Are you a self-employed business owner looking to grow your company? Lines of credit are generally a good way for you and your small business to have cash on hand when things aren't going well. However, the best time to apply for a line of credit (LOC) is when your business is booming – not only will you have the cash flow to support the request, but chances are your lender will be willing to negotiate terms, including interest rates.
For many businesses, using a LOC and repaying it will strengthen their credit profile and potentially allow them to negotiate a lower interest rate after repayment. But like any other kind of credit, there are positives and negatives to consider before you apply.
The Pros of a Line of Credit
Keep in mind, your bank is going to want to see a full credit history for your business before they'll consider issuing a line of credit. If this doesn't scare you away, some of the pros of a LOC include:
- Relationship building – One of the best aspects of negotiating a line of credit is the relationship you build with the lender. Over time, this may help you when you need additional financing for other projects.
- Flexibility built in – Unlike a loan that your business might take out for equipment or office space, lines of credit don't always require you to provide a reason for the loan. Additionally, the funds in a LOC are available when you need them and don't have to be used at all.
- Credit benefits – Businesses who use their lines of credit in a careful and deliberate manner may see their business credit rating increase, which can be helpful when seeking other loans and credit lines.
The Cons of Lines of Credit
Let’s face it — any source of capital has upsides and downsides, and lines of credit are no different. Some of the cons of a bank line of credit include:
- Fees and extra charges – While you may have to pay higher interest rates on credit cards, LOCs can result in a mountain of fees for maintenance and withdrawals. Make sure your interest rate is low enough to justify any added fees.
- Application difficulties – When you apply for a line of credit, your bank may require that your business be at least two years old. Unlike with a credit card, you may be asked to provide extensive financial reports including tax returns, cash flow statements and more.
- Debt worries – While a line of credit is nice to have on hand for an emergency, you could ultimately find that you have spent the entire amount you have access to, and are unable to repay it because of a business slowdown. In some cases, businesses may be better off with a standard loan to avoid the temptation of access to immediate cash.
Regardless of your business size, a credit line can be very convenient, but before you apply, understand the potential risks and make sure they don't outweigh the benefits. If you need a solid way to increase the credit-worthiness of your business and you fully understand the risks, it could be one of the best financial tools at your disposal.