In past discussions, we have focused heavily on obtaining a business line of credit, securing the credit facility, and the pros and cons of using this type of financial instrument. In this article, we will focus on how the terms of revolving credit facilities are often structured. As we have discussed earlier, the mechanics behind the usage of a business line of credit are pretty straightforward. Much like a credit card, a business LOC allows you the flexibility of drawing down a principal balance, paying the interest owned on a monthly basis, and the ability to payback the principal and use it again at a later time. Primarily, this article will focus on what happens when a credit line comes to the end of its term. Again, the typical time frame for a business line of credit can range anywhere from three to ten years (with the average line having a lifetime of five to ten years).

When the credit line is about to expire, one of three things can happen. First, you can apply to have the credit line’s life extended. If your business is doing well and if you are producing enough positive cash flow then more likely than not you financial institution will extend the credit facility for an additional number of years. Again, it is important to remember that banks are in the business of lending money, and if you have developed a solid history of responsible usage of your business LOC then there is very little reason for a bank to discontinue the line.

 

The second thing that can happen is that the line closes. This scenario will trigger one of two events. The first scenario is that any outstanding principal balance will be converted into a normal business loan, and will is to repaid over a specified period of time. This arrangement is typically within the business line of credit contract that you received when you initially applied and were accepted for the credit facility.

 

The more unlikely event is that any outstanding principal balance will be due immediately upon the closing of the credit line. Again, this will be discussed and placed within your borrowing contract at the onset of the credit facility. If this is the case then you should plan accordingly for when this day comes as any drawn down principal will need to be repaid immediately.

 

Although it sounds like we are now beating a dead horse, your accountant should be involved with the management of your cash flow. They will assist in ensuring that any of the three scenarios will be handled appropriately and will have minimal if no impact on your business.

In most instances, you will be required to put up significant collateral in order to obtain a business loc. This is because banks, finance companies, and private lenders do not want to take the risk of losing money. In the event that you do not repay the credit facility, the lender can take the collateral and sell it in order to recoup their investment. This is almost identical to the recoupment principles of taking out a mortgage.

 

If you are a startup business, you can acquire a business loc by using property that you already own to secure the credit line. This would be similar to a home equity line of credit. In many startup situations, the primary residence is used as the securing collateral. The alternative to this is method is if you have substantial assets or credit. In this case you can apply for an unsecured business loc. Again, you will need substantial assets and an extensive credit history to acquire an unsecured credit line.

 

In the event that you are an established small or medium sized business, you can use the assets held by the business to secure the credit facility. These assets can include accounts receivable, owned real estate, equipment, or the predictable income from your credit card acceptances. In lieu of tangible assets, you can use the highly predictable cash flows generated by your business to secure a business loc. However, in order to accomplish this – you must have an extensive business history that shows continued profitability and a positive cash flow over a number of years (usually the minimum is three years for this type of credit line).

A business loan is an agreement between your business and a lender in which you agree to pay an interest rate on a specific amount of capital borrowed over a specified period of time. As we have discussed earlier, a business loan works very much in a similar fashion to a mortgage. You are lent money and required to pay back the principal and interest. However, there are a number of differences between business loans and other types of loans. As we saw earlier, business loans often come with a substantial number of covenants. These covenants act as a guide of factors that your business must adhere to throughout the life of the loan. Sample covenants include, but are not limited to:

 

Maintaining profitability
Maintaining a positive cash flow that exceeds the interest and principal repayment by a certain factor.
Maintaining the value of collateral
A stringent use of how the business loan is to be used.
Maintaining a strong credit score (both for the business and personally).

 

Banks and finance companies have a wide range of latitude when determining whether or not to make a business loan, how the loan proceeds can be used, the interest rate, and the repayment period. Of course, like with anything in this world, you are free to reject an offer proposed by a lending bank. The only factor that cannot be taken into account when making a credit decision is someone’s race, religion, or other similar characteristics.

 

In regards to the mechanics of the business loan, a bank or finance company can issue the funds in a number of different ways. First, they could simply write you a check to be deposited into your bank account. However, this is become less frequent as banks want to ensure that the usage of debt funds is in accordance with how you said you would use them. In a different scenario, you could have the bank make purchases of items on your behalf. For instance, if you took out a $50,000 loan to buy a piece of business machinery, then the bank very may well directly pay the vendor for the equipment rather than you paying the vendor. This ensures the bank that the funds have been used appropriately and that the proper collateral is in place.