When operating a business, it is important to have a reliable way of obtaining cash when the need arises. A business line of credit is a reliable way to finance business.
A business line of credit is a revolving financing solution that allows businesses to access a fixed amount of credit capital and is used to meet short-term needs, such as:
- Repairs for business equipment
- Marketing campaigns
- Purchase of inventory
- Financing seasonal financial gaps
Compared to personal loans, a line of credit offers a maximum amount of money with interest charged on the amount borrowed and not the entire amount available.
There are a few things investors need to know about small business lines of credit from the qualifications needed, how it works, types of line of credit, and much more.
Types of a business line of credit
1. A secured line of credit
This type of credit requires the business owner to offer assets as collateral to access the line of credit. Since lines of credit are short term, the lenders ask for short-term assets such as inventory and accounts receivable. According to Lantern Credit, “A secured line of credit uses an asset you already have, like company real estate, as collateral to secure the loan. In the event you default on payments, the lender has the right to seize that piece of collateral to offset their losses.” Lenders normally don’t ask for capital assets such as equipment or property as security for the loan.
2. An unsecured line of credit
This type of credit line does not require assets as collateral. The lenders only require a personal guarantee and a general lien because this type does not require specific collateral. However, the business will need to have a strong credit profile and a positive track record. The interest rates are slightly higher for this loan than the secured credit line type and are often smaller.
How LOC works
When a business owner opens a line of credit, the business enjoys access to a stated amount of money to use when the need arises.
The payment and interest apply to the amount used. Once repaid, the business can access the LOC once again as needed. The credit periodic payment varies from business to business but can be either weekly, monthly, or a scheduled payment period.
Additionally, an annual fee for line credit is common. If the business frequently accesses the line credit, a transaction fee may also apply.
A small LOC below 100,000 dollars may operate as a credit card account, and credit is accessed using a card tied to the line of credit. Some lenders offer an option to deposit directly into the business working bank account.
Where to get LOC
Most major banks, including community banks and commercial banks, offer small business lines of credit. In addition to online lenders and credit unions also offer a line of credit.
Most lenders consider established businesses that have a positive credit history. For recently established business under two years, some lenders offer a line of credit backed by business administration.
Lenders will want to see financial records and a track record that demonstrates business capabilities and creditworthiness. Some of the basic requirements could include:
- Business License
- Tax returns
- Personal identification
- Business bank account
- 2-3 months of bank statement
- Financial documents such as Cash Flow, AP, P&L, AR, etc
Terms for LOC
Before taking a business line of credit, one should consider and fully understand its terms. How long will they pay the loan, and at what frequency are there any penalties? Most LOC loans offer flexibility, such that people can choose to pay weekly or monthly.
A business line of credit is an important tool for enhancing growth and funding profit-generating ventures. It can also come in handy as a flexible way to cover cash gaps. For seasonal businesses, a line of credit can harness resources and maintain business operations throughout the year.