Business Credit Lines

What is a Business Line of Credit?

A business lines of credit is similar to a business credit card, where you apply for a credit line with a certain credit limit and only pay interest on what you borrow. This can be a valuable tool for managing business cash flow and borrowing money as needed. So if you’re approved up to $100,000, but only borrow $60,000 overall, you only pay interest on the $60,000. This makes lines of credit a flexible and practical approach to business financing.

There are two types of commercial line of credit:

1. Secured – backed by company assets. As lines of credit are short term borrowing mechanisms, the assets used as collateral can also be short term, such as accounts receivable or inventory.

2. Unsecured – no collateral is required, but in order to qualify for this type of credit the company’s credit score must be strong and sometimes a personal guarantee is also needed.

How Does a Business Line of Credit Work?

A line of credit is a simple tool; essentially, the company applies for a line of credit, and if approved is given access to a set amount of funds which can be accessed as needed. Monthly statements will be sent out detailing how much has been used, how much is left available to borrow, and repayments (amount borrowed so far plus interest). Once an amount is repaid, it can in effect be borrowed again – as with a credit card, if you use it and then pay it off, it effectively resets the bar.

Logistically, smaller lines of credit can be accessed by dedicated cards; some lenders allow required funds to be deposited directly into a company’s bank account. There is usually an annual fee for a line of credit, and some lenders will also charge a transaction fee every time the credit is used. There may also be an opening fee for setting up the line of credit.

What Can I Use a Business Line of Credit For?

A business line of credit can be used for a variety of purposes, including:

Purchasing inventory

A small business line of credit can help you purchase inventory for your business. With an unsecured business line of credit, you can access borrowed funds quickly and easily, without the need for collateral. The rates of interest on a business line of credit may be lower than those for a traditional term loan, making it a cost-effective solution.

Financing specific campaigns

If your business is launching a new marketing campaign or expanding to new customers, a business line of credit can provide the funds you need to make it happen. With a few quick questions and a credit review, you can access the unsecured line or secured line of credit account you need to take your business to the next level.

Repairing equipment

If your business needs new equipment, a small business line of credit can help cover the cost. With more flexible financing options and a repayment period that fits your cash flow, you can get the new equipment you need to keep your business running smoothly.

Day-to-day working capital

A business line of credit can also be used to cover day-to-day expenses and manage your business’s cash flow. With a monthly statement that shows your borrowed funds and rates, you can easily track your spending and stay in good standing with your lender.

Bridging cash flow gaps

For seasonal businesses, a small business line of credit can help bridge the gap between low cash flow periods. This can help keep your business afloat during slower months.

Overall, a business line of credit can be a valuable tool for start-up businesses that need to borrow money quickly and easily. With minimal rates and no collateral required for an unsecured line of credit, you can access the funds from your account you need to grow your business and achieve your goals.

How Can I Get a Business Line of Credit?

Getting a business line of credit differs a little from getting a standard business loan. For some lenders, the eligibility requirements will be stricter, as the capital being borrowed is more flexible (and therefore potentially riskier) than with a term loan. Traditional lenders are generally stricter in their requirements than online lenders, with eligibility usually determined based on the business owner’s credit score, the business’s credit score, the business’s age, and expected revenues.

If you run a seasonal business or have unique business needs, you may need to provide additional documentation to support your application. However, applying for a business line of credit is generally straightforward, and most lenders require the following documentation:

• Government-issued ID for the business owner
• Personal notice of assessment or income tax returns for the past two years
• Standard business structure documents, such as Articles of Incorporation, Certificate of General Partnership, ownership details, etc.
• Business license or trade name certificate

• Business financial statements for the past two years
• An active business account
• Business bank account statements for the past three months

When applying for a business line of credit, it’s important to find a lender whose eligibility requirements you meet. While credit score and business history can be a deciding factor in which lenders you can use, those with lower credit scores or new businesses need not give up hope. Many online lenders offer more flexible repayment terms and unsecured lines of credit, which can be a great option for businesses that need available credit and want to avoid a blanket lien on their account.

Overall, a business line of credit can be a valuable source of money for smaller businesses that need to manage cash flow or finance specific campaigns. By understanding the application process and eligibility requirements, you can find the right lender and secure the funding your business needs to grow and succeed.

Line of Credit Versus Business Loan

Small business lines of credit is a unique form of debt financing that offers flexibility and short-term borrowing options that distinguish it from other types of financing, such as term loans. Unlike a term loan, small business lines of credit can be accessed piecemeal and over time, rather than as a fixed amount upfront. This allows smaller businesses to have access to working capital with lower interest rates and credit as they need it.

Since a small business line of credit is not a fixed term loan, lenders are taking a risk on the future of the business and its ability to repay the credit. This means that a small business line of credit can be harder to obtain, especially for businesses that are seasonal, have a small bank account, or have unique business needs. Lenders will determine a business’s eligibility based on its credit profile and prospects, just like with other types of financing.

