Leveraging Variable Lines of Credit

Mar 31, 2024

If you’ve been watching the news, you already know that interest rates have started to level out, but that while reductions in interest rates are pending, businesses still need to access capital in order to serve clients. Today’s rates don’t have to scare business owners into holding off on financing to move their businesses ahead. The good news is that there’s an easy solution that gives businesses access to the working capital they need now without being stuck in a high-interest rate loan as rates moderate.

As economists predict the Fed will lower rates in the second quarter of this year, it’s a great time to take advantage of a variable-rate loan such as a line of credit. Variable rate loans change based on the Prime Rate. So, when it goes down, so does the loan’s interest rate. That means borrowing now to take care of needs like utilities and payroll doesn’t mean being trapped in an expensive loan.

There’s no need to refinance into a cheaper option later on since the rate automatically changes. Plus, if there’s no balance on the account, there are no interest charges, no matter what the current rate might be. That makes lines of credit a good choice for working funds to purchase supplies and materials or to respond quickly to unanticipated growth opportunities.

Line of Credit Basics

A line of credit is a revolving loan that replenishes with each payment back into the account. Since many business loans have spending restrictions, lines of credit are great options for flexibility. That’s because they can be applied toward almost any business expense, not just equipment or property. Most borrowers use a line of credit to handle working capital, but there are also specialized options that help manage real estate and other expenses if that’s what the business needs.

To get even lower interest rates on a line of credit, the line can be secured with business assets. When it comes to lines of credit, borrowers have two main options: secured and unsecured. A secured line uses the business’s assets to secure the loan, such as real estate, equipment, inventory, or shares. Because securing the loan lowers the risk for lenders, they can offer reduced rates.

An unsecured line relies on the borrower’s credit history to reduce risk. Therefore, a secured line can be easier for a business to obtain if it’s new or has had trouble with financing in the past. Going with the secured route, using collateral assets, also increases the borrower’s credit limit on a line of credit, giving them more power to manage their expenses.

Lines of Credit vs. Credit Cards

Lines of Credit and credit cards are both what’s known as revolving credit. That means when a payment is made into the account, it increases the borrower’s available credit up to the credit limit. On a standard term loan, for example, payments to the loan only reduce the interest and premiums, but don’t allow the borrower to borrow from the loan again.

The difference between lines of credit and credit cards is primarily the cost. Most credit cards are unsecured debt, which doesn’t give the borrower as much capital opportunity as an asset-secured loan. Secured lines of credit, however, have higher borrowing limits and lower interest rates than most business credit cards. Credit cards, in most cases, also have fixed rates, so the associated costs don’t go down when the Prime Rate drops.

Another important difference is that a credit cards doesn’t allow some categories of business expenses like utilities and payroll. To get cash from the account, rates are much higher than the card’s standard rate for purchases. A line of credit, on the other hand, allows a draw on the account directly to the borrower’s bank, so the funds can be applied to any expense.

How to Use a Line of Credit

You already know a line of credit is flexible, but it might help to have a few specific examples of how to use one. Here are just some of the scenarios where a variable rate line of credit comes in handy. Think about how you’d handle each one with and without a line to see if one is right for you.

ACCEPTING LARGER CONTRACTS: A contractor is looking to bid on the city’s newest construction project, which presents an opportunity to bring in several years’ worth of revenue. But, before they get started working on it, they’ll need to supplement their work crew with new hires. The contractor can advertise, recruit, and onboard the labor they need quickly, without waiting for the city to pay for the first round of construction, using a line of credit. When the project ramps up, payments can go back into the credit line account to be used for the next bid.

SEASONAL FLUCTUATIONS: A ski resort is highly dependent on regional weather patterns, especially as seasons change. It can manufacture snow, but not through the whole year. Summer activities like hiking don’t have the same draw as skiing, so, the business sees a revenue gap in the summer months. To cover maintenance, property improvements, and to prepare for the next season, the resort uses a line of credit to manage payroll for its off-season staff, maintenance costs, and rental equipment. When the snow falls again, the influx of skiers allows the business to pay back into its credit line, freeing up the balance for the next summer cycle.

FINANCIAL SAFETY NET: A local mom and pop shop aquires a line of credit as a buffering tool to address potential fluctuations in business. One time, they were notified by a manufacturer of a discontinued product line.The discontinued products were being sold at a steep discount, and the store owner knew that they could move the goods over time. They drew on the line of credit to place a larger order than they could otherwise afford. A few months later, during the holiday season, the store sold the products for significant profit and easily repaid the line. The following year, the store experienced an unfortunate theft. While waiting for the insurance company to process the claim, the store owners again pulled on their line of credit. These funds enabled them to rapidly restock inventory and reopen for business. Once the insurance claim funded, the owners repaid the balance on their line but kept it open in case of future needs.

What will your business accomplish with a line of credit? Take advantage of a variable credit line today, before interest rates drop and the competition intensifies. To discover which one matches your company’s industry, assets, and goals, speak with a qualified broker. They’ll help tailor the options to suit your unique needs and make sure you get the lowest rates on the market. Plus, get advice on how to manage debt, boost your credit, and more.