If You’re Considering a Line of Credit, Read This First
Wondering if a line of credit is a smart option for funding your small business? We can help! Learn what sets a line of credit apart from other borrowing options and weigh the pros and cons before you start your search.
Reasons to Open a Line of Credit
When you open a line of credit, you can use the funds for a number of different things:
- Get more working capital
- Buy additional inventory
- Supplement seasonal cash flow
- Pay off more costly debts
- Payroll for temporary employees
With a line of credit, you can finance the ongoing operating expenses of your business. When unexpected circumstances limit your cash flow, you have a safety net available. That’s why it’s a good idea to apply for a line of credit before you actually need to use it. It’s best for short-term needs, so don’t tie up these funds with long-term financing projects. If you do, you won’t have quick access to these funds when you need them.
How a Line of Credit Works
Lines of credit work similarly to credit cards with a few exceptions. A lender will grant you a certain amount of financing, and that limit is similar to the maximum balance you can carry on a credit card. You won’t start making payments and you won’t be charged any interest until you actually start using those funds.
Also like a credit card, lines of credit are described as “revolving.” That means you can use them again and again as long as the balance does not reach the maximum limit. For many small business owners this is a huge plus, because you have continuous access to the funds you need without having to reapply for a new loan every time you borrow.
Another plus of the line of credit is that it can save you money over traditional loans with lower interest rates and closing fees. However, that savings might not materialize if you exceed your limit or make a late payment and your interest rate increases as a result.
Lines of Credit versus Credit Cards
There are three key differences to keep in mind when comparing lines of credit and business credit cards. First, credit cards will typically have higher interest rates. They also usually have higher fees for cash advances as opposed to point of sale purchases. So if you need cash to pay an employee, for instance, it will usually cost you more to use a cash advance from a credit card than it will to use funds from a line of credit. Finally, credit cards typically require you to make payments on a monthly basis, but lines of credit don’t. In many scenarios you’ll save money with access to a line of credit.
How to Qualify
For the most part, established businesses won’t have much difficulty when it’s time to apply for a line of credit. Newer businesses, however, may find it’s more difficult to qualify. They may also have trouble getting access to the funds they need because borrowing limits and repayment terms are dependent upon your business revenues, your credit rating, and several other factors.
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