What are business credit lines and how to apply for one

As a serial entrepreneur, it's no secret that you've always wanted to see your customers queuing around the block just to get their hands on your latest product.

When that day finally arrives and, after a week or so, your coveted product is completely sold out, what should happen next?

As much as you want to continue riding the wave of success, your business simply doesn't have the cash to buy more supplies to meet the soaring demand.

One solution is applying for a business line of credit.

Credit lines are a short-term finance option that allows your business to replenish its inventory and repay its debt whenever revenue from new stock starts rolling in.

This way, your business benefits from peak customer demand without being burdened by long-term debt.

In this article, we'll explain what a business credit line is and how to apply for one. We'll also cover what a credit line should (and shouldn't) be used for, the pros and cons of using one, and alternative forms of short-term funding for your business.

What is a business line of credit?

Short-term finance comes in many different forms and a business credit line is one of them.

Like a business credit card, a credit line is a form of revolving credit, which enables your business to continually borrow money whenever it's needed up to an agreed credit limit-without having to make a fresh application each time.

Your business can draw funds from its credit line-either as a lump sum or in instalments-and only pays interest or fees on the amount borrowed.

Business credit lines come in two forms: secured and unsecured.

A secured credit line uses your company's assets as collateral against the loan and, if your business doesn't repay the debt, the lender can claim its assets.

By contrast, an unsecured credit line doesn't require collateral.

But in this case, your business will need a good credit score, be in business for a minimum number of years, and have consistent annual revenue.

A secured credit line usually attracts more favourable loan terms than its unsecured counterpart, which include higher credit limits and lower interest rates.

What should a business line of credit be used for?

A business credit line is typically used for short-term purposes.

For example, your business may need to recruit seasonal workers or offer sign-on bonuses to incentivise top-tier talent to join your company.

Alternatively, a credit line can be used to even out the ebbs and flows in your company's cash reserves.

Other common uses include:

• Buying inventory or equipment
  
• Paying vendors or payroll
  
• Covering unexpected repairs
  

Some lenders prohibit credit lines being used for long-term debt repayments and capital expenditure.

With this restriction in mind, it's a good idea to check the policy of potential lenders before taking out a line of credit.

You can apply for a business credit line from your local bank, credit union, or independent lender.

Regardless of which lending facility you use, you'll need to provide the following information:

• The nature of your business
  
• The name, address, and contact details of yourself and your business
  
• Your business records and other financial information, such as your company's bank statements, balance sheets, and credit history.
  

The lender will assess your company's application for a credit line and let you know if it's been approved and, if so, how much credit your business can access.

Is it possible to apply for a business line of credit with poor credit?

Even if your business has a poor credit history, it's still possible to get a credit line.

But because your business falls within a higher risk category, the terms offered will probably be less favourable, such as smaller loan amounts, more frequent repayments, shorter repayment periods, or higher interest rates.

Regardless of your company's credit history, you may need to pay the following fees in connection with your new credit line:

• An annual fee
  
• An application fee (to process your company's application)
  
• A draw fee (each time your business draws on its credit line)
  
• A maintenance fee (to keep your company's credit line active)
  
• An inactivity fee (if your business doesn't use the facility for a certain period of time).
  

How does a business line of credit differ from other forms of short-term financing?

It may also be worthwhile exploring two alternative forms of short-term financing: business credit cards and business loans.

Business credit lines and business credit cards are alike in that they're both revolving forms of credit, but they also differ in three respects:

1. Credit limit

If your company has a secured business credit line, it will usually have a higher credit limit than a business credit card.

2. Purpose of funds

A credit line is appropriate if your business needs to meet substantial short-term costs, such as managing cash flow.

But if your business needs money for smaller, everyday transactions, like paying for travel expenses, a business credit card may be more suitable.

3. Interest rates and fees

A business credit line may have a lower interest rate than a business credit card, but it will probably come with additional fees.

Unlike a business credit line, business credit cards typically offer your business interest-free periods and reward programs, such as cash back and travel points, which can benefit your business if it makes regular purchases.

The second alternative to a business credit line is a business loan.

Here are the main differences between the two funding options:

1. Credit limit

A business credit line has a revolving credit limit whereas a business loan provides your business with a lump sum upfront, which it repays over a fixed term with interest.

2. Purpose of funds

Business credit lines are intended to meet your company's everyday needs whereas business loans are best suited to making one-off large-scale investments, such as buying property.

3. Repayment

Like a business credit card, your business can use a credit line to borrow, make repayments, and borrow again, provided it doesn't exceed the credit limit.

By contrast, a business loan requires your company to make full repayment over a specific period, after which your business has to re-apply to the lender if it needs additional funds.

Final thoughts

Whether it's used to grow your business or meet short-term cash flow shortages, a business credit line can provide a lifeline for your business when it's low on funds.

If a business credit line doesn't quite fit the bill as a stand-alone funding solution, you can always combine it with complimentary short-term finance options, such as business credit cards for day-to-day expenses and business loans for more significant expenditure.

Regardless of your funding preferences, it's important to explore various options and choose a reputable lender offering the most favourable terms and transparent fees because short-term finance can equate to long-term momentum for your business.

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