Business Lines of Credit 101

If you run a small business, one of the most helpful financial tools that you can use is a line of credit. This helps companies pay for routine expenses, such as purchasing inventory, by using preapproved funds. Business lines of credit allow you to borrow the money whenever you want without having to reapply each time, as long as you stay within your limit. Sometimes you can even write yourself a check. Then, as you begin to repay these funds, more will become available to you.

This form of financing is considered a short-term loan and is usually made to mature within one to two years. However, before your maturity date, your bank may want you to pay the line down to zero for up to 30 days before they choose to renew it.

Although most business lines of credit have a maturity date, some are created as demand lines where the bank can demand full repayment at any given time. For this reason, you need to understand the potential results this could have on your company before you decide to sign up. The bank will also review these lines about every year.

If you decide to go with a secured line of credit, then you will receive a loan from the bank that is a percentage of the value of your collateral, which can include accounts receivable, business assets, and inventory. When using inventory as collateral, there are three different classifications, which include finished goods, work in progress, and raw materials. Each of these types is valued differently by banks depending on the demand for each. Because the demand is low for goods that are not finished, work in progress is valued the least. You will usually receive up to half of the value of your finished goods and raw materials, and less for work in progress.

When pledging accounts receivable as a form of collateral, you will usually receive up to 80 percent of their value. However, sometimes there can be exclusions for receivables that are long past due or are only focused on one customer.

If your company has great credit, it is likely that you will be approved for a signature line. When this happens, you can write yourself a check for any amount as long as it stays under your preapproved limit. Sometimes the bank will require that you complete a borrowing base certificate each time you withdraw money. This will show how much you have in outstanding accounts receivable as well as how much can be included in your margined collateral base.

If you are a small company looking for financial help, consider using business lines of credit. If you do your research, these lines can be very beneficial and will help you get right where you need to be.