A business line of credit (LOC) offers a convenient form of financing for small businesses looking to obtain fast, short-term funding to help grow and sustain their business. Taking steps to understand this funding option and how it works could help you determine if it’s the right financing solution for your business needs.
A small business line of credit is a flexible funding tool that allows businesses to borrow a fixed amount of funds they can draw on when needed while only paying interest or fees on the amount they use. This type of revolving credit can be a valuable tool for small businesses to overcome gaps in cash flow and help grow their company.
What You Need to Know About a Business Line of Credit
A common reason small businesses might consider applying for a line of credit is to obtain additional funding for short-term needs. Business lines of credit are also a flexible form of funding – meaning they don’t have to be used for any predetermined business purpose.
A business line of credit can be used for a variety of short-term needs, such as:
- Managing payroll
- Hiring new staff
- Covering unexpected costs
- Supplementing cash flow
- Building a safety net
- Cover seasonal downturns
- Supporting ongoing operating expenses
Should Your Business Consider a Line of Credit?
A business line of credit can be a good option if your business requires access to fast financing for short-term expenses to help manage day-today-requirements, replenish inventory, and cover unexpected costs.
Two Types of Business Lines of Credit
Secured Business Line of Credit – This type requires the business to provide assets as collateral to secure the LOC. Because a line of credit is a short-term liability, lenders typically ask for assets such as inventory, equipment, or money in a business bank account. These assets can be seized if your business fails to repay. However, a secured LOC usually comes with lower rates and potentially higher credit limits.
Unsecured Business Line of Credit – This type does not require assets as collateral. Instead, the lender will use information about your business’ credit, income, and outstanding debts to decide if your business qualifies for a line of credit. While your business isn’t at risk of losing assets if it can’t repay, you may expect higher rates and potentially lower funding amounts with unsecured lines of credit.
Line of Credit vs. Small Business Term Loan
Although both lines of credit and short-term loans provide access to working capital that can help offset small businesses’ expenses, they are very different types of financing.
Traditional loans often require your business to borrow a fixed amount of working capital for a predetermined length of time. This means the business can only access the loan amount once, and it can’t be used again after it’s paid off.
If your business needs access to large sums of working capital for a one-time expense or a sizable purchase, a loan might make more sense for your business.
A line of credit, on the other hand, is a more flexible financing option. It allows your business to draw on funds up to the maximum approved credit amount while making regular payments to pay off what you’ve already drawn on from the aforementioned credit amount. Unlike traditional loans, the business has continuous and repeated access to these funds.
If your business is looking for financing to help fund short-term operating purposes as cash flow needs arise, then a business line of credit may prove a better choice.
Line of Credit vs. Merchant Cash Advance
A merchant cash advance, which is not a loan, gives businesses access to funds for a percentage of their future credit/debit card receivables. Payments are based on the business’s receivables, meaning no fixed payment term exists. This also allows payments to be tailored to the flow of business sales.
This option can get your business working capital quickly but isn’t revolving like a line of credit and requires your business to accept credit card payments or have other receivables.
Merchant cash advances are ideal for businesses that are seasonal, have high credit card sales, or have lots of receivables and need fast access to working capital.
Line of Credit vs. Business Credit Card
A business credit card can offer the same type of flexibility as a line of credit but often requires higher qualifications for small business owners to be approved.
Business credit cards can help provide short-term financing while helping to build your business credit by offering flexible payment options, but they may come with higher rates and requirements.
Qualifications for A Business Line of Credit
Requirements to obtain a business line of credit differ by lender, but there are several requirements all businesses will need to meet to qualify for a line of credit.
In general, these requirements will be associated with your business credit score, revenue, track record in paying bills, and time in business. These factors help to determine if your business qualifies but will also impact how much funding it can qualify for, as well as the duration and length of repayment terms.
Pros and Cons of a Line of Credit
As with any financing option, there are always pros and cons. Here are the pros and cons of opening a business line of credit.
- Help build your business credit
- Easy application process
- Revolving access to working capital
- Potentially shorter repayment terms
- Potentially lower maximum limits
- Fees may be assessed on each draw
Applying for a Line of Credit
If your business is looking to secure a line of credit, your business can do so through a bank, credit union, or an online alternative funder like Rapid Finance. All options require your business to submit certain documents.
These documents include:
- A valid form of identification
- Business bank account number and routing
- Last three months of business bank statements
If your business chooses to apply for a small business line of credit with Rapid Finance, we have a simple, fast, and trusted application process.
- Apply Online– Visit our online portal to fill out an application. Tell us about your company, goals, and objectives. We recommend having the necessary paperwork on hand to make the process faster.
- Review– Our team will carefully review your business financing application, and one of our trusted business advisors will reach out if we need any additional information.
- Get Funded– Our team will send the determined initial draw to your business bank account if approved.
- Obtain Additional Funds– Because lines of credit are revolving, your business can come back and draw on your business’s line of credit up to the approved amount while your line of credit is still open.
Summary & Conclusion
If your business is looking for flexible financing options and wants the ability to access working capital on a revolving basis, a line of credit could be a great option.
Once your business has decided to focus its financing search on a business line of credit, you’ll need to find the right LOC for your business, evaluate your qualifications, gather your documents, and complete the application process.