A business line of credit is a revolving loan that allows you to draw funds against a credit limit, which are then disbursed and accessible via a deposit account. As a revolving credit facility, you can request a draw at any time and for any amount, repay the balance over time, and continue to make further draws.
Key Takeaways:
- If you incur a balance, interest paid is based only on what you’ve borrowed.
- Monthly payments are made with the expectation that the line of credit will be fully repaid within a designated period, anywhere from a few months to years.
- The line of credit provides quick and flexible access to funds, suitable for supplying businesses with short-term funding to cover business expenses.
Bluevine is a highly rated loan provider offering business lines of credit with quick financing in amounts up to $250,000. You can visit its website to learn more or to submit an application.
Types of Small Business Lines of Credit
There are two types of small business lines of credit:
- Unsecured business line of credit requires no physical collateral to secure the loan. However, it is sometimes inclusive of a personal guarantee, which can put you at risk in the case of default. In part, unsecured lines often have higher interest rates and fees due to heightened risk to the lender if you fail to repay the debt.
- Secured business line of credit requires you to pledge some form of collateral (e.g., real estate, equipment, and accounts receivable) to back the amount of funds you are requesting. They are considered to be less risky and generally offer better rates and terms.
How Does a Business Line of Credit Work?
Business lines of credit are credit facilities that provide revolving loan funds that can be drawn upon and deposited to use as cash. These credit facilities are offered by banks, credit unions, online lenders, and the Small Business Administration (SBA).
The application process is fairly simple and quick to facilitate. It involves various qualification requirements decided by the lender, and eligibility is determined based on the criteria—such as your desired line of credit type, loan amount, interest rate, and repayment terms—you’re looking for with the loan.
Here are some applicable steps to get a business line of credit:
Commonly requested documents include tax returns, cash flow statements, and profit & loss statements. These are used to validate your information and eligibility for approval, which has a general timeline of up to 30 to 60 days, although it’s usually much faster for most lenders.
The loan agreement will spell out the terms and conditions required for the loan. Important elements to consider in this agreement include prepayment penalties, various applicable fees, draw amount restrictions, and repayment expectations.
Once the line of credit has been established, you can draw upon the loan as needed. Funds are typically disbursed quickly, usually within 24 to 48 hours, and deposited to your account of choice. No payment is required until the line is drawn upon, in which you are then responsible for repayment and making monthly payments inclusive of interest. You can continue to draw upon the line on an as-needed basis and repay accordingly.
Lastly, most business lines of credit are subject to annual reviews, in which the lender reviews and evaluates the loan along with your personal and business financial strength. You’ll likely need to furnish updated documents every year for its evaluation.
Pros & Cons of a Business Line of Credit
Business lines of credit can provide benefits and solutions that support your business operations. However, it’s worth noting that there may be some potential drawbacks to utilizing one.
| PROS | CONS |
|---|---|
| Reduces overall costs, as interest is paid based on only what you borrow | Is not ideal for financing long-term expenses |
| Offers quick access to funds for a variety of uses, deposited as cash to your account | Usually has a variable interest rate, which can fluctuate based on repayment period |
| Provides a solution for short-term funding, such as emergency purchases | Can have fees even if you don’t draw funds, including an annual or inactive fee |
| Typically offers a higher credit limit and better interest rates than a business credit card | May come with collateral requirements |
Who Is a Business Line of Credit Right For?
Business lines of credit have a wide variety of uses and can act as a beneficial financial tool for businesses across all industries. You should consider a business line of credit if you:
- Would benefit from a financial “safety net”: Funds drawn on the line of credit can be used to cover emergency expenses, which can include cash shortages, equipment financing, payroll, and maintenance and repair costs. Having funds at the ready can give you peace of mind should anything unexpected interrupt your business operations.
- Need flexibility in funding business expenses: Business lines of credit often don’t have restrictions as to how you use funds, as long as they apply to your business operations. Funding can be accessed quickly and is a solid option for short-notice expenses.
- Seek to take advantage of short-term financing: If you don’t want to be locked into terms like a traditional loan, business lines of credit offer more flexible rates and repayment schedules. Interest rates are usually variable and only applicable when you have an outstanding balance on the loan.
- Operate a seasonal business: Business lines of credit can help manage the fluctuation of income and cover expenses during your slow season and be repaid during your busy season.
