It's a boon when you need it, but a bane to pay it off: here are the most common pros and cons of a business line of credit, and how it can help if used wisely.
A business line of credit is a useful resource when you need to pay bills during a slow period or buy stock for future sales. But problems can arise if you don’t look at it as a temporary loan that needs to be repaid. It should never be used to pay wages, advances or bonuses to employees.
How do I get a business line of credit?
Getting a business line of credit requires planning and preparation, as you have to present a viable application to your financial institution. Generally, companies that have existed for more than two years have an easier time obtaining credit than those in the development stages. Lenders typically consider the following credit criteria:
- The reputation of the applicant.
- His or her ability to respect the financing arrangements.
- Any guarantees that cover their risks.
- Any capital invested by the owners.
- The economic conditions of the market.
Being ready with your business plan or similar document will allow the bank representative to have a good idea of the financial situation of your company, including future projects and revenue projections.
The pros and cons of a business line of credit
There are advantages and disadvantages in using a business line of credit. The prime consideration is that this is a loan that must be repaid regularly and that includes interest and certain fees.
The pros
- It provides fast access to capital.
- The client decides the withdrawal amount (not to exceed the legal limit) and when to withdraw it.
- Interest rates are lower than those of credit cards.
- Commercial account overdraft fees are avoided.
- The repayment terms are generally flexible.
The cons
- The management of the line of credit takes up bookkeeping time.
- It can turn into heavy debt if it’s overused and not repaid in regular increments.
- The interest rate fluctuates according to the market.
- The interest rate may rise far beyond your initial rate, which can make it more difficult to repay the loan.
Are you a safe bet?
Depending on your creditworthiness and the amount of credit you’re requesting, you may be asked to guarantee your business line of credit with your corporate assets (shares, real estate, client accounts) or personal assets (real estate, mortgages, life insurance). The more risk the financial institution is undertaking, the more of a guarantee you’ll have to offer.
