Fund projects and purchases that drive your business forward.
Every small business face periods of lumpy cash flow. Often, this uncertainty comes on the heels of an unforeseen cost. These expenses could be a whole host of unique reasons — a new large order with high material cost or a broken machine that has production at a standstill.
Any of these can drain your bank account (and then some). It also hinders your growth. It’s tough for any company to turn away customers due to lack of working capital.
Savvy business owners understand that the best-laid plans (or budgets) can fall by the wayside quickly. To stay ahead of the curve, businesses have relied on lines of credit as the fast and convenient option to access funds. Historically, business lines of credit were limited to those who could afford to wait out the long, arduous underwriting practices of institutional lenders.
BitX Funding helps thousands of small business owners get that flexible funding in the form of a business line of credit.
Here’s what you need to know about a small business line of credit—and how it can help you weather storms and take advantage of unforeseen opportunities
A line of credit is financing designed to get you access to the funds your business needs up to a certain limit. This financing tool allows you to draw up to your limit and pay off the balance on a continuous basis. The key feature of this product is flexibility: to draw anytime, to use for any business purpose, and to reuse next time.
A business line of credit (or “LOC”) is a revolving loan that gives business owners access to a fixed amount of money, which they can use day-to-day according to their need for cash.
LOCs are specifically designed to help businesses finance short-term working capital needs, such as:
Secured Business Line of Credit:
With this type of LOC, a business must pledge assets as collateral to secure the loan. Since a Line of Credit is a short-term liability, lenders will typically ask for short-term assets, such as accounts receivable and inventory. Lenders typically won’t require capital assets, such as real property or equipment, to secure a LOC. If the borrower is unable to repay the loan, the lender will assume the ownership of any collateral and liquidate them to pay off the balance.
Unsecured Business Line of Credit:
This type of LOC does not require assets as collateral (meaning it’s sometimes a more attractive option to business owners). Still, the lack of collateral means a higher risk to lenders, so to get an unsecured LOC you’ll need stronger credit and a positive business track record. In addition, the interest rates are often slightly higher. Unsecured lines are usually smaller.
How does the line of credit work?
The credit line assigned acts as a rainy-day fund for your business needs.
Here’s an example:
Martha’s Gift Baskets receives a $20,000 corporate order, for which material costs are $10,000. Martha thought she’d saved to take on such an order, but she realizes there will be a $5,000 shortfall. Luckily for Martha, she has a $20,000 business line of credit from which she can draw that amount. She pays interest on the amount she withdrew. Once the order is fulfilled and paid, she can choose to continue the installments or pay back the remainder in one go. The $20,000 replenishes and is available for next time.
When you open a line of credit, you’ll receive access to a stated amount of funds to use as needed. You then receive a monthly invoice reflecting the amount of credit you’ve used, along with any interest charges.
Your payment is based on the actual interest accrued on these funds while you use them. Once the funds are repaid, that amount is available when you need it. You’re only charged interest on the amount of the loan you use.
LOC rates and limits are set by lenders and based on your risk grade, your collateral, and any servicing requirements. Your risk grade is judged on factors like the financial success of your business, the state of your business sector in general, your business and personal credit scores, and whether you have collateral.
Most lenders will charge an annual fee for the LOC, in addition to interest charges. If you’re going to need a significant number of loan advances and repayments, transaction fees might apply.
Smaller LOCs (under $100,000) can operate like a credit card account, with advances made by using a credit card or writing checks issued for the account. Accessing the funds can also be deposited directly into the borrower’s account via an ACH deposit.
When you need some money to start, build, or grow your business, you’ll want to know the differences between business loans and business lines of credit. Knowing the differences will help you make the best decision about what is best for you and your company now you need capital. Here are 8 ways in which business loans are different from lines of credit.
1. Business Loans Are One Time Use:
Are used one time whereas a business line of credit can be used multiple times.
2. “When” You Get a Business Loan it is Different from “When” You Get a Business Line of Credit:
A loan is normally not something you would get until you need it because it’s normally for one specific purpose. A line of credit is something you obtain before you need it. Remember the line of credit, unlike a loan, is not for one specific purpose.
3. With a Business Loan You Have a Monthly Payment:
With a loan you have a monthly payment that, although there are a few exceptions, doesn’t change from month to month and those monthly payments begin right away. Whether you’re using all the money or not your monthly payment does not change. With a line of credit, you only make payments on the amount of money you’ve borrowed so if your balance is zero your payment is zero.
4. The Closing Costs Are Higher for a Business Loan than a Business Line of Credit:
There are always exceptions to every rule, but most loans carry closing costs anywhere from 2-7% whereas lines of credit have very minimal or no closing costs. Cost is an obvious factor in determining loan vs line of credit.
5. Business Loans Carry with them Fixed Terms or Amortization Periods:
Because of this the monthly payments on loans are usually higher than the monthly payments on lines of credit. Think about it like this. If you were to get a loan for $50,000 your monthly payment will likely be $400-700/month more than it would be if you owed $50,000 on a line or lines of credit.
