What is a business line of credit?

You can’t run a business without access to ready cash. Ideally, you’d have money in the bank, but that’s not always possible, especially when starting out. This is where loans, credit cards and business lines of credit come into play.

Here, we examine what a business line of credit is and how it could help you run your company more efficiently.

What is a business line of credit?

A business line of credit is a pool of cash you can dip into when you need it, and it provides access to funds for a specific period, typically from one to five years. This form of credit exists because small businesses can’t just rely on funds in their bank account. Likewise, it’s tricky to gauge how much money you may need, particularly when starting a business or expanding.

How does a business line of credit work?

A business line of credit gives you access to an agreed limit of cash when you need it. This differs from a business loan, which provides a lump sum upfront, and for which you pay interest from the start on the total amount borrowed. With a business line of credit, you only pay interest on the amounts you draw down.

It is worth noting that a business line of credit can be revolving – which means you can spend and repay the credit – or it can be fixed and upfront, operating like a traditional business loan. 

Business lines of credit are either secured or unsecured. 

• If secured, the lender can take a pre-agreed asset you own, such as tools, work equipment or your car, if you don’t pay back the funds. A secured line of credit is easier to get if you’re starting in business, but bear in mind the risk of losing a valued asset

• If unsecured, the lender can’t seize any of your property in the event that you don’t pay back what you owe, but it can take you to court to recover its money if you can’t make the repayments. Unsecured lines of credit tend to attract higher interest rates than secured ones. This isn’t a problem if you have a healthy revenue stream, but it can be a source of worry if your business struggles at times

What are the advantages of a business line of credit?

For a business to succeed, it invariably needs a line of credit. Used efficiently, this can propel your company to the next level. Here are some of the main benefits of a business line of credit:

• Flexibility – If there’s one thing you can expect in business, it’s the unexpected. In some cases, this could be a big contract, in others an opportunity that requires funding. In the latter case, having access to a line of credit that you can draw on as needed could make all the difference

• Affordability – A business line of credit can be more cost-effective than alternative sources of finance. You can expect to pay interest starting at 4.5% APR on a secured line of credit or from around 8% for an unsecured line of credit. These rates are significantly lower than those attached to business credit cards, which vary from around 14% to 35% 

• Accessibility – Having a business line of credit means you have money to fall back on to cover expenses. These can be anticipated amounts, such as paying suppliers and covering staff salaries at the end of a difficult month, or unexpected, such as needing to buy equipment at short notice

What are the disadvantages of a business line of credit?

As with any form of debt, there are risks involved. Before signing up, consider the following:

• Over-reliance – Having access to funds can be a blessing, but at some point, you must repay any money you borrowed, and your access to this line of credit will end

• Loan conversion – At the end of your contract, any money still owed reverts to a loan that charges a higher rate of interest

• Fees – Business lines of credit typically come with fees attached. These include application charges, monthly maintenance fees, draw fees each time you use the credit, and payment processing fees

How can I get a business line of credit?

A quick online search delivers a range of potential lenders. The total amount of credit you can draw on is set and depends on your business credit score and annual revenue. However, you only pay interest on the sums you use. Also, a business line of credit is rather like a credit card – you can either pay off your balance each month or make partial repayments.