“As a business owner, I know I need to borrow on an ongoing basis and a business credit line sounds like a good idea. But how can I be sure I’m using it responsibly?”
Getting a small business line of credit is a good way to get the working capital you need to grow your business without going further into debt or paying more interest than necessary. In fact, many business owners prefer a line of credit because they can save money by drawing only the capital they need and paying it back as soon as possible.
The key to making a small business line of credit work for your company is knowing how to manage it properly. In fact, many of our small business customers frequently ask us for the do’s and don’ts of handling a line of credit. In this article, we’ll go over the basics of small business lines of credit, how they work, and provide several tips to successfully use them.
First Things First, What is a Small Business Line of Credit?
As a small business owner, you probably already know that securing the capital you need to grow can sometimes be a struggle. Even the most successful small businesses experience late invoice payments, urgent unplanned expenses, and other short-term situations where cash flow is less than certain.
Enter: a business line of credit.
A business line of credit keeps (or, a BLOC for short) cash ready and accessible to your business. You can use funds from your line of credit to pay for all your business needs. Unlike a commercial loan, a line of credit isn’t a lump-sum payment upfront. Instead, you only borrow what you need (up to the credit limit) and pay interest only on what you borrow.
Lines of credit are helpful for covering regular expenses to help with cash flow. If you need to make a larger purchase at a specific price, a commercial loan may be a better option.
If you decide to take advantage of a business line of credit, it pays to know a few facts. The following tips may help you avoid potential problems down the line and leverage a line of credit to your advantage.
Tip #1: Read the Fine Print
The first thing you must do is understand all of the terms and conditions of your business line of credit. Some lenders charge significant penalties if you’re late with a payment. Others may require you to bring the balance on your line of credit to zero at the end of every year. Before you sign on the dotted line, make sure you understand every aspect of your lending agreement. If there’s anything you don’t understand, ask—and keep asking until you’re sure you’ve got the answers you need.
Tip #2: Pay Attention to Fluctuations in Cash Flow
One of the keys to handling your business line of credit properly is understanding your cash flow. If your business has a slow season, you’ll need to plan appropriately to make sure you don’t wind up in a position where you can’t make a payment. It’s a good idea to look at your business history year-to-year to get a handle on what you can expect to earn each month.
Tip #3: Withdraw Only What You Need
When you first get approved for a business line of credit, you might be tempted to withdraw a significant amount of money simply to have it in your bank account. You might also be tempted to use the BLOC for something that isn’t going to earn you a return on your investment. A better approach is to evaluate the potential return on any expenditure and withdraw only the funds you need, and only when you need them. That way, you’ll be sure you can pay them back and you won’t get yourself into a financial hole.
Tip #4: Don’t Mix Your Business and Personal Finances
Your business line of credit is meant to be used for eligible business expenses only. If you need money for personal expenses, don’t make the mistake of dipping into your BLOC for it. You can always apply for a personal loan or line of credit if you need one.
Tip #5: Pay Back What You Withdraw Quickly
One of the real benefits of a business line of credit is that you will withdraw only what you need. That means you’ll only pay interest on the portion of the line you use. It also means bringing your balance back to zero as quickly as possible is in your financial best interest. One of the biggest differences between a loan and a line of credit is that there aren’t any penalties for early repayment. Take advantage of that and save yourself some interest with a speedy repayment. If you are disciplined enough to regularly pay down what you have advanced on your line of credit, the bank is more likely to let it remain open as an “evergreen” BLOC. If balances are carried for long periods of time, there is a strong likelihood that it will be closed and the balance converted to an installment loan.
Tip #6: BLOC’s Aren’t Meant For Mundane Expenses
The purpose of a business line of credit is to help your business grow. That means it’s perfectly acceptable to use it to buy inventory or raw materials, launch a marketing campaign, or buy a piece of equipment. However, it’s not really in your best interest to use your business line of credit to pay the utility bill or a new painting for your office. The key is to use your BLOC for things that are going to help you grow—not for mundane daily expenses. Instead, use a business credit card for those expenses and keep the line of credit for the expenditures that will increase your bottom line.
Tip #7: Make Your Payments on Time
Tip #8: Talk to Your Lender If You Have a Problem
Let's Talk Business. Your Business.
A business line of credit can provide you with the working capital you need to invest in your business. The key is managing it properly—and these tips that we’ve listed here can help you do just that.
To learn more about TFNB’s business lines of credit and other funding options, contact us or stop by to talk to one of our friendly bankers.