Pros and Cons of a Revolving Line of Credit
What is a Revolving Line of Credit?
A revolving line of credit is an open-ended loan which gives you access to a specific amount of cash as needed up to the credit limit. They are similar to credit cards, but are secured by business assets. In addition, they often have a lower interest rate than credit cards, and the funds can be transferred to your checking account without fees.
Ideal Uses of Revolving Lines of Credit
Revolving lines of credit are ideal for seasonal businesses or companies that experience sales fluctuations. If your business has a high and low sales seasons or has a gap between completed work and payment, you may find that a revolving line of credit helps create a bridge. For example, if your business receives a large order, a revolving line of credit can be an ideal way to purchase that inventory.
Pros of a Revolving Line of Credit
Funds are available at any time: One of the advantages of having a revolving line of credit is that the funds are available whenever you need them. You don’t need to go through an approval process to get a critical injection of cash; you’ll simply borrow from your existing line.
If you think that you’ll require additional financing, plan ahead and apply for a revolving line of credit. Even if you don’t need it right away, you’ll have peace of mind knowing that you have access to these funds.
Can be secured: Some revolving lines of credit can be asset secured in order to help lower interest rates. Unlike credit cards, which aren’t secured, revolving lines of credit can be secured based on inventory, equipment, real estate, and other valuable assets.
Lower interest than credit cards: Revolving lines of credit can be secured based on a wide range of factors. While credit scores are still a primary indicator of creditworthiness, you can also get approved for a revolving line of credit by submitting a business plan or collateral, which may result in a lower interest rate.
Cons of Revolving Line of Credit
Higher interest rates than traditional loans: Since revolving lines of credit are flexible, they inherently carry more risk for lenders, which can result in a higher interest rate than a traditional loan. For this reason, a business loan is more favorable for large purchases.
Commitment fees: Many revolving lines of credit carry commitment fees, which are due to the lender regardless of if you have an existing balance. With these fees, you are securing the option to use the funds.
Lower credit limits than traditional loans: Since revolving lines of credit are usually more fluid, the approved loan amount is usually much lower than a traditional loan. If you need a substantial amount of financing, you’ll likely be better off applying for a traditional small business loan.
The advantages of a revolving line of credit are mostly relevant to businesses with short-term needs; if you consistently have sudden needs for financing, this could be your best option. Of course, there are always downsides, like the cons mentioned in this post. We hope that after reading our list of pros and cons, you’re able to determine whether or not a revolving line of credit is right for your business.
Editorial Note: Any opinions, analyses, reviews or recommendations expressed in this article are those of the author's alone, and have not been reviewed, approved, or otherwise endorsed by any of these entities.