Qualifying for a Business Line of Credit
- Credit score: Lenders may take both your personal credit history and business credit score into consideration. Generally, a personal credit score of 600 and above is required, and a higher score usually allows for better loan terms. Utilizing your business credit score allows lenders to determine creditworthiness according to your business history, such as timely payments and financial strength.
- Business revenue: To ensure your business can afford monthly loan payments, lenders will often require a minimum amount of monthly or annual revenue for approval. This amount varies depending on the loan amount and lender preference but can start at $100,000 per year.
- Time in business: Since there’s more risk involved with businesses with limited history, lenders often seek at least six months time in business. More common is a two-year requirement to ensure the strength of operations and revenue. Oftentimes, the longer business history you have can help secure more favorable loan terms.
- Collateral: Depending on whether you choose a secured or unsecured line of credit, you may have to pledge collateral to account for the instance you default on the loan. The lender can require a UCC filing on an asset or request a personal guarantee. With this, more favorable terms are generally offered than unsecured lines of credit.
Choosing a Business Line of Credit
There are many sources from which to get a business line of credit. You should consider a variety of factors when choosing one that is best suited to your business needs. Our guide on the best small business lines of credit is a good place to start your search.
The following criteria are what you should look for:
Business lines of credit can be offered in varied amounts, generally up to $250,000. Take what you’re planning to use the line of credit for into consideration, and decipher how much funding you’ll actually need. You want to be comfortable in the case of an emergency but not get yourself into a situation where you borrow more than you can afford.
Try to work with a lender that will support your business needs and provide sustainable terms. Not only should you meet the lender’s approval requirements, but who you choose as a loan provider should also allow for repayment and renewal terms that are practical to your budget and operations.
Do your due diligence in shopping around for the best interest rate, as many lenders calculate rates differently. Variable rates are common with business lines of credit and change frequently throughout the loan.
Depending on the lender, there are a variety of applicable fees that may be included with a business line of credit. This can include an origination fee, annual renewal fee, draw fees, inactive fees, and prepayment penalties, which can grow costly over time. Be sure to understand the presence and expectations of any fees before signing an agreement.
The terms of an agreement will outline the repayment period of a draw on the line. Usually, the higher the total loan amount, the longer the repayment term is. This can range anywhere from three months to upwards of five years. Monthly payments will vary depending on the current balance, interest rate, and repayment term.
Alternatives to a Business Line of Credit
In exploring options for funding sources for your business, a business line of credit is a suitable option mainly for short-term financing. If you are looking to make a larger purchase better suited for long-term financing or are more comfortable with set terms like a traditional small business loan, you can consider these alternatives.
- Small business credit cards: By using a credit card to fund your business, you won’t need to provide collateral and can simply use the card to make a purchase instead of drawing on a line and having the funds deposited. Oftentimes, lenders provide introductory offers or rewards when signing up.
- Small business loans: If you’re planning to make a larger purchase, you may need to budget more time to pay off the expense. Getting a small business loan can help you finance over a longer repayment period, often with a fixed rate and monthly payment.
- Startup financing: If you’re seeking financing for an asset that you’ll utilize long-term, it may be worth considering equipment financing, working capital loans, or startup business loans. These may be suitable if you are looking for a fixed rate or need a more structured agreement.
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Frequently Asked Questions (FAQs)
Yes. When you request a draw off the line, the funds will be deposited within your account of choice. Keep in mind, a business line of credit cannot be used for personal purchases or to pay off personal debts. Funds withdrawn from a business line of credit are only applicable to finance purchases for your business needs.
For a business line of credit, some businesses may not qualify if they have limited resources. While not impossible, if your business has a limited operating and credit history, it may be trickier to obtain a line of credit since lenders will take time in business into consideration for approval.
Credit score requirements to obtain a business line of credit can vary depending on the lender. Generally, a score of 600 and above increases your chances of approval when taken into consideration with other qualification criteria.
Bottom Line
Business lines of credit offer quick and flexible funding to businesses that may utilize short-term financing to support business operations. Whether it be covering an emergency expense, the purchase of inventory, or a temporary cash shortage, funds can be drawn upon and accessed quickly.
The draws are repaid within a few months, or even up to five years, depending on the agreement with the lender. Many lenders offer various line of credit options, so be sure to find one that best suits your business needs.
