What is a Business Line of Credit & How Does it Work?
What is a small business line of credit?
Like a small business loan, an unsecured line of credit provides a business with access to money that can be used to address any business expense that arises. Unlike a small business loan, however, there’s no lump-sum disbursement made at account opening that requires a subsequent monthly payment.
A small business line of credit is subject to credit review and annual renewal, and is revolving, like a credit card: Interest begins to accumulate once you draw funds, and the amount you pay (except for interest) is again available to be borrowed as you pay down your balance. As with a credit card, the lender will set a limit on the amount you may borrow.
Using a small business line of credit
The number-one reason to open a business line of credit is to gain access to short-term funding. Most businesses use these funds to support financing for operational expenses like supplies and payroll or for increasing inventory. Cyclical businesses often rely on an unsecured line of credit as a source of off-season working capital.
Understanding secured and unsecured lines of credit
A small business line of credit is typically offered as unsecured debt, which means you don’t need to put up collateral (assets that the lender can sell if you default on the debt). Many unsecured lines of credit come with a variable interest rate and are available for sums ranging from $10,000 to $100,000.
For amounts greater than $100,000, you may be required to secure your line of credit with a blanket lien on your assets or a certificate of deposit.
What’s required to obtain a small business line of credit?
Be sure to research the specifics of any lender’s business line of credit requirements. For example, many banks will require a business to have been under current ownership for some fixed amount of time.
Rates for a business line of credit tend to be lower than those for a business credit card, which can charge more than 20% APR for purchases — and even more than that for cash advances.
Maintaining a line of credit in good standing may help build your business credit rating and position you for better loan terms if you seek future financing. Many small business experts suggest that first-time applicants should start a modest line of credit and pay off the debt quickly as a way of building a credit profile.