Opening a Line of Credit: Essential Information for Small Business Owners

Unless you happen to have an unlimited personal bank account, chances are you’ll need to apply for financing at some point if you own your own business. While there is plenty of information for startup companies, there isn’t as much conversation about established businesses that need working capital. Check out this quick guide to a business line of credit, including what it is and whether the pros outweigh the cons.

What Is It?

A business line of credit is a specific amount of money that a lender provides a business owner so that he or she can handle daily business operations. It works much like a credit card in that you spend the money and then repay it over a specified amount of time. In some cases, the credit line is revolving, which means that as soon as you pay an amount back, it becomes available for you to use again. You will need to pay interest on the credit as well, and rates vary depending on which lender you borrow from.

What Are the Pros and Cons of Using Credit?

Just like any other type of loan, a business line of credit has advantages and disadvantages. On the plus side, it’s a great way to maintain your company’s cash flow during an off-season or another time when profits aren’t as high. It also means you only pay interest on what you spend instead of paying on the full amount a large loan that you don’t use completely. Finally, a credit line for your company allows you to build business credit. This improves its credibility as a business and makes it easier to get other types of lending in the future.

There are downsides as well. Although they vary depending on the lender, most charge fees that sometimes make the low interest rates practically null and void. They can also be hard to obtain. You’ll need statements, tax returns, documents and bank account information for your business and may need to provide some personal financial information as well. In addition, the lender will probably review your information each year. In most cases, companies that are younger than two years old don’t qualify. Finally, you can misuse business credit just like you can misuse a personal credit card. While the credit should be for business emergencies or cash flow shortages only, some company owners use their lines excessively and then don’t make enough profit to pay the lender back.

If you do decide to open a business line of credit, do your research first. Don’t get sucked in by a low interest rate; remember those hidden fees. Shop around for the best rates and most reputable lenders and compare their terms before establishing a contract with one.

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