What Is Revolving Credit? An Introduction
Throughout the lifespan of many businesses, there is likely to come a time when a cash injection is required. This may be to cope with increasing demand, accommodate plans for growth, or simply help with day to day liquidity and cashflow.
There is a vast array of different financial products available, some more suitable than others when it comes to helping with different business requirements
What is a revolving credit facility?
Similar to credit card and overdraft facilities, revolving credit is a line of credit where borrowers are given a set credit limit which they are able to withdraw and repay over a specified period of time.
How revolving credit works
Revolving credit can either be secured or unsecured lines of credit. Secured revolving lines of credit also known as “asset-based lines of credit” require the borrower to have some form of collateral to act a security against their loan. This helps to minimise the risk exposure to the lender. Should the borrower default on repayments the lender becomes entitled to take – action to seize their assets to recover the debt.
Unsecured lines of revolving credit do not require the borrower to offer any collateral as such, in order to secure their agreement, but they may be asked to sign a personal guarantee. Again, this helps minimise risks to the lender. Interest rates may also be higher with this type of revolving credit facility in comparison to secured revolving credit to reflect the greater risk to lenders.
What are examples of revolving credit
Credit cards, personal lines of credit and home equity lines of credit are some common examples of revolving credit accounts. This type of credit facility can be used to pay expenses such as wages, rent, and utilities, as well as to make stock purchases and pay business taxes.
How long does a revolving credit facility last?
Short-term revolving credit can last typically, anywhere between 1, 3, 6 and 9 months, however, this can vary from lender to lender, with some agreements lasting as long as 12 months.
Medium-term revolving lines of credit can last anywhere from 1 to five years.
Revolving credit facility vs term loan
A revolving credit facility is similar to a term loan in that it provides access to a certain amount of capital over an agreed time period. Both are typically ‘committed’ facilities, which mean that as soon as the agreement has been executed, the lender must advance the money when requested, as long as the loan’s conditions are agreed to by the borrower. A term loan is a broad term encompassing different types of products, the most prominent term loan products are unsecured or secured loans.
How much can I borrow?
You may be curious about what is a good amount of revolving credit to have, how much revolving credit is good and how much revolving credit should you use?
The amount of revolving credit you apply for varies from lender to lender. However, as revolving lines of credit are considered to be a short-term financing solution for business, the amount businesses can borrow is likely to be less than with other types of finance such as traditional term loans, for example.
Similar to an overdraft or credit card, the amount available to borrow decreases and then increases again up to the agreed credit limit, as and when money is spent or withdrawn and repaid.
Borrowers may opt to use the credit available to them and subsequent repayments all in one go, or make several smaller withdrawals and repayments throughout the duration of their agreement.
Of course, ultimately although lenders may have a minimum and maximum amount they are willing to offer, the actual amount you can borrow will also depend on the duration of time for which you require the facility, and your current creditworthiness.
Short term revolving credit is likely to have lower credit limits that medium term agreements. Medium term lines of revolving credit are also likely to have stricter approval criterion, and require a greater amount of supporting documentation.
How much interest will I have to pay?
Again, this is likely to vary from lender to lender, however one of the good things about revolving credit, is that you only pay interest on the amount you actually spend or withdraw.
That being said, as with many other types of short-term financing options for business, revolving lines of credit can be more expensive than other forms of credit. You may also be required to pay commitment or arrangement fees depending on which lender you choose.
What can I use it for?
Strictly speaking there are no hard and fast rules when it comes to what you can use a revolving line of credit for. Although it is important to bear in mind that they are only intended to be a short-term financing solution. The good thing about revolving credit as that you can use it to cover cash flow shortfalls as and when required.
Even though you may have a set credit limit of £25k, if you only really need to use £10k throughout the duration of your agreement, you can do so, and will only be required to pay interest on the £10k withdrawn. Stock purchases, equipment and other costs typically associated with day to day cash flow are all potential uses for a revolving line of credit.
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