A line of credit is a useful tool for managing cash flow. You can buy inventory and pay expenses before revenue comes in, and you can minimize costs by using only what you need from an available pool of money.
Predicting the cost of borrowing is hard. Interest rates for business lines of credit might run anywhere from 5% to more than 20%. Learn about lines of credit and how to find one for your business.
What Is a Business Line of Credit?
A line of credit is a pool of money you can draw from as needed. When a lender approves your application, they give you a maximum credit limit. You can use almost any amount of the credit line up to that limit.
Lines of credit are revolving loans, so you typically have the flexibility to repay your debt, leave the account open, and repeat the process if you need to borrow money again later.
Line of Credit Rates
Advertised rates are always low, but your business’s characteristics—as well as the type of lender you use—determine how much you’ll pay.
Improved flexibility with cash flow
Zero or limited interest if repaid quickly
Helps with unexpected expenses
Multiple lending options to choose from
Potentially high interest rates applied to your balance
Risk of lender reducing or eliminating credit line
Poor terms for start-ups
Risk of building debt if revenue dips
- You're able to pay expenses as they come up, and then pay your line of credit when you collect your receivables.
- If you collect your receivables before your payments are due, you can avoid interest on your credit.
- Lines of credit are available when you need them, so you can quickly cover unexpected expenses like repairing faulty equipment.
- Many financial institutions offer business lines of credit.
- Interest rates can be high if your credit is not very good, so you may have to shop around for the lowest rates.
- Your lender can cancel lines of credit at any time, and they might want to see periodic financial reports from you to determine whether to keep your line open.
- If you're not prepared for dips in revenue from seasonal fluctuations or economic circumstances, you could end up with more debt than you can handle if you use your line of credit too much.
You should be prepared for the possibility of a line of credit being withdrawn. Keep some cash saved in an emergency expense account.
What Determines Your Rates?
Several factors impact the rates you pay on business lines of credit. Ultimately, it comes down to how the lender evaluates the amount of risk involved with your loan. Generally, they will look at:
- Your credit history
- Features of your loan
- Characteristics of your business
- Interest rates in the broader economy
Lenders want to see a consistent history of borrowing and repaying loans. For most small business owners and new businesses, lenders use an owner’s personal credit scores and require a personal guarantee. Over time, this establishes business-specific credit.
Lower-risk loans have lower interest rates. Risk levels can depend on factors like the amount of your loan and any collateral you pledge to secure the loan. Because lenders can take the collateral and sell it, pledging collateral reduces their risk.
Startups are risky to lend to, but if you have substantial revenue or have been in business for several years, you’re a less risky borrower.
Interest rates are often set at a “spread” above market interest rates. For example, your rate might be 3% above the London Interbank Offered Rate (LIBOR) or the prime rate. The spread would be the difference between the two. As market rates change, your rate will likely change.
Different lenders offer different rates—even if all of the characteristics above are the same—so it’s important to get quotes from several lenders.
A variety of financial institutions or government entities provide credit lines to businesses.
Sourcing Lines of Credit
Online sources and fintech providers are the newest options for borrowers. These services get funding from banks, investors, individuals, and other sources. They often provide low-interest rates on business lines of credit. This category includes peer-to-peer lending sites and marketplace lenders that are focused on business loans.
Don’t ignore “traditional” financial institutions, which have a long history of providing businesses with credit lines. They’re still a good option, especially if you have an existing business relationship with one of these banks. Using a bank or credit union for your business checking account and merchant accounts may help you get approved and receive a reasonable interest rate.
Local credit unions are especially likely to get to know you and your business, which may help if your creditworthiness is hard to prove.
There are a few other methods of funding your business. For example, credit cards and SBA loans can help you in certain situations.
Business Credit Cards
Business credit cards are commonly referred to as "revolving credit." However, they're technically lines of credit and easy to get approved for. Interest rates and fees on credit cards tend to be high, with an average rate around 20% APR. You might qualify for deals and teaser rates, but don’t fall into the trap of running a balance and paying interest at double-digit rates over long periods.
Loans backed by the U.S. Small Business Administration (SBA) are a good option if you’re especially sensitive to interest costs. Those loans are issued by private firms like banks, credit unions, and online lenders, but the U.S. government guarantees a portion of these loans. As a result, lenders take less risk when they approve them.
Interest rates on SBA lines of credit vary from lender to lender and depend on the criteria described above. However, the SBA sets maximum limits on the spread that lenders can charge. Lenders can charge 4.5% to 6.5% over Prime for SBA Express loans. Compare that to credit card rates of 20% or more, and the additional legwork of applying for an SBA loan becomes more attractive.
Sample Rates from Selected Lenders
Are you curious about how much some of the most popular lenders charge? You’ll see several offerings below, but these might not be the perfect fit for your needs. To ensure that you get the best deal possible, shop among several lenders, including small banks and credit unions in your area.
Remember that the lowest advertised rates are only available for borrowers with the best finances, and that definition can vary from lender to lender.
Fundera is an online service that connects small businesses to a variety of lenders. Rates for credit lines range from 7% to 25%, with rates near the lower end if you have good credit.
There’s no centralized database of rates (it wouldn’t be possible, with the unique characteristics of every business and different lender offerings), so you need to contact lenders to get numbers that are relevant to your situation.
Kabbage is a technology-based lender that provides short-term lines of credit. Pricing is quoted in terms of a “monthly Fee Rate” from 1.25% to 10%. To estimate an annualized rate (if you’ll borrow year-round), you’d need to look at total fees throughout the year.
Bank of America is a standard “big bank” offering business lines of credit, including SBA loans and conventional loans. On unsecured lines of credit, advertised interest rates are “as low as” 4.50%. With collateral, the rate may be as low as 3.75% for prime borrowers.
Lendio works with numerous partners, including online lenders and traditional financial institutions. As you might expect with a wide variety of sources, rates range anywhere between 8% and 24% APR, depending on creditworthiness and other factors.
Final Thoughts on Credit Lines
As you evaluate lenders, look for those that prefer borrowers with your profile: companies with similar revenue, length of time in business, and credit scores.
Pay attention to additional fees, which add to your total borrowing cost. Some lenders charge you for every withdrawal, while others charge a monthly maintenance fee—and some have no additional fees at all.