A business line of credit is a loan that allows business owners to withdraw money from a set amount instead of borrowing a lump sum. Much like a business credit card, a line of credit is revolving. This means that once you pay off the funds you withdrew, the full loan amount is available again.
If you run your own business, then it’s likely there will be a time where you’re going to need access to readily available cash. You could be looking to increase staff, purchase capital goods, or grow and expand your company. If this is the case, then a business line of credit might be the best option for you.
Some might think that a business line of credit and a business credit card are very similar. While both products will give you access to a specific amount of money and allow you to borrow any amount up to that limit, there are some key differences.
Business credit cards are great to use for capital upgrades like new computers. Depending on the credit card, business owners can benefit from rewards on that purchase or even gain some cash back. However, business credit cards frequently come with much higher interest rates than what you will receive with a line of credit.
Another difference is the fees and penalty charges that come with business credit cards. A business line of credit does not typically come with fees. However, business owners may be subject to a maintenance fee if they don’t use the credit line. Fortunately, most lending companies do not impose this fee. Depending on the expense, a business line of credit will usually have a much more flexible repayment schedule than a business credit card.
A huge benefit of lines of credit is that you only pay for what you take. Additionally, interest only applies to the amount you withdraw. For instance, let’s say you have a business line of credit totaling $50,000 and you withdraw $10,000. If you and the lending company agreed on a 10% interest rate, then the interest amount would be $1,000 and the total amount you would be responsible for paying back would be $11,000, not $50,000. Once you have paid off the $11,000, you will have the full $50,000 amount available.
Lending companies set interest rates on lines of credit. Lending companies will often establish the interest rate based on your personal credit score and the current state of your business. Depending on these factors, the rate on the credit line can be lower than a business credit card if the issuer is not offering promotional introductory rates. However, if a lending company believes that a business is a risk, they may set a higher interest rate in order for that business to qualify.
Another factor to consider is that some lending companies will require businesses to pay down their balance to $0 at some point within the year to demonstrate that the business is cash flow positive. Taking this factor into consideration, it would be prudent to only withdraw an amount you believe you will be able to pay down within a short amount of time.
Before you open a business line of credit, make sure you compare lending companies to ensure that you feel comfortable with the terms they are setting for your credit line. Understand the fees they are setting and any additional charges they may be asking you to be responsible to pay. This will help you find the most cost efficient line of credit for your business.