Having plenty of cash flow is important when it comes to running a small business. Whether your business is just getting started or has been around for a while, cash on hand is imperative for any business to accomplish its goals. Many small business owners need money to start the business and others are looking for money to grow and expand. However, just like with any other kind of credit, there are pros and cons to consider before submitting your application and determine if a business line of credit is right for you.
What Is a Business Line of Credit?
A business line of credit works similarly to a credit card, except you get cash and low APRs. You can use it whenever you need it, as long as you don’t exceed the credit limit. You receive a maximum balance and only take what you need and then each month you make a minimum payment based on the balance of the loan.
You can use a line of credit in the following ways: purchasing inventory, repairing equipment, financing a marketing campaign, overcoming short-term capital need, and ramping up for a new contract.
How to Qualify for a Business Line of Credit
The following documentation is required when applying for a business line of credit:
- Personal tax returns
- Business tax returns
- Bank account information
- Business financial statements (i.e., profit-and-loss statements and a balance sheet)
The process is more complicated than applying for a business credit card and is longer due to more moving parts.
Although lenders have loose qualifications compared to traditional lenders such as banks, they are likely to charge higher rates and may have lower credit limits. To qualify for a business line of credit, you will need at least six months in business and $25,000 in annual revenue and a credit score of 500 or higher.
Pros of a Business Line of Credit
- Access to money fast: if your business faces unexpected financial situations and you need cash right away, you can do so with a line of credit. This means you’re not stuck paying interest on borrowed money if you don’t need it immediately.
- Easy money transfer: if you need to transfer cash for business expenses, this can be done online, over the phone or a check.
- Build good credit: small businesses need to build credit history to be able to access future loans. By making your payments on time, it will have a huge impact on your credit history.
- Build relationships with lenders: building a relationship with lenders is important because it might help when you need financing for other projects in the future.
- Flexible: you can use your credit on what your business needs on any moment in time and providing a reason for the loan isn’t always required.
- Evens out cash flow: a business line of credit allows you to pay your bills on time in case an economic crisis occurs. For example, if you are unable to pay an employee, the line of credit will help you cover the cost.
- Available for a long period: a line of credit maybe available for longer period than a regular small business loan. This is beneficial since you will constantly have the funds and don’t need to reapply.
Cons of a Business Line of Credit
- Fees and additional charges: these additional costs vary from lender to lender so it’s important to do your research and determine which lender is right for you. For example, if you miss a payment, the fees are quite expensive.
- Application difficulties: even if you meet the qualifications, your bank may require your business be at least two years old to apply.
- Potential misuse: it’s easy to be tempted to use the cash for the wrong reasons which can lead you to be in debt if you are unable to repay it. If you believe you might misuse the loan, then it will be better if you apply for a traditional standard loan instead to avoid any temptation.
- Low borrowing limits: compared to other financing options, lines of credit come in low borrowing amounts. This can be a drawback especially if you need the money to purchase new equipment or for a future project for your business. If the line of limit is lower than your needs, you are better off finding a different option.
A business line of credit can be very beneficial for your business but as with everything, make sure to do your research and understand all of the risks involved. If the benefits outweigh the downsides, then go ahead apply! Every business is different and requires some time to determine which financial tool is right for you.