One key difference between a small business line of credit and a term loan is that a line of credit can rely on the business’s prospects, rather than a fixed amount. This means that a lender may require a personal guarantee or collateral in order to mitigate the risk of the credit line. However, small business lines of credit can offer lower rates and more flexible repayment terms, making them an attractive option for businesses that need quick access to working capital and a substantial credit limit.

Overall, a small business line of credit account can be a useful tool for a small business that needs variable financing options and access to credit over time. While they can be harder to obtain than term loans, they offer unique benefits and can help businesses manage cash flow and finance specific campaigns or projects. By understanding the differences between a small business line of credit and other types of financing, you can determine whether this type of account is right for your business needs.

Pros and Cons of a Business Line of Credit

As with any type of financing, there are advantages and disadvantages to using a business line of credit.

Pros

• Can use it anytime: A small business line of credit provides a small business with flexibility as they can access the funds anytime they need them.
• Multiple draws can be made on the same credit line: A small business can draw on the line of credit as many times as they need to, up to their credit limit, without having to reapply for a loan each time.

• Lower borrowing costs than other financing types: A business line of credit can provide lower rates than other types of financing, such as a business credit card or term loan.

• Can apply in advance and use in the future, ensuring constant and/or quick access to capital: A small business can apply for a business line of credit in advance, ensuring that they have quick and constant access to capital when they need it.

Cons:

• Lines of credit can become expensive if you allow interest to amount up: If you do not make payments on time or let debt accrue, the cost of a business line of credit can become quite high.

• Approvals process is more comprehensive than some other forms of financing: The approval process for a business line of credit can be more complex than for other types of financing, such as a small business loan.

• Borrowing limits are generally lower than with term loans: The credit limit on a business line of credit is typically lower than with a term loan, which can limit the amount of money that a small businesses can borrow.

• Multiple fees can apply: There can be multiple fees associated with a business line of credit, such as origination fees or annual fees.

What To Consider When Applying For a Line of Credit

All financial decisions require careful thought, and it’s important not to let the flexible and open-ended nature of lines of credit change your due diligence efforts. When considering a line of credit, answer the following questions:

• How much can I actually afford? Remember to include all fees as well as the rate (which may be fixed or variable) in your calculations.

• Do I have assets that can be used as collateral?

• What is the maximum amount I realistically need access to?

• How much am I able to borrow given my small businesses circumstances?

Once you know the above, you will have a clearer idea of what you’re looking for, and then will be better able to compare lenders and their rates to find the best deal for you.

Frequently Asked Questions About Business Credit Lines

What is a small business line of credit?

A business line of credit is sort of like a credit card for your small business; you apply for a line of credit and are approved up to a certain credit limit. You can then access the business lines as and when you need to, and you only pay interest on what you actually borrow at the agreed-upon rate. A secured business line may be an option for those looking for better rates or higher credit limits.

How is a line of credit different from a small business loan?

A line of credit differs from a business loan in a few ways, especially for a small business. A small business line of credit is open-ended, meaning there is no term limit. The credit limit on business lines dictates the maximum amount you can borrow, but you can access any amount up to that cap as and when you need to – unlike a business loan, where you receive a lump sum immediately and then have to pay it back by a certain date. Small business lines often have varying rates and may be unsecured or secured, with collateral required for the latter. In the same way, seasonal businesses can particularly benefit from this flexibility.

What are the requirements for a line of credit?

Many traditional lenders, such as banks, will require a solid credit history and comprehensive small business information before approving a small business line of credit. Some lenders have less strict requirements and may be willing to lend to newer businesses that don’t have a history or to those with lower credit scores. In the same way, they may require you to pay a higher interest rate to offset these risks. Unsecured lines of credit are often determined based on factors like your credit score and small business history.

What do I need to apply for a line of credit?

You need some documents to apply for lines of credit; these vary from lender to lender but usually include standard business documents and financial documents – such as a few years of financial statements, small business incorporation information, bank statements, business license, and ownership information.

What’s the cost of a line of credit?

Lines of credit come at a price; primarily this consists of the interest rate you pay on what you borrow. An interest rate can vary lender to lender. There are also usually fees, including transaction fees for each draw on the line of credit, annual fees, and set up fees.

How long does a line of credit last?

Most lines of credit are open-ended and have no set end date. However many lenders include a stipulation in their terms that allows them to cancel the line of credit at their discretion, in case circumstances change.

What are the risks of a line of credit?

Lines of credit are sometimes considered risky if they are not used sensibly. It is easier to get carried away when drawing on a line of credit, as it is such a convenient form of ready funds, and so can encourage reckless spending. Interest rate payments also become expensive if you allow them to build up without paying off the balance.

Written By Smarter Loans Staff

The Smarter Loans Staff is made up of writers, researchers, journalists, business leaders and industry experts who carefully research, analyze and produce Canada’s highest quality content when it comes to money matters, on behalf of Smarter Loans. While we cannot possibly name every person involved in the process, we collectively credit them as Smarter Loans Writing Staff. Our work has been featured in the Toronto Star, National Post and many other publications. Today, Smarter Loans is recognized in Canada as the go-to destination for financial education, and was named the “GPS of Fintech Lending” by the Toronto Star in 2019.