How to leverage a line of credit for your small business
Having access to credit can help听your small business thrive 鈥� even if it鈥檚 facing difficulties.
There are a number of 听for听small businesses, but a business line of credit is often the best听bet for those with听short-term and occasional听credit needs.
A business line of credit can give your company听the necessary working capital to maintain inventory, fulfill emergency orders and meet other urgent business needs. It can also help you maintain consistent cash flow, easily track business expenses, and even fund听.
Financing products
Business lines of credit are one of three main products small businesses use for financing.
When you qualify for听a听,听you receive听a maximum amount that you听can borrow against听at any particular time, as per its requirements. Interest rates tend to be low, compared with those for other financing options, but they鈥檙e also likely to be variable, so your rate may increase over time.
听allow you to borrow a lump sum for business purposes. Traditional lenders, such as banks, tend to offer them for around interest 鈥� either fixed or variable 鈥� while rates from听听are often higher. , like personal credit cards,听come with relatively high听interest rates, in the range of 12.99% to 29.99%. Further, they require听a personal guarantee, which means if your business fails to pay, it will impact your personal credit score.
Key differences
Each financing option is important to small businesses for various reasons, but there are some key differences.
- Usage:听You鈥檒l receive the funds from a business loan all at once. But you can borrow up to your limit on a credit card or line of credit again and again 鈥� as long as you repay the lender in between.
- Payment: Business loans and credit cards both require听monthly payments. But you make payments only when you use a business line of credit; no usage means zero payments.
- Interest rates:听You make interest payments on the entire amount of a business loan. But you鈥檒l pay interest only on the amount you actually borrow on a credit card or line of credit; you won鈥檛 pay interest based on your credit limit unless you鈥檝e used it all.
- Qualifications: Business loans and lines of credit have a comprehensive set of qualification requirements, making it difficult at times for small businesses to get approved. Business credit cards are easier to qualify for.
Choosing your business line of credit
Considering their lower rates and flexible borrowing arrangements, lines of credit can be small businesses鈥櫶齜est bet for their short-term and recurring financing needs. They听may also come with more flexible repayment options and lower closing costs than a loan.
You can apply for a secured or unsecured business line of credit. You must use hard assets, such as your home, vehicle, inventory or even business equipment, as collateral on a secured line of credit. An doesn鈥檛 involve collateral, so it鈥檚 somewhat more difficult to qualify for one. Unsecured credit lines also tend to have higher interest rates because they鈥檙e听more risky for the financial institution.
Best practices
To qualify for a business line of credit, focus on maintaining good personal and business credit histories. You must also prove your company鈥檚 ability to generate a positive cash flow, as lenders will consider this in judging your ability to make payments.
It may make sense to apply for a lower line of credit,听maintain a positive transaction history, and then seek听increases later. But you should always apply for one听before you need it. After all, your听line of credit is intended听to support your business during its听hour of need, so you shouldn鈥檛 attempt to get听one when it鈥檚听already struggling.
鈥痠s president and founder of鈥�, a provider of self-directed retirement accounts. Learn more about Dmitriy on NerdWallet鈥檚 . This article first appeared at .
