Line of credit

Debt Term

A line of credit is a common type of business loan that functions like a credit card but with some important differences.

Like a credit card it is an agreement that the business can borrow what is needed at a convenient time, up to a maximum.

Also like a credit card, a line of credit is paid off regularly in small chunks, but more can be borrowed before it is all paid off. This makes a line of credit “revolving.” The repayments are often on a schedule based on the total amount borrowed, like a credit card.

Line of Credit Versus Credit Cards

Unlike a business credit card, the cash goes from the bank or Fintech company into the business’ bank account. The cash transfer happens when requested by the business. Credit cards send the borrowed cash to a vendor for a specific purchase.

Some lines of credit may also be secured by a business’ inventory and accounts receivable, which tends to lower the interest rate. However some are unsecured by collateral, similar to credit cards.

Also unlike a business credit card there are often requirements that a line of credit is reduced to a zero balance at some point, and for some duration (often a month), over the course of a year. This requirement is meant to keep businesses from using a line of credit like a term loan or other long-term debt. Instead, a line of credit is meant to be used for short-term temporary working capital requirements. These include seasonal inventory increases or delayed payments on large contracts.

Finally, the fees associated with a line of credit are generally different from those for credit cards. For example there may be a “commitment fee” for making the line of credit available, and a “non-utilization fee” if the line of credit isn’t being used. Make sure you research fees before agreeing to a line of credit, or any debt for that matter!

Don Gooding

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