What Is a Small Business Line of Credit?

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Each small business, particularly in periods of growth or inconsistent cash flow, needs to adapt to change. An unprotected credit line can also be a perfect option when you need access to money and flexible terms for repaying borrowed funds. 

A small business credit line allows entrepreneurs to maintain a stable supply of cash to keep up with recurring costs and the ebb and flow of seasonal business shifts. 

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A small business line of credit can be a required lifeline for 50 percent of business owners who have faced cash flow issues. Here’s your simple guide about this type of credit. 

What Is a Small Business Line of Credit?
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Small Business Line of Credit: Overview

A small business line of credit has more similarities with a small business loan wherein this type of loan is the unsecured line of credit that provides a business with access to funds that can be applied to cover any business cost that occurs. 

However, unlike a small business loan, there is no lump-sum disbursement made at account opening that involves a monthly payment after it. 

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A small business line of credit is directed to credit monitoring and annual renewal and is revolving, like a credit card. 

Once you draw funds, interest continues to accumulate, and the amount you pay (except for interest) is available again to be lent while you pay down your balance. The lender can set a cap on the amount you can borrow, as with a credit card.

Types of Lines of Credit 

Secured Business Line of Credit is the form of LOC that allows the company to commit particular assets to protect the line as collateral. Since a credit line is a short-term obligation, lenders normally ask for short-term collateral, such as receivable accounts and inventory. 

To receive a LOC, lenders don’t always need capital assets, such as real estate or machinery. The lender may assume the ownership of any collateral and liquidate it to pay off the balance if the borrower is unable to repay the line.

The LOC type does not require specified assets as collateral for the Unsecured Business Line of Credit. However, it is likely that a general lien and personal guarantee would be needed. 

Since there is no defined collateral associated with this kind of credit line, it is likely that the company would need a stronger credit profile to qualify along with a positive business track record. In addition, interest rates can be much higher, and unsecured lines of credit are also smaller.

Eligibility: How to Apply?

Many lenders would like to see financial statements and documentation that indicate a track record and prove creditworthiness, much like a term loan

Traditional lenders, like banks and credit unions, do not need any extra online lender paperwork. That is why it’s a good idea to find out what would be needed before your first meeting with the lender. 

Some of the fundamental knowledge that you would need to submit may include,

  • Business License
  • Tax Returns
  • 2-3 months of bank statements
  • A business bank account
  • Standard financial documents like P&L, AR, AP, Cash Flow, etc.

To prove the organization is eligible for a LOC, be prepared to demonstrate, 

  • The company is profitable in producing additional sales.
  • Management acknowledges the financial aspects of operating an organization.
  • The corporation has a schedule for the LOC at particular times to cover specific costs and will show its willingness to make periodic payments.

How Much Do They Provide?

For short-term funding needs, online lenders provide business lines of credit of up to $250,000. This is the type of small-business loan that offers flexibility but does not include a normal business loan

You can borrow up to a certain limit, say, $100,000, with a business line of credit. After, you can pay interest only on the portion of the money you borrow. You then draw and repay funds as you wish, as long as your credit limit is not exceeded. 

Important Items to Remember to Qualify

Many conventional lenders, such as banks, require companies to apply for a line of credit with good sales and at least a few years of experience. Larger credit lines can include collateral, which, if you fail to make payments, may be confiscated by the lender. 

Lenders usually need the following documents to apply: personal and business tax returns, bank account data, and company financial statements, such as profit-and-loss statements and a balance sheet. 

Usually, online business lenders have lower qualifications than banks. These lenders, however, are also likely to charge higher rates than banks and may have lower limits on credit. 

At a minimum, to apply for a business line of credit, you would need at least six months of business and $25,000 of annual profits. While a minimum credit score is not set by some lenders, borrowers will most likely need a credit score of 500 or higher to qualify.

What Is a Small Business Line of Credit?
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Conclusion

If you pursue future financing, maintaining a line of credit in good standing can help build your business credit rating and position you for better loan terms. 

A small business line of credit may be the easy solution you need to achieve your growth targets, depending on your individual business needs, at a rate that’s right for you.

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