Why A Small Business Line Credit Is Better Than A Regular Loan

The purpose of the credit line may be different. Such a banking service may be needed both by small enterprises and private individuals. It can be issued to finance a long-term government project, to replenish the working capital of a commercial company or to solve the current problems of an individual. In the situation with private borrowers, the role of a credit line is most often played by a credit card with a renewable limit.

A credit line is a limited amount of borrowed funds of a bank, which are withdrawn from the account at a certain moment. In simple words – this is a loan that can be taken from the bank at the moment when it is needed most. The borrower pays interest only for the actual period of use of money. While taking a regular loan, the client pays interest on the entire amount, even if part of it has not been used up.

Lines are secured and unsecured. With long periods and large amounts of limits, the bank prefers to secure its own finances and insists on obtaining liquid collateral. Most often, the property is suitable for this purpose, which can be easily realized when making up for losses. When a credit line is secured, the lender offers a lower interest rate and loyal terms than under unsecured contracts.

The main differences of a credit line from a loan

A loan and a small business line of credit can be considered similar banking products. But most often, when analyzing them, two main differences are taken into account:

  • Whether renewal of the limit is required;
  • Money is needed now or later.

Credit lines are often used by law firms. They are drawn up to obtain an additional source of financing to reduce financial risks. The credit line becomes for the company an additional source of financing for core and current activities. For individuals, banks offer this product in the form of credit cards with a renewable limit.

Advantages of credit lines over regular loans

There are several advantages that distinguish credit lines:

  • ease of use of the loan: money can be taken in installments, and you do not need to conclude separate agreements each time;
  • the size of each loan is determined by the client himself – within the bank limit;
  • the method of receiving funds is agreed individually – you can choose the type of credit line;
  • interest is paid only for the actual time you use the money (unlike a loan, for which you pay interest in full, even if you used only a small part of the amount, and the rest is waiting for its time);
  • The interest rate for credit lines is usually lower than for a regular loan. For large CFs, the rate is calculated separately for each of the tranches, depending on the size of the amounts provided (the larger the amount and the shorter the period, the lower the rate), this allows you to save on interest.

As part of the credit line, the borrower can withdraw the entire available amount at once or take the money in installments at the moments when they are most needed. Calculation rules, interest rates, available limit and other conditions are established individually and prescribed in a bank agreement.

A credit line is a kind of promotion of loyal customers with high solvency and a positive financial reputation. As a rule, this product is characterized by certain amenities for the client, compared with the classic target loan. But young companies or individuals with low solvency or without any credit history may not approve such a product.

Credit line classification

Credit lines issued by banks are of several types. Some types may mix. Others are found only in pure form.

Non-revolving credit lines or simple

If you explain in simple words, then with this type of lending, the borrower gets the opportunity to withdraw money once within a specified period within the limit. Issuance of funds on a non-revolving credit line occurs only once – in one tranche.

In practice, this happens as follows: for example, a company purchases a large batch of goods and turns to the bank for a credit line. A financial institution signs a contract with a borrower. The client is looking for the best supplier, concludes a contract with him and after that transfers the payment from borrowed funds. Now the borrower pays the lender as under a classic loan agreement. After interest and the total amount of debt is paid, the credit limit for this type of lending does not resume and money cannot be withdrawn again.

Revolving or renewable

Such credit lines allow the borrower to borrow money within the established limit when he needs it before the expiration of the contract. In addition, the client can pay off the debt in installments or the total amount. When making payments, the limit is restored and becomes available again to the borrower.

This type of credit line is suitable for financing long-term contracts. For example, to purchase expensive equipment that will be supplied in parts. The bank draws up a credit line, and the borrower pays the supplier from each tranche. At the same time, the client pays the bank only for using the amount that was required at the moment, which reduces the cost of borrowed money.

Other types

Framework. The Bank opens a credit line for a specific project and all tranches that will be issued within the framework of the loan are specified in the initial framework agreement.

On- line credit lines – in this type the limit is restored to the original. If the borrower approved a line for 2 million, and he withdrew only 500 thousand and paid them off, then again all 2 million are available to him.

Contract Accounts. In this case, the credit company opens a single active-passive account for the borrower, all tranches come from it and all repayments come here. The client carries out all operations on one current account and it is convenient for him to analyze the income-expense within the approved limit and the entire duration of the contract.

The bank representative, together with the borrower, evaluates which type of credit line is most suitable for solving the tasks, and only after that draws up the contract.

Conclusion

So, to summarize, we can briefly remind ourselves that the Credit Line is a long-term loan issued in parts when a need arises.

The credit line provides for the establishment of a certain credit limit by the bank – the amount over which the client can no longer take one turn of the loan. And within the limit, the client can take a loan without additional negotiations and registration.

When a credit line is opened, the type of loan, the period of validity, the maximum amount of the loan are indicated in the loan agreement, and the settlement and money documents are listed that will be paid by using the credit line or the contract is indicated for which the credit line is opened to pay for deliveries. One important detail – when opening a credit line, the contract must indicate the maximum loan amount.

There are restrictions in credit lines, and in different types of credit lines, they can be different. For example, there are lines of credit with a limit on issuance or with a limit on total debt.

Credit line with a limit on total debt – in this case, we mean the total amount of all debt, which if the client pays on time and in full, then he is entitled to use the loan in the future. Or, if the borrower returned part of the money to the bank, then the volume of lending is restored – this is a revolving credit line.

A credit line with a disbursement limit is the total amount of all possible loans that a client can receive all the time when he uses a credit line. In this case, the repaid debt cannot increase the lending limit, therefore – this credit line is classified as non-revolving.

In general, this lending option is very convenient for both the bank and the client for several reasons. The bank, although not immediately, but still begins to make a profit from the loan issued, and the client gets the right at any time to use the reserve amounts in the account in case of a lack of equity. Thus, the borrower receives advantages and more freedom in managing their cash flows, which, undoubtedly, significantly increases its capabilities and allows the company to grow and develop.

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