Understanding the Working Capital Line of Credit
It happens to every business owner, there’s a gap in funds and it looks like things are going to start getting a bit too tight. What if we told you that your business doesn’t have to suffer during these gaps in funds?
The answer to this problem is to get a working capital line of credit. This type of credit will give you funds to make sure your business stays afloat and runs smoothly during gaps. For more information on capital lines of credit keep reading below.
What Is a Working Capital Line of Credit?
A working capital line of credit is used to finance a business’ everyday finances and operations. It can be used for large companies and small businesses.
These types of credit are not met to finance long-term projects or investments like a loan would. A capital line of credit is used to finance or cover small needs that can include payroll, debt payments, and rent. It helps to think of a capital line of credit as a credit card rather than a traditional loan.
Why Would I Need a Working Capital Credit Line?
If you’ve noticed that your business is having trouble making payments on supplies, utilities, rent, or even paying your workers, there is a quick solution. The solution to all your problems might be to open a working capital credit line. Capital lines of credit can also be used to help expand your business or take up investments that you don’t want to miss.
This line of credit can also be used to help when there is a gap in you’re earnings. This can be due to a slow season or an investment that went downhill. A capital line of credit helps your business to run smoothly during these situations and gives you peace of mind.
How Do I Get Working Capital Lines of Credit?
Getting a capital line of credit is like applying for a traditional loan in the finical world. You must submit an application, get approved, and sign a borrowing contract before getting access to your money.
You can get a business line of credit at your local bank or through online lenders. Credit unions also offer these types of credit lines for lower interest rates.
How Does a Capital Line of Credit Work?
This type of credit works like any credit card except you must take money out from the bank. Like a regular loan, you must be approved before getting the money and then you must pay it back with interest. Unlike a tradition loan, when you pay on your line of credit it will replenish to the full amount that you can take from again.
Keep in mind that business lines of credit differ from standard loans because the payback time is shorter. This is due to capital lines of credit being short-term borrows for small investments. This finical option works more like a business credit card than a traditional loan.
When applying for your credit it’s good to know that there are two types of capital lines of credits. These are secured lines and unsecured lines.
Secured Lines
Secured lines of credit require that you pledge assets. These assets can include things such as savings or real estate. If you place real estate on the line you may be eligible for a higher credit line.
The idea behind pledging your assets is to give the bank or lender a safety net that will pay your loan if you can’t. This is only a backup and most likely won’t happen because you will be paying back your line of credit.
Secured lines usually offer lower interest rates than unsecured lines. Keep in mind that interest rates usually depend on your business profile and credit history. The lender will not only look at your business’ credit history but also your personal history.
It’s also important to note that the approval process depends on the assets you pledge. If you pledge a savings account you’re more likely to get approved faster than putting real estate on the line. The bank will look closely at the value of your real estate where the numbers of your savings are pulled faster.
Unsecured Lines
Unsecured lines can be easier to get because you don’t have to offer assets to secure the loan. Unsecured lines are approved based on your personal and business’ line of credit history. The lender will also look at the cash flow of your business when determining the amount of the loan and your approval.
Unsecured lines usually have a lower borrowing threshold than secured lines. With the lower amount comes a higher interest rate than secured ones.
The approval process of unsecured lines takes the longest of the two. Since the lender must analyze multiple credit histories and look into your earnings, it can take a few business days.
The Pros and Cons of Working Capital Loans
Like any finical decision, there are upsides and downsides. Below you will find the pros and cons of taking out a capital line of credit.
The Pros
One of the pros of taking out a capital line of credit is that the approval process isn’t that long depending on what type you take out and your history. The fast approval is great for filling in the finical gaps within your business quickly and to keep it running smoothly.
One of the biggest pros to this type of loan is that as a business owner you will remain in full control of your business. You don’t have to give the lender part of your business as collateral which is the major appeal to a capital line of credit.
The way you use the money is flexible and can be suited to your business needs. As long as the money goes towards helping your business stay afloat you are free to use it as you wish.
It’s also important to note that the business line of credits has revolving funds. This means that once you pay off your balance, it will reset back to the full amount for you to use again. Even if you only use $5,000 from your credit line, as long as you pay it back it will replenish.
The Cons
One of the biggest cons to either type of loan is the interest rates. You can find some lower ones, especially through credit unions, but overall the interest rates are higher than regular loans.
Higher interest rates lead to capital lines of credit being more expensive in the long run. It’s common sense in the financial world that short-term options are more expensive than long-term ones due to the availability and ease of getting it fast.
Another issue you might run into is if you don’t pay the loan back. If you put an asset on the line to secure the loan and don’t pay it back, the lender will take your money or real estate.
Are There Qualifications to Getting a Working Capital Line of Credit?
A capital line of credit may seem like the answer to all your business issues and a quick fix. We are here to tell you that a business getting approved for a capital line of credit is pretty low. This is because most business owners do not meet the minimum requirements of the application process.
Your business should be at least 6 months old. A business that is younger than 6 months, or can’t provide 6 months of financing, will not be approved for a capital line of credit.
Your business should be making at least $50,000 in annual revenue. If you make less than this it might be worth it to apply if you meet your lenders minimum requirements. Each lender has its own specific requirements, and some can be flexible.
It is good to know that you do not need a minimum FICO score to qualify. This makes it easier for some business and business owners since the FICO score won’t be considered.
Will You Be Financing Your Business with a Capital Line of Credit?
Our guide has taught you what a working capital line of credit is and how it can be used to help advance or fund your business. You also know the pros and cons of this financial option so you can make the best decision for you and your business.
