Businesses that run through operating cycles, on and off seasons in the summer or winter for example may find from time to time that a loan is needed to keep up normal operation until the positive flow season hits. Business owners looking to obtain small amount of funds for working capital to help operate their business have to consider getting a business line of credit loan or a small business loan. The choice between the two depends on a lot of factors.
Banks will extend a secured line of credit to most start-up ventures. The line may be unsecured if the business can demonstrate consistent earnings, an excellent capital position, and multiple sources of repayment. Traditionally, banks will commit a specified maximum amount of funds from which you are permitted to draw on as needed. You have the right to repay and re-borrow during the agreed-on time, which usually will not exceed a year. You pay interest only on the outstanding principal.
In addition, the bank needs to know how you will repay the line when your first source of repayment does not come through. Bankers look for enough elasticity in your operations to accommodate temporary reversals in adverse situations. What happens when you discover that your inventory is not selling as projected? What secondary sources of repayment are available?
Banks may also require you to pay down your line of credit when you have not followed your payment schedule, even though the total amount of money that you borrowed is not due for several more months. Banks do not like to approve lines of credit for use in managing cash flow. Instead, lines of credit are intended for cyclical borrowing needs at identified pay-down intervals. A failure to pay back the money on schedule indicates a potential problem in your ability to manage cash.
Which Is Right for You…
Line of Credit or Traditional Bank Business Loan or an Alternative Funding Source?
What is a Business Line of Credit?
According to the SBA, business line of credit loan helps small businesses grow and operate. This type of loan is designed to finance short-term working capital needs, such as inventory purchases or to pay operating expenses. These loans are given by financial institutions to operating businesses that meet certain criteria.
To receive a line of credit loan, profitable operating businesses must demonstrate a positive cash flow. The amount of the loan depends on your business revenue performance. The financial institution will look at revenue and cash flow-past, present and future-to determine the maximum line of credit your business will be allowed to borrow.
These records will help the business owner prove that the loan debt can be repaid during the term of the loan. Similar to the concept of credit cards, owners are approved for a maximum amount for lines of credit loans, and then they are allowed continuous borrowing and repaying during the term of the loan. For this matter the loan is also called revolving line of credit.
When to Use a Business Line of Credit?
This type of program is appropriate for businesses that have seasonal operating expenses or variable working capital demands. In other words, normal operating expenses that your business is able to cover during a regular business cycle. For example, you would use this type of loan to purchase supplies and inventory. A line of credit loan allows the owner to borrow the money needed to help meet the demand. You would not use this type of loan for large long term investments such as buying property, new equipment, or fixed assets.
How to Get a Small Business Line of Credit
If you’ve had trouble getting a small business loan or other types of bank credit or financing for your business or startup, here’s something that might work: Apply for an unsecured small business line of credit.
Start small – basically with whatever size line a lender is willing to provide. The important thing is to get a foot into the bank financing door. Even if the credit line is small, put it to immediate use and pay it off diligently and always on time.
Once you’ve established a track record, you can seek to expand the credit line in small steps. Many major banks that serve small business offer unsecured business credit lines of $5,000 to $100,000 for firms that have been around at least 2 years.
A Flexible Financial Tool
A business credit line is a flexible financial tool that can help you grow if you use it right. And even if you don’t have an immediate need for credit, it’s handy to have in your hip pocket if business conditions change. Establishing the revolving credit line is cheap, you only pay interest on what you borrow and you can use the line for almost anything.
Six things a credit line can be used for:
- Remodel, expand or upgrade your store, offices or other facilities.
- Buy new computers, servers, office technology or other equipment.
- Purchase extra inventory for upcoming promotions or seasonal spikes.
- Launch a new online marketing campaign.
- Create a new product prototype, pursue a promising business opportunity.
- Cover unexpected expenses.
Banks can be a good place to look for credit lines. Sure, bankers are being more tight-fisted these days, but they do have money to lend – especially for established businesses – and credit lines are one way they are doing it.
