Line of Credit Definition and How to Establish One
What is a line of credit you ask?
Abbreviated as LOC, this can be defined as an arrangement between a financial institution, like a bank or private lender, and a customer that establishes a maximum amount that the lender allows the borrower to access or maintain. As long as the borrower does not exceed the maximum amount, and meets any other requirements (eg. making minimum payments on time) they can access these funds at any time. – Investopedia.
How does a line of credit work?
This kind of credit is “revolving” meaning you can spend it, repay it, and spend it again and again. One advantage of a line of credit is that you only pay interest on the capital you actually draw from the account, so you’re not paying any interest on money you don’t have a use for immediately (which is why a regular loan is not the best solution for every situation). Another potential advantage is that the interest rate is often tied to the market’s variable rate, rather than your own credit track record.
In a previous blog, we talked about the differences between lines of credit, business credit cards, private vs. bank loans, and what situations are best for each. A line of credit is often best used as working capital to help manage everyday cash flow, or short-term purchases or investments like supplies, additional inventory, or usual operating expenses. If you’re looking for long-term investment funds we suggest a term loan.
Secured Line of Credit vs Unsecured
Very often LOCs are unsecured, meaning there is no collateral backing them. One common secured line is a home equity LOC or HELOC, which is secured by the equity in the borrower’s home.
One other less common type of credit line is called a Demand Line of Credit, which instead of making regular payments, the borrower may wait until the lender demands repayment before paying anything back.
How to Get a Line of Credit
- Start your business’s credit history off on the right foot. Set up a business checking account, pay bills on time, and do your best not to max out any business credit cards (it’s best to keep balances at zero if possible, but at least do not go above 40% of your credit limit)
- Apply when you don’t actually need the money and start small. When you have good cash flow, credit history, and you don’t seem desperate for money, banks or private lenders will be more willing to approve your loan. If they offer a smaller amount than what you think you might need, once you establish some positive history by making payments on time (or early), they will be willing to increase your credit line.
- Do your research. Check a few different banks or private lenders, compare interest rates and loan terms. If you’ve built a history with your current bank, they might be willing to give you a good deal. If your circumstances are not so picture-perfect, consider a trusted private lender like WorldWide Capital Management.
With no fees, quick approval and funding, and minimal documentation for our available lines of credit, we can get your small, medium, or large business moving along with some extra cash flow. Fill out our easy form to find out if you can be approved for your own LOC!