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July 13, 2024
Home » The New Startup’s Guide to Business Lines of Credit

The New Startup’s Guide to Business Lines of Credit

You’ve done the research; you have a name and logo; you have a thorough business plan, and you have the financing you need to get everything started. Congratulations! You are the proud owner of a brand-new startup. You are only missing one thing: a business line of credit.

Far from being a niche financial product, a line of credit is a resource every business needs. However, lines of credit can be intimidating to acquire, especially considering their seemingly myriad types and providers. This guide should help you navigate the complex world of business lines of credit, so you can be a fully fledged — fully financed — small business owner in no time.

Line of Credit, 101

A business line of credit is a financial product that splits the difference between a credit card and a bank loan. As with credit cards, you gain access to an amount of credit, and you only pay interest on the portion of credit that you spend. As you pay down your balance, you increase the amount you are able to draw against. Yet, like bank loans, lines of credit typically extend thousands upon thousands of dollars to businesses (up to $1 million), allowing them to make significant purchases.

The best time to acquire a business line of credit is when you don’t need it. Because it can take some time to complete paperwork and secure a lender — like most other reliable and beneficial forms of funding — you shouldn’t expect a new line of credit to save your business. Instead, if you apply for a line of credit now, you gain access to credit that might be valuable in future situations, like when the off-season hits and you need to pay employees or an explosion of popularity prompts the need for immediate expansion.

More than half of all small business owners have access to a business line of credit, and about a third of businesses borrow funds regularly to support their cash flow. However, before you can join them, you should know what type of credit line you need.

Types of Credit Lines

First, it is important to remember that you are seeking a business line of credit, which is different from personal lines of credit or real estate lines of credit. Business lines tend to be larger and have terms that are more advantageous for businesses. Still, business lines of credit come in various shapes and sizes; consider the following types:

  • Secured. This means you pledge collateral to acquire the credit. If you are unable to repay your balance, your lender will take ownership of your collateral.
  • Unsecured. As you might expect, this means that you receive a line of credit without any promise of collateral. Most lines of credit are unsecured, but they are higher-risk to lenders, so they usually have higher interest rates and more stringent qualifications.
  • Short-term. In line of credit terminology, a term is the amount of time you have access to the line. Short-term lines tend to be ideal for younger businesses because they are easier to qualify for and promise relatively fast cash.
  • Long-term. With higher maximum amounts and lower APRs, longer-term, alternative lines of credit are more difficult to acquire but more beneficial in the long run.
  • Revolving. This means that your line can be drawn from, repaid, and re-drawn against any number of times until the term expires.
  • Installment. In contrast to revolving credit, this type of line has only a fixed number of payments before it expires. For example, asset purchase lines of credit typically only pay out once. This is useful if you need a cash boost for a specific purpose.

Qualification and Application

Applying for a business line of credit isn’t vastly different from applying for other types of credit or loans. However, it is important that you know exactly what your startup wants and needs before you begin the process. How much money you want available in your credit line and how quickly you need the line will determine where you can look for lenders. For example, lines smaller than $100,000 can easily be obtained through online lenders, but more than that sum should probably come from a traditional bank. Additionally, online lenders tend to be speedier than banks.

Then, the process is relatively straightforward. You need to verify your business’s identity with appropriate documentation. Typically, this means supplying your potential lender with relevant bank statements, profit and loss statements, balance sheets, credit scores, and tax returns. Your lender will determine whether you meet the minimum requirements for the line. Then, once you have the line, you must be careful to follow the rules, which might preclude some types of spending.

Every so often, you might need to find a different line of credit to keep up with your growing startup. Until then, you can rest easy knowing your startup has access to all the funding it could possibly need.

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