With ever-changing customers, competitors, suppliers, regulations and markets, small businesses need now more than ever, flexibility and speed when it comes to business financing.
One of the most common forms of small business financing are business lines of credit, term loans, business credit cards, and other more specialized products like asset backed financing. Among these products, a business line of credit provides great flexibility and quick access to cash that can be used for business expenses.
A business line of credit is a form of revolving financing that allows borrowers to withdraw funds up to an agreed upon credit limit, and only pay interest on the amount drawn. It is revolving because you are able to withdraw funds, pay back a portion or all of those funds, and borrow more funds up to your credit limit. Funds are available on-demand and take as little as minutes or up to 1-2 business days to reach your bank account.
Unlike business term loans, which provide a fixed lump-sum amount upon account opening, the business line of credit provides business financing in the form of a credit limit that you can use to withdraw funds up to the limit as you need the funds. If you don’t need the funds today, that’s fine, you can draw funds later on when you need business financing.
Let’s take a look at a revolving business line of credit with a credit limit of $250,000.
From your $250,000 you withdraw $100,000. Your outstanding balance today is $100,000 and your available funds are $150,000. You can withdraw the $150,000, but you don’t need to right now.
Over a period of time, you’ve paid down $50,000 plus interest, and you now owe $50,000. Your available funds, then, are $200,000.
You have an exciting project coming up and decide to fund it with another $100,000 from your line of credit. Your outstanding balance is now $150,000.
The mechanics of the business line of credit are like a credit card; however, whereas you use your credit card in exchange for goods and services where credit cards are accepted, you use your business line of credit to withdraw funds that are deposited into your bank account. You can then use these funds as you wish; as working capital, to invest in your business, or pay expenses right from your business bank account.
Most of the costs associated with a revolving line of credit come from interest. When you use your line of credit, it will immediately start generating interest from the outstanding balance of your account. Interest accrues daily, so the faster you pay your balance, the less interest expenses you incur.
Business line of credit rates are typically determined by the financial health of the business, including time in business, monthly/annual revenue, business owner credit scores, and other factors. Rates can vary from prime rate plus a small spread to 80% APRs.
Depending on your line of credit provider, you may see fees such as:
Origination fees – a fee calculated as a percentage of your credit limit. If your credit limit is $100,000 and the origination fee is 2%, then the fee in dollars will be $2,000 due at the time of account opening.
Monthly/annual access or maintenance fees – a fee charged periodically to the account, which could be expressed as a percentage of your credit limit or a flat figure.
Draw fees – a fee calculated as a percentage of the funds you withdraw. For example, if your credit limit is $100,000 and you withdraw $50,000 with a 2% draw fee, then the draw fee is $1,000.
There may be other fees associated with your business line of credit, so pay close attention to the terms and conditions of your line of credit provider.
When financing is secured, it means that the financing is backed by collateral. For example, mortgages are guaranteed by the house purchased. In the case of small business financing, collateral can be business assets like inventory, heavy machinery, property, and more etc. Secured small business lines of credit typically have lower rates than otherwise.
Unsecured loans simply means that there is no collateral guaranteeing the financing. Therefore, the lender needs to be extra sure that the borrower can pay back the unsecured business line of credit, which usually results in stricter application requirements and higher interest rates.
When applying for a line of credit, or any form of small business financing, you will be asked for documentation that shows your:
Lenders may ask for additional info but the pieces of information above often represent the minimum information required from borrowers. You can apply for a business line of credit at your local bank, big national banks, online lenders, and credit unions across the United States.
Lenders with the strictest requirements will usually offer the most competitive products (largest credit limits and lowest interest rates), while those with more lenient requirements offer less competitive products. For example, traditional lenders like banks rarely consider businesses younger than five years or owners with credit scores below 680, but often charge low interest rates.
Some new online lenders offer financing with more lenient requirements. Most online lenders require $100,000 in annual revenue, a credit score of 600, and one year of operations at a minimum. Some online lenders even claim to process applications by completely different metrics like the applicant’s social media presence. Therefore, it is recommended to closely read the application process for every lender.
If you bank with a smaller bank that offers a line of credit, they may be more flexible with their requirements. For example, if you don’t have the strongest personal credit score but you’ve been in good standing with your local bank for years, they may be able to make an exception.
Should you receive a line of credit offer, be mindful of the following important factors:
Different forms of small business financing are best for specific situations. Small business financing is commonly associated with a term loan, where a lump sum of money is repaid over a predetermined length of time with interest. However, there are many more types of small business financing, and it is important to understand them so that you may choose the right financing for your business.
Given that term loans are lump sums of money that immediately generate interest and are usually the largest forms of small business financing, it is best to use a term loan for a large one-time purchase like purchasing heavy machinery or equipment.
A business line of credit is usually smaller than term loans, because you can use it over and over again and but you only need to pay interest on whatever amount you use. When you pay back your balance, you replenish your credit line. They’re similar to business credit cards but are often larger and charge lower interest. Business lines of credit are best for smaller to medium sized and ongoing expenses like business expansion, marketing campaigns or restocking inventory. Many small businesses use lines of credit as working capital.
Idea Financial offers a business line of credit that excels in nearly every way. Business owners need easy access to fast and flexible working capital, which is why Idea Financial processes applications and funds businesses in less than a business day (most other lenders take multiple business days to weeks to
process). Rates and fees from Idea Financial are typically lower than other online lenders rates and fees.
To be approved for an Idea Financial Line of Credit, applicants need to meet the following requirements:
2 or more years in business
$15,000 or more in monthly revenue
650 or higher personal credit score
Not a sole proprietorship or non-profit entity
Not only is the application process quick and the requirements lenient, lines of credit are up to $250,000, which makes these some of the largest lines of credit available to small businesses.
Idea Financial also does not conduct a hard credit pull on applications meaning applicants’ credit scores are not affected by applying. While many lenders charge origination or pre-payment penalties, Idea Financial does not, so borrowers fund their businesses with low-cost working capital.
The most unique aspect of Idea Financial’s business line of credit is that when a borrower makes a draw, the full balance of the line of credit is re-amortized over a new payment term. So, if a borrower is six months into an 18-month repayment period and makes a subsequent draw, the borrower is then given an additional 18-months from the date of that draw to repay the balance.
In addition, borrowers can repay with a single payment over a weekly or monthly basis independent of the number of draws, which makes the repayment process significantly simpler than other comparable business lines of credit.