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Having access to credit is a lifeline for small businesses. Maybe you’re just be starting out in your ventures and you’re looking for start-up funds. You could be in a tight spot financially and cash flow is slow. Or, maybe business is booming and you finally realize that it really does take money to make money. Whatever the case may be, having a game plan for how your small business will use credit is crucial.
A common mistake small business owners make is when they co-mingle their personal credit with their business credit. Keeping personal and business finances separate from each other is a smart habit for business owners, especially when it comes to liability protection, tax preparation, tracking business profits, or even building business credit.
A business credit card and a business line of credit are two common short-term financing or credit options used by small business owners. Although both options offer great benefits to small businesses, what’s the difference between them?
Business Line of Credit
A business line of credit is a flexible and fast financing option for your small business if you need a quick injection of cash. Many business owners find it somewhere in between a business loan and a business credit card. Similar to a business credit card, a line of credit uses revolving credit to let you borrow money. Although a line of credit has a predetermined credit limit, as soon as you pay back your expenses, your full credit line becomes available to use again.
A line of credit is generally used when businesses need an influx of cash to cover large purchases, projects, or unforeseen expenses that cannot be covered with a credit card. Since these expenses are larger, a business owner might need more time to pay them back as compared to an expense paid for via a credit card.
More Structured Repayment
A business line of credit is often more structured than a business credit card. It might have open-ended revolving credit like a credit card or it might have a finite term such as two or three years of revolving credit before you are asked to apply again. With a line of credit, you only pay interest on the amount you draw and not the entire credit line. If you don’t make any purchases, APR is not charged (although a maintenance fee might). Unlike a credit card, a line of credit often has a predefined period to pay back charges, usually between six months and one year.
Larger Credit Limit, Lower APR
For qualified borrowers, a line of credit often comes with a larger credit limit than a business creditcard. The credit limit on a small business line of credit can range broadly from $1,000 to hundreds of thousands of dollars. In addition, purchases you make with a line of credit usually have a lower average APR than that of a business credit card.
Broader Spending Power
Although a credit card might allow you to make a cash advance, you will pay dearly for it. However, with a line of credit, you can often find lenders who will not charge you a cash advance fee or a higher interest rate. Although a line of credit is not traditionally used for point of sale purchases like at grocery or office supply stores, more purchasing options are available for lines of credit than ever before. A line of credit may allow you to access your funds via online transfers, a card, or even through a check. In addition, a line of credit can pay for items a credit card cannot, such as payroll expenses for example
Plan to Apply in Advance
Whereas most credit cards are unsecured, a line of credit can be secured with collateral or unsecured. If your credit is very poor or your cash flow looks shaky, a lender might ask you to apply for a secured line of credit. Your application for a line of credit might be more heavily scrutinized than your application for a business credit card. So, the best time to apply for a line of credit is when your business’s financials are in good shape. Don’t wait to apply for a line of credit when you are in the middle of a cash flow emergency.
Business Credit Cards
Like a personal credit card that may already be in your pocket, a business credit card works in much the same way but it is tied to your business and used to only make business-related purchases. A business credit card offers you a revolving line of credit that you should pay off monthly. Although a line of credit also uses the revolving credit structure, they often have more regimented agreements for repayment than a credit card but can have much larger lines of credit.
A business credit card is generally used for everyday types of purchases or for smaller emergency purchases. A business owner might use a credit card over a line of credit for purchases that they know they can repay within the statement cycle to avoid paying interest on the purchases. Additionally, a credit card might be a good option for small businesses that want to take advantage of introductory offers or credit card rewards programs.
Looser Repayment Terms but Higher APR
Charges should be paid off monthly to avoid interest charged on purchases and any charges that are not paid off each month incur interest until paid off. Although the APR on a business credit card is typically higher than that of a line of credit, credit cards often have looser repayment terms, as long as minimum repayment amounts are met each month.
Credit Card Rewards & Special Offers
Unlike a line of credit, business credit cards can also help you earn reward points, cash back bonuses, or other perks. If you have more than one card linked to your main account, each time an employee makes a purchase, they can help your business earn rewards too. Keep in mind these perks usually come at a price by means of an annual fee or fees for additional users added to the primary account. In addition, some business credit cards might even offer introductory rates like a limited term of 0% APR on purchases.
Keep Personal Credit and Business Credit Separate
Just like a business line of credit, a business credit card can also be an important tool to have if you are interested in separating your business finances from your personal finances. Although it’s helpful at tax-time and for accounting purposes, using a business credit card that you’ve set up through your LLC or corporation may also protect your personal assets against liability.
A Credit Option for New Small Businesses
A business credit card is usually unsecured, meaning that you don’t have to put up any collateral or link it to an existing financial account, which is a great option for small business owners just starting out. In addition, business credit cards can help young businesses establish business credit. Business credit is different than personal credit and is a critical component of securing larger business financing for the future of your business.
How Do I Decide Between a Business Credit Card and a Business Line of Credit?
Although many small businesses decide to have both a business credit card and a business line of credit or one or the other, the choice is purely personal and part of your business’s financial strategy. It’s best to develop your business’s financial management plan before you need access to credit so you can make an informed decision instead of choosing whatever credit option you can get to the quickest.
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This communication is provided for informational purposes only. It is not intended to be an advertisement, a solicitation, or constitute professional advice, including legal, financial, or tax advice, nor is StreetShares providing advice on any particular situation.