What a business line of credit is and how it differs from a loan

A business line of credit is a set amount of money a lender makes available to your business that you can borrow from, repay, and borrow from again — similar to a credit card but typically with lower interest rates and higher borrowing limits. Unlike a traditional term loan, where you receive a lump sum upfront and repay it on a fixed schedule, a line of credit lets you draw only what you need, when you need it. You pay interest only on the amount you actually use, not on the full credit limit.

The key difference matters for cash flow. A term loan gives you money when ready but locks you into payments whether you use it or not. A line of credit sits available until you tap it, making it useful for covering unexpected expenses, seasonal slowdowns, or short-term gaps between invoicing and payment. Once you repay what you've borrowed, that credit becomes available again.

Key Takeaways

  • A business line of credit lets you borrow up to a set limit, repay it, and borrow again, paying interest only on what you use.
  • Secured lines require collateral (equipment, inventory, or a personal may provide) and typically carry lower interest rates than unsecured lines.
  • Lenders examine your business revenue, personal credit score, time in business, and cash flow to decide how much credit to offer.
  • A line of credit works best for short-term needs like seasonal inventory or payroll gaps, not for long-term purchases like real estate or equipment.
  • You can draw from a line of credit by check, debit card, or online transfer, and repayment terms vary from monthly to revolving interest-only payments.

Secured versus unsecured lines of credit

A secured line of credit requires you to pledge collateral — typically business assets like equipment, inventory, accounts receivable, or real estate. In exchange, the lender offers a higher credit limit and a lower interest rate because the lender has a claim on those assets if you default. If your business has been operating for several years and has tangible assets, a secured line is often cheaper and easier to obtain.

An unsecured line of credit requires no collateral, but the lender takes on more risk, so the interest rate is higher and the credit limit is lower. Lenders rely more heavily on your personal credit score, business revenue, and time in business. Unsecured lines are faster to set up and don't put your equipment or property at risk, but they cost more to use. Many newer businesses start with an unsecured line because they have limited assets to pledge.

Some lenders also ask for a personal may provide, which means you personally promise to repay the debt if the business cannot. This is common even with secured lines and shifts some risk back to you as the owner.

What lenders look at when deciding how much to offer

Lenders evaluate several factors to set your credit limit and interest rate. Your business revenue — typically the last two years of tax returns or recent profit-and-loss statements — shows whether your business generates enough cash to repay borrowed money. A business with flat or declining revenue will receive a lower limit or higher rate than one with steady growth.

Your personal credit score matters significantly, even though this is a business loan. Lenders use it as a proxy for how reliably you manage debt. A score below 650 makes approval difficult; above 750 improves your terms. Your time in business also counts — lenders prefer businesses that have operated for at least two years, though some will work with newer businesses at higher rates or lower limits.

The lender will also examine your cash flow pattern. If your business has predictable monthly revenue and you can show that you've managed existing debt on time, you'll receive better terms. Conversely, if your business is seasonal or your cash flow is erratic, the lender may offer a smaller limit or require a secured line. Some lenders pull your business credit report (from Dun & Bradstreet or Experian) to see how you've handled vendor payments and past credit.

How to draw from and repay a business line of credit

Once approved, you can access your line of credit in several ways depending on the lender. Many offer a checkbook linked to the line, letting you write checks up to your available balance. Others provide a debit card or online portal where you can transfer funds to your business checking account. Some lenders allow automatic draws on a set schedule, useful if you know you'll need money on specific dates.

Repayment terms vary by lender and loan type. Some lines require monthly payments of principal plus interest, similar to a traditional loan. Others allow interest-only payments during the draw period (when you're borrowing), then require principal repayment during a repayment period. A few lenders offer revolving credit, where you pay a minimum monthly amount and can continue borrowing as you repay — this works like a credit card and is common for smaller lines.

Interest rates on business lines typically range from prime rate plus 1% to prime rate plus 5%, depending on whether the line is secured and your creditworthiness. Some lenders charge an annual fee (typically $100 to $500) even if you don't use the line, so read the terms carefully.