6. Business Loans Are Best for Long-Term:
Loans are usually best for long-term debt that gets paid off over 2 to 6 years. Lines of credit, however, are best for short-term purposes such as financing receivables, marketing, and making payroll. We acknowledge that lines of credit are great for unexpected cash-flow issues but make sure you don’t exhaust your lines of credit on surprises. Use as much of your line of credit for what we call RGA – Revenue Generating Activities.
If you use some of your funds for a marketing initiative (or several of them) then you’ll likely be able to justify the new debt you’ve incurred because you’ve also generated additional revenue and grown your organization.
7. Business Loans Carry Higher Rates:
Business loans have higher interest rates, but they are normally fixed rates. Business lines of credit normally have lower interest rates but are variable. This simply means that if you manage your lines of credit poorly by making late payments or going over the credit line then — from an interest rate perspective — you would have been better off getting a loan. Whereas with a line of credit the rate can get better with good credit management.
8. Business Loans Are Interest-Rate Driven While Business Lines of Credit Are Not:
Loans are usually somewhat interest-rate driven, whereas lines of credit are not as rate-sensitive. With a line of credit, that is used primarily for short-term purposes, it’s more important to have a monthly payment that is “cash-flow friendly” and, even though the rates are normally quite good, it’s more important that the line can be used repeatedly and the monthly payment is as low as possible in relation to the balance. The various products, lenders, guidelines, and constantly changing standards have made the credit and lending landscape for small businesses a rather delicate, perilous, and formidable one.
1. Traditional Secured Business Line of Credit
Secured business lines of credit rely on collateral. That is, you would put up something of value, such as business assets or real estate, as a guarantee. This guarantee means that the lending institution knows that if you default on repayment, they can claim your collateral to repay what you owe.
A secured line of credit may have better overall terms because the risk is lower. The interest rate might also be lower, repayment terms more flexible, and you may also qualify for a higher line of credit.
2. Traditional Unsecured Business Line of Credit
Unsecured lines of credit don’t need collateral, so you won’t have to tie up any of your assets. You might also have a quicker approval time. Interest rates are often higher than secured lines of credit, and there might also be a maintenance fee that applies monthly or annually.
The SBA suggests that unsecured lines of credit might be better products than secured. They rely more on creditworthiness than years in operation, and the application process is often much less of a hassle.
3. Real Estate Line of Credit
If you’re in real estate or want to be, there’s another product for you to think about. A real estate line of credit is similar to a personal HELOC or home equity line of credit, which is a loan that’s based on how much equity you have in a piece of real estate.
For business purposes, you can use the equity in your own home or the equity in other properties that you own to secure the loan. But there’s another option.
Real estate lines of credit come in two forms – secured and unsecured. For an unsecured real estate line of credit, the SBA explains that your FICO score is the determining factor. This allows you to buy and flip houses, staying active in the market instead of having to wait until one property sells to buy the next.
4. Business Credit Card
Another unsecured option that the SBA recommends is the business credit card. A line of credit is already nearly identical to a 0% Business credit card, but this choice has a few other perks. The main benefit is that with a credit card, nothing that you own, either for the business or personally, is tied up.
You also get quick access to cash, which is great when a line of credit might take days to transfer funds. Your payment terms are flexible too, compared to lines of credit that have set monthly payment amounts.
The Benefits of a Business Line of Credit
There are certain advantages that come with opening a business line of credit over more traditional forms of financing. Some include:
Greater control. With a business line of credit, you can use the funds however you see fit: for ongoing operating costs, to cover gaps in cash flow, or take advantage of unforeseen opportunities or challenges. You don’t need to have a specific use case outlined to secure the cash.
Better flexibility. Unlike a term loan, where you take a lump sum of cash and have to make regular payments, a line of credit can be utilized as needed. You repay as you use the funds, and only pay interest on funds drawn.
Affordability. A line of credit typically has a lower interest rate than short-term loans of comparable size. Of course, rates and terms vary depending on your credit score, annual revenue, and other financial factors.
Easier approval. Some financial institutions accept those with bad credit (note: your rates and terms may not be ideal). This makes a line of credit a solid alternative when you can’t get a traditional loan. It’s also an excellent way to improve your credit score (if used responsibly).
With such clear advantages, it’s easy to see how any business can benefit from having a line of credit. If you can use it strategically and carefully, this type of funding can help you fill short-term finance needs.
Business Line of Credit vs. Credit Card: What’s the Difference?
Although business lines of credit and business credit cards are both forms of “revolving” credit, there are a few important differences you should be aware of:
BitX Funding is your online marketplace for small business loans. From SBA, start-up lines of credit, short-term loans, mid-term loans, invoice financing to merchant cash advances and lines of credit, BitX Funding is where lenders compete for your business. Our top-rated lenders focus on real-life business data and cash flow, which means you can qualify for a loan even if your credit score isn’t perfect. What differentiates us from the competition is that with a brief questionnaire our highly trained loan consultant will listen to your needs and match you with the appropriate funding. You can go at it alone and spend hours online trying to find funding for your business or you can have a one stop experience with BitX Funding and our direct connection with the lenders.