Credit lines are also appealing because of their low costs. Interest rates will vary with prevailing market rates, but many lenders allow you to tap the line – via paper check, online, check card or other method – for no fee. However, you can expect to pay a modest fee to open the account once you’ve been approved.
Ask about interest rate protection
You should also ask if the lender offers some kind of interest rate protection or lock-in feature to protect you against rising rates in the future. Some lenders will let you lock in an interest rate on your business line of credit for a year.
Beware of using a credit line for cash advances however, as many banks charge a cash advance fee that can run 3% or more (on top of any interest you’d pay).
How to Apply for a Business Line of Credit
To obtain a credit line, you will probably need to supply some financial information about your business as well as yourself, so be prepared with income and other statements or tax returns.
Sources of small business credit lines are numerous. To find the perfect fit and absolute best terms, you should plan to comparison shop among several lenders.
Some banks also offer unsecured revolving lines of credit backed by the U.S. Small Business Administration (SBA). The SBA’s CAPLines program helps business owners meet short-term and working capital needs and can be a great option for newer businesses less than four years old.
Different types of CAPLines
- Seasonal Line. Loan proceeds can only be used to finance seasonal increases of accounts receivable and inventory (or in some cases associated increased labor costs), but can be revolving or non-revolving.
- Contract Line. This line finances the direct labor and material cost associated with performing an assignable contract and can be revolving or non-revolving.
- Builders Line. If you are a small general contractor or builder constructing or renovating commercial or residential buildings, this can finance direct labor and material costs. The building project serves as the collateral and loans can be revolving or non-revolving.
- Standard Asset-Based Line. This is an asset-based revolving line of credit for businesses unable to meet credit standards associated with long-term credit. It provides financing for cyclical growth, recurring and/or short-term needs. Repayment comes from converting short-term assets into cash, which is used to pay back the lender. Your business can continually draw from this line of credit, based on existing assets. This line is generally used by businesses that provide credit to other businesses.
- Small Asset-Based Line. This is an asset-based revolving line of credit of up to $200,000. It operates like a standard asset-based line except that some of the stricter servicing requirements are waived, as long as your business can show repayment ability from cash flow for the full amount.
When should a business not use a Line of Credit?
Small businesses should be careful to avoid using a Line Of Credit for longer-term financing. Companies that top out their credit line quickly and can only make minimum monthly payments may find that a Line Of Credit can be a drain on cash flow as they are unable to reduce the Line Of Credit‘s principal. This can both stress the company’s balance sheet, and potentially hurt its ability to acquire other types of credit.
4 Credit Line Tips and Warnings
- Avoid carrying a constant balance on your credit line. Periodically paying down the debt completely will keep the credit in place and your lender happy.
- One key factor in obtaining a credit line will be your business cash flow.
- If your business doesn’t quality for a standard credit line, ask for an “asset-based” line.
- Remember, the best time to set up a business line of credit is before your business actually needs it.
Bank Loan vs. Line of Credit
What to Consider When Seeking a Traditional Business Loan
According to the SBA, it is not your only source for small business loans. State and local economic development agencies as well as numerous nonprofit organizations provide low-interest loans to small business owners who may not qualify for traditional commercial loans. This page will help to ensure that you are prepared when you decide to apply for a small business loan.
Documentation Needed for Small Business Typical Bank Loan Application
While every loan program has specific forms you need to fill out and documents you need to submit, you will likely need to submit much of the same information for different loan packages.
Before you start applying for traditional bank loans, you should get some basic documentation together. The following are typical items that will be required for any small business loan application:
- Personal Background: Either as part of the loan application or as a separate document, you will probably be asked to provide some personal background information, including previous addresses, names used, criminal record, educational background, etc.
- Resumes: Some lenders require evidence of management or business experience, particularly for loans that are intended to be used to start a new business.
- Business Plan: All loan programs require a sound business plan to be submitted with the loan application. The business plan should include a complete set of projected financial statements, including profit and loss, cash flow and a balance sheet.