When a business line of credit makes sense

A line of credit is best for short-term, recurring needs. If your business has seasonal sales — retail stores before the holidays, landscaping companies in spring, tax preparation firms in January — a line of credit covers payroll and inventory during slow months. You borrow in the busy season, repay during the slow season, and the cycle repeats.

It also works well for managing cash flow gaps. If you invoice clients on net-30 or net-60 terms but need to pay suppliers upfront, a line of credit bridges that gap. Similarly, if you have an unexpected equipment repair, a sudden opportunity to buy inventory at a discount, or a large client that delays payment, a line of credit provides quick access to cash without the lengthy approval process of a new term loan.

A line of credit is not the right tool for long-term purchases like buying real estate, vehicles, or major equipment. Those purchases benefit from a term loan with a fixed repayment schedule that matches the useful life of the asset. Using a line of credit for a five-year asset purchase leaves you vulnerable if business slows and the lender reduces your available credit.

How to prepare your process

Before approaching a lender, gather your financial documents. You'll need the last two years of business tax returns (or profit-and-loss statements if you're very new), your most recent business balance sheet, and three to six months of business bank statements. These show the lender your revenue, expenses, and cash flow pattern.

Bring your personal credit report (you can obtain it free from annualcreditreport.com) and be prepared to discuss your personal credit score. Have a list of any existing business debt — loans, equipment financing, or credit cards — with current balances and monthly payments. If you're seeking a secured line, prepare a list of assets you're willing to pledge as collateral, with approximate values.

Write a brief summary of your business: what you sell or do, how long you've been operating, how many employees you have, and why you need the line of credit. This doesn't need to be formal, but it helps the lender understand your business quickly. If your business is newer than two years or your credit score is below 700, be ready to explain why and what you've done to strengthen your position.

Where to find a business line of credit

Banks offer lines of credit but typically require a strong credit score (usually 680 or higher) and at least two years in business. They move slowly but offer competitive rates if you may have access to. Credit unions often have more flexible requirements and lower rates for members, though approval can still take several weeks.

Online lenders (such as Fundbox, OnDeck, or Kabbage) approve faster — sometimes in days — and work with newer businesses or lower credit scores, but charge higher interest rates. Alternative lenders like merchant cash advance companies offer quick funding but at very high rates and with terms that can be difficult to manage.

Start with your current bank if you have a business checking account and a good relationship there. If they decline or their rates are high, compare offers from two or three other sources. The difference in interest rate between a 7% line and a 12% line is substantial over time, so shopping around pays off.

Frequently Asked Questions

Can I use a business line of credit for personal expenses?

Technically, once the money is in your account, you can spend it however you want. However, if you use business credit for personal expenses, you lose the tax deduction for interest paid, and the lender may view it as a sign of financial trouble if they review your bank statements during renewal. Keep business and personal finances separate.

What happens if I don't use my entire credit limit?

You pay interest only on what you borrow, not on the unused portion. Some lenders charge an annual fee regardless of usage, so check your terms. The unused credit remains available if you need it later, and responsible use of available credit can improve your business credit score over time.

Can I get a line of credit if my business is less than a year old?

It's difficult but possible. Most traditional lenders require two years of business history. Online lenders and some credit unions will work with newer businesses, but they typically offer smaller limits and higher interest rates. You may need a personal may provide or collateral to offset the risk.

What's the difference between a line of credit and a business credit card?

Both are revolving credit, but a business credit card typically has a lower limit, higher interest rate, and rewards features. A line of credit usually offers a higher limit, lower rate, and more flexible draw options. Lines of credit are better for larger, planned borrowing; credit cards work for smaller, frequent expenses.

Will a line of credit hurt my credit score?

The initial process triggers a hard inquiry, which may lower your score slightly for a few months. Once approved, responsible use — borrowing, repaying on time, and keeping your balance well below the limit — typically improves your credit score over time by showing you manage credit responsibly.