Sometimes it makes sense to get a traditional loan that provides a lump sum. For example, you need the full amount if you’re going to purchase a property. Equipment may also require a large amount of money to be paid at once. Likewise, a one-time project needs funding to get off the ground.
However, what if you’re a business that needs capital for growth or wants resources you can tap into when necessary? In these situations, you may be better off with lines of credit.
What Are They?
A line of credit is a type of loan, but instead of getting the funds all at once, you decide when and how much you draw. While this may seem unfamiliar at first, many people have a similar setup with credit cards. The biggest difference between these two financing options, however, is that a line of credit is typically for larger amounts and generally has lower interest rates.
How Do They Work?
The application process is very similar to that of a lump-sum loan. You’ll be required to submit documentation showing your creditworthiness, which the lender then verifies. The major difference is that after you’re approved and have accepted the offer, you have more flexibility.
To access the funds, you “draw” on the loan. Every time you do, that amount is considered “used” and subtracted from the total you can have drawn at one time. Interest-only starts to accrue when you’ve drawn on the loan, so your payment varies depending on how much you’ve used. As you pay back the principal, those funds again become part of the total amount available.
What Are the Benefits?
When you have lines of credit, those funds can be immediately available. Many lenders allow you to wire money from the line, meaning you can have access cash as soon as one business day. This is an excellent resource for emergencies or if a limited-time opportunity pops up.
You can also manage your debt by tracking your payments and interest. With a lump-sum loan, you’re paying interest on the entire principal from the very beginning. With a line of credit, you can keep your interest payments low by only drawing portions of the principal.
Who Should Apply?
Many types of businesses can benefit from having a line of credit. For example, if you rely on payments in exchange for large orders, you can use a line to purchase materials and inventory. Lines of credit can also be great for start-ups since they have many expenses and need the freedom to put capital where it’s most needed.