The Complete Guide To Secured Business Lines Of Credit
If you’re like most small business owners, you’ve likely encountered a financial challenge or two. You know how it goes — a slow season has impacted your cash flow, an emergency expense has put you in a bind, or you need some extra cash to expand your business. If this sounds familiar, a flexible form of financing that gives you on-demand access to cash could help you weather through these tough financial times. One option to consider is a secured business line of credit.
Before you apply for a secured line of credit, it’s important to understand exactly what you’re getting into. In this post, we’re going to explore secured lines of credit and how they can benefit your business. We’ll also look at the drawbacks of this type of business funding, what you should know before you apply, and where to find the line of credit that’s right for your business. Read on to find out if a line of credit can help you overcome your capital challenges.
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How Secured Business Lines Of Credit Work
Unlike a traditional loan that provides you with a lump sum of cash, a business line of credit gives you more flexibility and access to the capital you need when you need it. A lender assigns you a credit limit, similar to a credit card. Instead of swiping a plastic card, though, you make draws from your line of credit. In other words, funds from your assigned credit limit are transferred to your business bank account.
You can draw as much or as little cash as you need. You can also make multiple draws. The only caveat is that you can only draw up to your assigned credit limit.
The funds from your business line of credit can be used for nearly any purpose, from covering operational expenses to purchasing inventory or equipment, hiring employees, or paying an emergency expense. After using your line of credit, you’ll begin to pay the lender back the borrowed funds plus additional fees and/or interest. You only pay interest on the amount that you borrow.
What happens after you begin making payments depends on whether you have a revolving or non-revolving line of credit. If you have a revolving line, funds will be replenished as you pay down your balance. If the line of credit is non-revolving, you’ll be able to draw up to your assigned credit limit. Once that limit is reached, the lender will close your account.
When you apply for a secured line of credit, this means that a specific asset is used as collateral. While we’ll go into more detail about this a little later in this post, this simply means that a business asset is used to secure the loan. If you do not pay back borrowed funds as agreed, the lender has the right to seize the asset in order to recoup the lost funds.
Assets Used To Secure A Line Of Credit
We’ve already established that a secured line of credit is backed by specific collateral. Typically, this is a business asset that can be seized if you default on your agreement with the lender, although personal assets may be acceptable by some lenders. There are a few different types of assets that can be used to secure a business line of credit. This includes:
- Accounts receivables
- Commercial real estate
- Personal real estate & other personal assets
The collateral requirements for a secured line of credit vary by factors including the policies of the lender, your personal credit score, and the maximum borrowing amount.
Secured Or Unsecured: Which Is Better?
When you apply for a line of credit, some lenders offer secured lines, while others offer unsecured lines. An unsecured line does not require specific collateral but typically requires a personal guarantee or UCC blanket lien.
So, which option is the better choice? What may be right for one business might not be the best choice for yours. There are a few factors to take into consideration as to which is the best choice for your specific situation.
First, take your credit score into consideration. If you have a low credit score or negative marks on your credit report, you may not qualify for an unsecured loan. However, by putting up specific collateral to secure your loan, this takes some of the risk off the lender. In turn, you may be more likely to qualify for a secured line of credit.
Because your specific collateral takes some of the risk off the lender, you may also qualify for lower interest rates when receiving a secured line of credit. However, you should note that other factors may affect your interest rate, including your personal credit score, time in business, and annual revenue.
Opening a secured line of credit typically allows you access to a higher credit limit. Again, it all goes back to risk for the borrower. If your line of credit is secured with a tangible asset, lenders feel more confident in setting higher maximum borrowing limits.
Another advantage of secured lines of credit is that the application process is typically fast and easy. You’ll often find that there are fewer documentation and borrowing requirements with a secured line of credit when compared to its unsecured counterpart.
If you have a solid credit score and don’t want to put your assets on the line, an unsecured line of credit may be a better option. This also works for borrowers that do not have assets to secure a line of credit. However, if you do pursue an unsecured line of credit, make sure that you understand the terms of borrowing. As previously mentioned, most lenders require a blanket lien or personal guarantee before issuing an unsecured line of credit.
Is A Secured Line Of Credit Right For Your Business?
If you want continuous access to capital to cover operational expenses or grow your business, a secured line of credit may be right for you. Lines of credit work for nearly any types of business and can be used for nearly any purpose. Lines of credit are specifically useful when it comes to recurring expenses (such as the purchase of inventory or supplies, or for use as working capital) or unexpected emergencies.
Any business that seeks a secured line of credit should have sufficient assets to secure the loan. In addition, the borrower must meet all additional requirements. This includes personal credit score, business credit score, time in business, and annual revenues. Additionally, some lenders also have restrictions against specific industries.
In some cases, you may be able to score a secured line of credit even with a low credit score. However, you may face higher rates and less favorable terms, as well as be required to put up more collateral to secure the funding.
How To Get A Secured Business Line Of Credit
If you’ve made it this far and a secured business line of credit seems like a good fit for your business, the next step is to find your lender. Unsure of where to start? Keep reading to learn more about finding your secured line of credit.
Where To Get A Secured Credit Line
There are three types of lenders that offer secured business lines of credit: banks, credit unions, and alternative lenders.
If you have an existing relationship with a bank, start here when seeking a secured line of credit. Often, banks have the most favorable and flexible terms and offer high credit limits. However, banks also have the strictest borrowing requirements. A solid personal credit history, a longer time in business (typically 2 years or longer), and higher annual revenues may be required for your business to qualify. If you fall short on these requirements, you may still receive funding provided you offer up enough collateral.
Secured lines of credit are also available through many credit unions. Like banks, credit unions typically offer very competitive rates and terms on their lines of credit. However, you must meet all borrowing requirements, which can be quite strict. You also must be a member of the credit union in order to qualify.
Finally, you can turn to an alternative lender to get your line of credit. There are several advantages to using an alternative lender. This includes easy online application processes, fast time to funding (in some cases, just minutes after submitting your application), and fewer borrowing requirements. Some alternative lenders don’t even require a high personal credit score and will offer you a line of credit based on your collateral and the performance of your business. On the downside, though, alternative lenders may have higher interest rates and additional fees that drive up the overall cost of borrowing.
What You Need To Apply
Once you’ve found a lender and have confirmed that you meet all requirements, it’s time to fill out your application and submit supporting documentation. While the application process varies by lender, there are a few general requirements to know that can help you prepare in advance.
When you fill out your application, you will need to provide general information about yourself and your business. This includes but is not limited to:
- Your legal name
- Name of your business
- Personal contact information
- Business contact information
- Time in business
- Annual revenue
You may also be required to provide documentation to your lender before receiving a line of credit. Some common requirements include:
- Copy of driver’s license
- Articles of incorporation or other proof of ownership
- Business bank statements
- Voided check
- Profit & loss statements
- Balance sheets
- Business and/or personal tax returns
Finally, you will need to provide information verifying the collateral that will be used to secure the loan. This includes appraisals and proof of ownership. There may be additional requirements based on the policies of your chosen lender.
The flexibility and easy access to funding provided through a secured line of credit make it a popular option for business owners that need capital to operate or grow their businesses. However, it is important to remember that there are some drawbacks associated with a secured line of credit — it can be expensive, terms may not be as favorable as long-term financial products, and your assets are at risk if your business goes under.
It is up to you to determine if a secured line of credit is the next step for your business. Evaluate the pros and cons, compare options, and determine how additional capital could boost your business. Ready to take the next step? Check out our post, The Best Business Lines Of Credit For 2019, to start exploring your options. Good luck!