- Personal Credit Report: Your lender will obtain your personal credit report as part of the application process. However, you should obtain a credit report from all three major consumer credit rating agencies before submitting a loan application to the lender. Inaccuracies and blemishes on your credit report can hurt your chances of getting a loan approved. It’s critical you try to clear these up before beginning the application process.
- Business Credit Report: If you are already in business, you should be prepared to submit a credit report for your business. As with the personal credit report, it is important to review your business’ credit report before beginning the application process.
- Income Tax Returns: Most loan programs require applicants to submit personal and business income tax returns for the previous 3 years.
- Financial Statements: Many loan programs require owners with more than a 20 percent stake in your business to submit signed personal financial statements. You may also be required to provide projected financial statements either as part of, or separate from, your business plan. It is a good idea to have these prepared and ready in case a program for which you are applying requires these documents to be submitted individually.
- Bank Statements: Many loan programs require one year of personal and business bank statements to be submitted as part of a loan package.
- Collateral: Collateral requirements vary greatly. Some loan programs do not require collateral. Loans involving higher risk factors for default require substantial collateral. Strong business plans and financial statements can help you avoid putting up collateral. In any case, it is a good idea to prepare a collateral document that describes cost/value of personal or business property that will be used to secure a loan.
- Legal Documents: Depending on a loan’s specific requirements, your lender may require you to submit one or more legal documents. Make sure you have the following items in order, if applicable:
- Business licenses and registrations required for you to conduct business
- Articles of Incorporation
- Copies of contracts you have with any third parties
- Franchise agreements
- Commercial leases
Business Loan vs. Business Line of Credit
1. Business loans are used one time whereas lines of credit can be used multiple times.
2. “When” you get a loan is different from “when” you get a line of credit. A loan is normally not something you would get until you need it because it’s normally for one specific purpose. A line of credit is something you obtain before you need it. Remember the line of credit, unlike a loan, is not for one specific purpose.
3. With a loan you have a monthly payment that, although there are a few exceptions, doesn’t change from month to month and those monthly payments begin right away. Whether you’re using all the money or not your monthly payment does not change. With a line of credit you only make payments on the amount of money you’ve borrowed so if your balance is zero your payment is zero.
4. The closing costs are higher for a loan than a line of credit. There are always exceptions to every rule but most loans carry closing costs anywhere from 2-7% whereas lines of credit have very minimal or no closing costs.
5. Loans carry with them fixed terms or amortization periods. Because of this the monthly payments on loans are usually higher than the monthly payments on lines of credit. Think about it like this. If you were to get a loan for $50,000 your monthly payment will likely be $400-700/month more than it would be if you owed $50,000 on a line or lines of credit.
6. Loans are usually best for long-term debt that gets paid off over 2 to 6 years. Lines of credit, however, are best for short-term purposes such as financing receivables, marketing, and making payroll. We acknowledge that lines of credit are great for unexpected cash-flow issues but make sure you don’t exhaust your lines of credit on surprises. Use as much of your line of credit for Revenue Generating Activities.
If you use some of your funds for a marketing initiative (or several of them) then you’ll likely be able to justify the new debt you’ve incurred because you’ve also generated additional revenue and grown your organization.
7. Business loans have higher interest rates but they are normally fixed rates.Business lines of credit normally have lower interest rates but are variable. This simply means that if you manage your lines of credit poorly by making late payments or going over the credit line then — from an interest rate perspective — you would have been better off getting a loan. Whereas with a line of credit the rate can actually get better with good credit management.
8. Loans are usually somewhat interest-rate driven, whereas lines of credit are not as rate-sensitive. With a line of credit, that is used primarily for short-term purposes, it’s more important to have a monthly payment that is “cash-flow friendly” and, even though the rates are normally quite good, it’s more important that the line can be used repeatedly and the monthly payment is as low as possible in relation to the balance. The various products, lenders, guidelines, and constantly changing standards have made the credit and lending landscape for small businesses a rather delicate, perilous, and formidable one.
