Are you looking for working capital financing for your small business? A small business line of credit can be the perfect solution. Similar to a credit card, businesses can access their line of credit when needed and only need to pay interest on the amount withdrawn.
Business lines of credit are available from both traditional and online lenders, and choosing the right one for you requires research. Read on to learn more about how to secure a business line of credit.
What is a business line of credit?
A line of credit works like a credit card. Companies can access their line of credit when needed, they just have to pay accrued interest on the amount withdrawn. Interest rates on business lines of credit are usually lower than those on professional credit cards.
There are two types of business lines of credit: secured and unsecured. Secured lines of credit use assets owned by the company as collateral for the loan, while unsecured lines of credit require no collateral.
5 steps to get a business line of credit
Once you’ve determined how much funding you need—keeping in mind that lines of credit range from about $1,000 to over $250,000—you’ll need to do your research and apply for the right loan.
1. Decide between a secured and unsecured line of credit.
There are two types of business lines of credit: secured and unsecured. Both serve the same purpose, but each has different requirements.
Secured business credit line
This type of loan requires the small business owner to provide an asset to secure the loan. If the business owner defaults on the loan, the lender can take over the property. Because collateral reduces risk for lenders, secured lines of credit can have higher limits and lower interest rates than unsecured liens. You can also qualify for a secured line of credit with less time in business or a lower credit score than an unsecured line requires.
Acceptable collateral includes a lien on your company, bank accounts, stocks or certificates of deposit.
Unsecured business line of credit
Unsecured lines of credit they are not secured by assets. These lines of credit are often limited to around $100.00. For loans over $100,000, you’ll need to secure them with a lien on your property or a certificate of deposit.
Because the risk is higher, lenders typically require a higher credit score — between 600 or higher — and a higher annual income for unsecured lines of credit. Lenders may charge more interest.
2. Research lenders’ requirements for obtaining a business line of credit
While all lenders set their own business loan requirementsmost lenders will require your small business to meet the following criteria:
- Your small business must be currently owned for a certain amount of time, usually two or more years.
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Your small business must meet a minimum annual or monthly operating income, usually at least $50,000 per year.
Lenders also consider factors such as your personal or business credit scores, business finance, time in business, annual income and industry. These factors help them assess the risk you pose as a borrower.
If you’re not sure if you meet a particular lender’s requirements, check to see if they have a pre-qualification or pre-approval tool you can use. Otherwise, contact their customer service team for more information.
3. Gather the necessary information
Your small business lender will likely want to see general information about the business, its owners, and its finances. They will also want to know the amount of the loan you are looking for.
Required documents often include:
- Business licenses
- Founding act
- Personal and business bank statements
- Profit and loss statements
- business plan
- Personal and business tax returns.
If you are applying for a secured loan, you will also need to prove your ability to provide collateral.
4. Choose a lender
Multiple types of lenders offer business lines of credit, including traditional banks, credit unions and online lenders. Online lenders often have more flexible qualification requirements than traditional lenders.
Before choosing a lender, it’s important to research potential lenders and compare rates to make sure you’re getting the best option. The interest rate you’ll pay on a business line of credit will depend on the lender and your creditworthiness, but rates can range from 5 percent to more than 30 percent.
Other considerations include:
- Maximum credit limits. The maximum amount you can borrow will depend on the lender, your creditworthiness and the type of business line you hope to secure.
- Repayment plans. Draw periods — the amount of time a line of credit remains open — and repayment periods are different. Pay attention to the offer of each lender and choose the one that best suits your business needs.
- Requirements. It’s important to look at the requirements to make sure your company can meet them.
- Related fees. Compare fees and interest rates with each lender to make sure you get the best possible deal.
- Special features. Lenders may offer benefits, such as credit monitoring services or reporting payments to a credit bureau, that make their loans stand out.
Use it business loan calculator to estimate your payments for different loan options.
5. Apply for a business line of credit
Once you’ve identified a lender, you can apply for a loan online, by phone or in person, depending on the lender.
Make sure you have submitted all the required documents. Also, confirm the data and numbers you have collected before submitting.
Costs and fees of the business line of credit
Lenders charge fees for opening and using a business line of credit. All lenders will charge an annual percentage rate, a percentage that represents the interest on the loan plus fees. Other fees vary from lender to lender. These are the common ones you may come across.
- Draw fee. Many lenders charge a drawing fee each time you use your line of credit, which can be anywhere from 1% to 4% of the amount you withdraw.
- Payment processing fee. Some lenders charge a payment processing fee for the convenience of paying bills online.
- Bank transfer fee. This fee, usually around $15, is charged each time you transfer funds to your account.
- Late fee. If you miss a payment, you may be charged a late fee.
- Penalty for early repayment. You may be charged a prepayment penalty if you pay off your loan early. This fee is less common with credit lines than with others types of business loans.
The bottom line
A small business line of credit is an excellent loan option for businesses. Companies can access their line of credit when needed and only have to pay accrued interest on the amount withdrawn.
Business lines of credit come with associated costs and fees. Consider the cost — plus other features lenders offer — before applying to ensure this loan is right for your business.