What Is A Business Line Of Credit?
A LOC works in very much the same way as a credit card except that it provides your business with cash rather than just the ability to purchases goods on credit. Interest is payable only on the amount that is used and not the entire available amount.
There are 2 basic types of LOC:
- A revolving LOC which continuously gives you access to funds that become available as repayments are made.
- A limited LOC which only provides funds for a specified period of time.
How Is A Business Line Of Credit Different From A Business Loan?
A business loan provides you with a lump sum of money that needs to be repaid over a specified period of time. Interest is payable on the entire loan amount. A loan does not provide you with the means to access funds that have been repaid.
Although you can withdraw the entire amount provided by a line of credit, you can also only use the funds that you need, as and when you need them. Interest is only charged on the amount of credit that has been used and not the full amount.
For example, if you have been extended a $30,000 line of credit and you withdraw $5,000 to buy stock, then interest will only be charged on the $5,000. The remaining $25,000 is still available for you to use on other purchases or expenses.
What Can You Use A Business Line Of Credit For?
Commonly, an LOC is used to purchase inventory or other items that become necessary in order for the business to operate. However, the credit can also be used to cover other costs or expenses such as repairs or services. In some cases, cash can be withdrawn from the line of credit to cover other operating expenses such as wages or utilities.
An LOC provides funds to cover operating and other business expenses when the business is short on immediate cash.
What Type Of Business Can Benefit From A LOC?
Any type of business can benefit from a LOC. However, small to medium enterprises that often struggle with cash flow will get the greatest benefit from this type of funding.
It is also the ideal solution for businesses that offer lines of credit to their own customers. For example, if you sell goods to a customer and payment is only due at the end of the month, your business may be low on cash funds for a short period of time. An LOC allows the business to keep operating until debtors repay the amount owing which can then be used to repay your business LOC.
An LOC can also be used to purchase materials or pay operational expenses while awaiting payment from the completion of a project. This ideal for businesses in the construction, remodeling or design industries.