Alternative MICRO Loan Funding As A Solution
If you have a business that won’t qualify for a “Line of Credit or a Traditional Bank Loan you may want to consider alternative funding. Let look at the for Construction Industry as an example.
Because Traditional Banks Won’t Fund Your Construction Industry Business You Can Now Get Micro Loan and Business Funding that is Based On the Health of Your Company and Cash Flow, NOT on Your Credit Scores
Having working capital and general purpose funds on hand to cover day to day your operating expenses is critical. While many construction industry business owners need capital for specific items or projects, some don’t. Instead of defining a specific capital need, a working capital MICRO loan is intended to be versatile and nonspecific.
• A simple lending process
• Flexibility in collateral requirements
• Flexibility in revenue requirements
• Flexibility with your time in business
• A paperless application
Why This Construction Industry Funding is Available:
This construction industry funding is offered because banks won’t fund construction companies. The 10 Reasons Why Traditional Banks Won’t Fund the Construction Industry are: (1): No Clear Access to Receivables; (2): Lien Rights; (3): Excess Owner or GC Retainage;(4): Warranty Issues Regarding Performance; (5): “Firing” of Contractors Can Result in Freezing of Payments; (6): Joint Check Arrangements Reduces Availability; (7): Cumbersome, Time Consuming, Expensive Underwriting; (8): Possibility of Project Funds Running Out; (9): Poor Estimates; and (10): Margins Too Thin. See: Get Your Part of the $700 Billion Construction Pie
Now Your Construction Business Can Get Construction Industry Business Funding Quickly & Easily:
Micro loan approval is made in as little as 2 to 3 days so you can focus on what you do best, running and growing your business. Easy application available: A simple one page application, and 4-6 months bank statements plus your profit & loss statement. No hassles and no long waits for a response.
Loans from $5,000 to $250,000+
Terms 3 to 18 months
Fixed interest and fixed payments
Easy daily ACH repayment
Approval in 2 to 3 days
Funding in as little as 7 to 10 days
Other Construction Industry Funding Programs Available:
SBA 7(a), SBA Express, Equipment Financing, Business Credit Cards (an option for start-ups), Short-term Working Capital, Accounts Receivables (factoring) and Commercial Real Estate, etc. Please about these other programs.
By Using this Construction Industry Funding Services you can:
- Take advantage of the additional credit often unavailable
- Minimize, and often eliminate, additional credit control requirements
- Streamline in house accounting functions
- Evaluate the financial status of a project through the reports provided with each draw
- Negotiate prompt payment discounts with your suppliers, directly increasing your bottom-line
With this Construction Industry Funding You Are Able to Coordinate a Host of Related Contractor Services such as:
- Project Management
- Construction Mentoring
Why this Construction Industry Funding Programs Are Good for Your Business:
- Increase approvals up to 40% more than traditional bank funding.
- One system with National lenders
- One easy online application, only one credit report required
- Several Funding-Credit Options: Term, Revolving and Low interest
- Fixed Interest / Fixed Payments/Easy ACH Repayment
This Construction Industry Funding is Available for most Construction Businesses even with situations such as:
- Short time in business (usually 1+ years)/ project start-ups
- Poor credit history
- Tax liens
This Construction Industry Funding is Available to All Associations and Small Businesses such as:
- Associated Builders & Contractors – Associated General Contractors – Subcontractors Associations
- American Architects Associations – Construction Financial Management AssociationsIndividual Construction Contractors & Subcontractors: Architects, Asphalt Contractors, Cable Companies, Carpenters, Ceiling/Drywall Contractors, Electrical Contractors, Engineers, Excavators, Expediters, Fire Sprinkler Contractors, Flooring Contractors, HVAC Contractors, Landscape Contractors, Paving Contractors, Plumbing Contractors, Roofing Contractors, Tile Contractors, Solar Contractors, Underground Utility Contractors, Construction Inspection Companies, Security Firms, Space Planners, Steel Fabricators, Supply houses, Manufacturers, Material Suppliers, Public project construction Management Companies, etc
Get Fast and Easy Access to Working Capital with New Online Application!
