In order to grow a business, you may need to incur expenditures before bringing in any related income. While some companies may be able to rely on owner investments (bootstrapping) to do so, many businesses will need help from a third-party organization to move forward. If you are in this position, you will be considering your options and trying to find some working capital to help you grow. You may have many financing tools to think about, but a business line of credit may be at the top of the list. What do you need to know about this option, the advantages and disadvantages and how you should apply?
A business line of credit is a financial tool that behaves like a credit card. There is a specific set line amount and you may draw funds from the line up until the limit. There are typically no minimum or maximum number of draws that you can make and no penalties for paying down the line. Business Line of Credit features vary from lender to lender and bank to bank.
Some of the factors that can vary:
Business Lines of Credit can be either unsecured or secured and used for any type of business expense as it arises. It may be subject to an annual review and formal renewal, and will begin to incur interest as soon as you draw the funds.
Determine the size of the line of credit, which will, in turn, determine the monthly repayments based on factors like outstanding balance at a trigger date and the agreed interest rate. Most lenders will use an average daily balance method, which takes an average over the given billing period, and then charges a proportion of the annual interest rate based on the actual number of days in that period. Typically, this will be the number of days in that month.
To figure out how much you are likely to pay, you will need to know the periodic rate, which is the percentage of interest for the billing period. Look at the annual rate, divide by 365 and multiply by however many days in the billing period.
Next, determine how many days are left in the period when you make a purchase from your line of credit. Multiply the value of the purchase by the number of days left in that period, and do the same for other purchased items. Add these calculations to give you your average daily balance for new purchases. Then, add this figure to any initial balance you already have in place, giving you the average daily balance for interest calculation purposes.
To show you how payments may be calculated for a business line of credit, let’s consider an example.
If the annual interest rate is 7.5% and the month in question is July (31 days), you need to divide 7.5% by 365 and multiply by 31. This will give you a monthly interest of 6.37%.
To figure out the average balance for new purchases, imagine that you made one purchase of $300 on the 10th of the month and another for $200 on the 20th of the month.
21 x 200/31 = 135.48
11 x 300/31 = 106.46
Add these together to give an average daily balance for new purchases of $241.94.
To compute the average daily balance (overall), add the amount you just calculated to the opening balance. If you had an initial balance of $1,000 and a new average balance of $241.94, your average daily balance will now be $1,241.94. You would then need to multiply this amount by the previously calculated interest rate of 6.37% to give you an interest amount for that month of $79.11.
Try the Lendzero Line of Credit calculator to estimate your potential payment
When you can access a line of credit, you can use these funds when you need them or not at all, depending on your circumstances. Lines of credit are revolving, which means that you can access money up to a pre approved amount. However, once you reach the limit, you have to repay some of the borrowed funds to access money from the line of credit once more. This is a significant difference from the term loan, where you will get one lump sum following the application. You will then be expected to repay that with interest until that account is closed.
If ever a business needs help to fund a growth stage, it will be at the beginning when it’s a startup. You may wonder whether you’ll be able to qualify if you’re in this position, as you may feel that an established business should find it easier to persuade lenders. However, it doesn’t have to be impossible if you approach it correctly.
Since new businesses will not have a successful track record of paying vendor debt or other loans, the business owner(s) will need to rely on their personal credit in this case, personally guaranteeing the line of credit. If you have a good track record of paying your personal debts on time and do not have any adverse markers in your credit history, these factors may outweigh the lack of any business history. In some cases a lender might require collateral as security in order for you to qualify - this would be a secured line of credit. However, in this case if you are able to show 6 - 12 months of good payment history on your line of credit, then the lender might allow you to convert your line of credit into an unsecured version, where the collateral requirement is removed.
As you look at your options, consider the terms and conditions offered by individual lenders. Some may insist that you are based in the US and have been in business for a certain number of months or years. You will typically need a business checking account and, as mentioned, a comparatively acceptable personal FICO score.
Only apply for those credit lines if you meet the minimum requirements specified. Otherwise, you may simply waste your time and add to the frustration.
With Lendzero, applying for a Business Line of Credit is easy.
Step 1: Click on the Get Approved button above and answer a few basic questions about your business, project or need. We will inform you about your best options and how many exist (this will set your expectations).
Step 2: After this is complete, you will be asked to create a username and password to begin your electronic loan application. This process normally takes about 6 – 7 minutes (if you have all your documents easily accessible and ready).
To complete the loan application, here is what you will need to have handy:
Step 3: Once the application process is complete, we will send you the completed application for you to review and sign. Once you have signed for your application and uploaded the necessary documents, the process is complete. You have officially applied and started your journey to receiving pre-negotiated business lines of credit offers. Your Lendzero funding specialist will reach out to you to guide you through the remaining steps of the process, and provide the necessary guidance and support needed with the goal of successfully obtaining the proper loan.