What Is a Business Line of Credit and How does it Work?
From time to time, every small business needs an influx of money. Banks and investment firms provide access to loans for companies to help them expand, cover unforeseen expenses, and survive a downturn in economically challenging times.
A business line of credit is flexible because each business can access those funds on its terms. Small businesses are the backbone of the American economy, so lines of credit are viable.
What is a business line of credit?
Many people might assume that a small business loan and a business line of credit provide the same type of funding. That’s not the case.
An unsecured line of credit is a flexible solution. In contrast, a traditional loan weighs heavily on the small business owner as the loan demands payment on a specific repayment schedule with interest.
A line of credit provides the same amount of cash, but you pay it back on flexible terms. You only pay interest on the funds you withdraw, not the entire amount. A line of credit works like a credit card. You borrow only the amount required and then repay it.
Secured and unsecured lines of credit
For some, the wording ‘unsecured’ might seem daunting. Unsecured lines of credit benefit small businesses. It allows a small business to borrow funds without having to offer assets as collateral to secure the loan.
Unsecured lines of credit range in value from $10,000 to $2,000,000 and come with a variable interest rate. Some institutions may require a blanket lien or a certificate of deposit for over $100,000.
As a savvy business owner, look for an institution with a proven client base, a good standing with the BBB (Better Business Bureau), and no hidden fees. Small business lines of credit applications shouldn’t take more than 24 hours to process.
Getting a small business line of credit approval
Look for a lending institution offering full transparency and no hidden fees or unusual restrictions.
Some financial institutions require that the business has a history of good standing and no infractions. To apply, you should provide details about your personal credit rating, a good business credit rating, and financial statements that prove your business generates revenue.
Typically, rates are lower for business lines of credit than business credit cards (often higher than 20% APR). Unsecured lines of credit are also a better option than costly cash advances.
Many lenders offer easy-to-use online credit line quotes that provide instant information on what you qualify to receive. Some only ask that you meet their minimum credit rating standard that matches the minimum or maximum amount of credit you’re applying to receive.
The upside of getting a line of credit for a small business
Undoubtedly, the most significant benefits of an unsecured line of credit for your small business are flexibility and access.
If you borrow $5,000 from your $20,000 line of credit to buy more inventory and pay that sum back, you can use that money again without applying for more. It’s a rolling fund. You only pay interest on the money you take out, not the entire amount in your line of credit.
If you opted for a term loan of $20,000, you owe the bank the fixed interest amount on the entire amount regardless of the amount you withdraw.
Another favorable result of using a line of credit is forming a rapport with your lender. If you remain in good standing, a good relationship allows you to build on your financial portfolio and potentially increase your access to funds.
This business-to-business relationship also translates into raising your business credit rating. When you apply for a line of credit, ask your lender if they report to the credit bureaus. A good credit rating is a sound trading card to advance your business.
A line of credit works like a credit card but charges lower fees than a business credit card and doesn’t have fixed payments. Lines of credit also allow you to pay large lump sums back without penalties when you’re in a position to do so.
Always read all the documents you sign and agree to. If you don’t understand the terms, have them clarified for you. Make sure there are no hidden fees in your contract.
There’s a downside. Large banks can take time to approve your small business line of credit, but online lenders are much quicker. Being financially responsible is a tough job, and you should always keep track of fees and interest rates.