You get small business loans are offered at affordable, business-friendly rates and require no personal guarantee, no collateral, and have no prepayment penalty. You get short-term, renewable business loans of up to $250,000 to qualified applicants within a few business days and have recently added an extended working capital loan to $2,000,000. Our speed and transparency make us a trusted alternative to banks.
Online Application & Approvals:
- Gives your small to mid-sized construction business fast and easy access to loans and working capital. Also, you get a process simpler and easier to access affordable business credit.
- Your small to mid-sized business owners (SMBO) can receive decisions in 24 hours or less upon completing an application online and get access to working capital within 3 to 5 days. In addition to avoiding the time consuming process of the traditional bank loan process and providing information over the phone, they have eliminated most of the standard paperwork associated with the small business loan process.”
- This is for small business owners, who need quick access to working capital to make time sensitive inventory purchases, add or replace equipment, or finance their business needs. Using the latest technology and intuitive processes, we can now process your requests more efficiently than ever before, and reduce the completion time of the entire application process from weeks, or even months, to a matter of hours and receive funding within a couple of days.
Which Is Right for You – Business Loan vs. Line of Credit?
Timing. Some contractors will look for a line of credit before they actually need money. They simply want to have the opportunity to get money if they ever get low on funds. Those who look for loans already have that need in place. They are used for a specific reason at a specific time. A line of credit is slightly more flexible.
Usage. You can use a line of credit several times over, but you can only use a loan once. Of course, you can always get a secondary loan in the future to cover your new expenses, but you will not be able to use your loan like a credit card.
Terms. Traditional bank loans typically take longer to pay back than lines of credit, depending on the debt that has accumulated. For instance, it may only take you a few months to pay back a small credit card balance, but it will take you a few years to pay back a loan. If you only pay the minimums on the line of credit though, you will carry the debt much longer than you would with a loan. It’s all about how you pay.
Along this same line, you have to remember that traditional bank loans are going to have a fixed term – 24 months, 48 months, 60 months, etc. Lines of credit will not. That means that you could pay off a line of credit over a decade or more if you felt inclined to. Of course, you can pay either option early to reduce your costs and term length, but you don’t have to.
Carrying Costs. It’s hard to say whether a traditional bank loan is cheaper than a line of credit because that will vary on a case by case basis. If you get a low interest line of credit with no annual fee, you’ll pay less in carrying costs than you would with a loan. However, a high interest line of credit will often lead to more out-of-pocket expenses in the long run.
Payments. With a traditional bank loan, you have a fixed monthly payment to make. This can be great for predictability, but it may not always be budget friendly. In the case of a line of credit, you only have to pay whatever your minimum payments are set out to be. This could be 2% of the balance or it could even be nothing at all. You will have to review your credit terms to find that out.
Interest Rates. Traditional bank business loans have fixed interest rates, whereas most lines of credit have variable interest rates. The initial interest on a line of credit may be low, but it could skyrocket in a few short years. If you’re looking for guarantees, get a loan, not a credit line.
Now that you know the differences between lines of credit and business loans, you can determine which one you want to go with. Think about your situation and the road ahead, and you’re sure to figure something out. If you need help please get back to me for a Free coaching session.
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Business Development Director
Profit Builders Inc.
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About Michael Kissinger, the Consultant, Coach, Mentor Speaker, Author and Entrepreneur: I spent the last 20+ years of my life creating fascinating Client and Profit Doubling programs that have helped thousands of small businesses across America. I am a former 20+ year business professor at three leading California Universities , and a small business analyst and consultant. I have taught more than 10,000 students people around the country & around the world. I am an experienced Off-line and On-Line marketer business developer, public speaker and a popular Bay Area professional. I work with many of the top small businesses in America. I am the author of over 850 top rated business and marketing articles. Contact me and get ready to discover this amazing gold mine of experience and information!