge indicator of your company’s success, and is sometimes a must for having your application approved.
Keep Credit Utilization Low
You’ll also want to make sure your other levels of debt are minimal.
While acceptable debt ratios vary lender by lender, you don’t want to appear overburdened by other financial obligations.
Request During Peak Season
Another tip is to request a business credit line before you actually need the cash.
In other words, don’t wait for the middle of your slow season when your numbers look deflated.
Request when your company is at its best so you come across as a responsible applicant who is able to make payments on time as needed.
Don’t wait until you’re cash-strapped and desperate for capital.
Be prepared by having a line of credit at your disposal so that you can meet both challenges and opportunities head-on and come out on the other side stronger than ever.
Connecting with a Lender
Getting the right line of credit is often dependent upon selecting the right lending institution.
When looking around, carefully consider the following:
Amount of Credit
First think about how much money you actually want access to.
If you’re a new business, you can do this by thinking of a worst case scenario, like having to replace your most expensive piece of equipment.
If your company is more established, look back throughout your history and identify the largest expense you’ve ever had.
Either method is a good starting point to figure out how large of a line of credit you should request from a potential lender.
Comparing interest rate offers is also one of the most important things because that determines how much it will cost you to repay your balance once you actually start using your line of credit.
Don’t assume that just because one lender offers you a certain rate that you can’t get a different rate with another lender.
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Late Payments Hurt Your Credit Score
Please be aware that missing a payment or making a late payment can negatively impact your credit score. To protect yourself and your credit history, make sure you only accept loan terms that you can afford to repay. If you cannot make a payment on time, you should contact your lenders and lending partners immediately and discuss how to handle late payments.