Is a Line of Credit Right for Your Business Recession Plan?

According to a June 2022 Goldman Sachs survey, more than 90% of small business owners fear an economic recession in the next 12 months.

Since lenders tend to tighten their lending standards during recessions, small business owners may be looking for ways to secure their funds before access to credit is possibly reduced.

One option to consider is to apply for a business line of credit, even if you don’t need one right now. Unlike a business loan, a line of credit lets you decide when to withdraw funds and how much to withdraw, up to a set limit.

Would your business benefit from a line of credit?

Since it’s common for access to finance to decrease during a recession, getting a line of credit before you need it can be a smart move, especially if you see the potential for cash flow problems in the future.

For example, if you plan to make large investments in inventory and materials or undertake projects that require substantial expenditure before receiving payment from your customers, a line of credit can help ensure that you have the necessary funds in the future to do so.

Additionally, a line of credit can be used to cover operating expenses such as rent, salaries, insurance, and maintenance when your business experiences a short-term drop in revenue.

Generally, lines of credit are a good option for businesses that are concerned about fluctuating cash requirements, according to Carolyn Katz, mentor with the New York chapter of SCORE, a nonprofit providing education and mentoring. to small businesses.

When you decide to apply for a line of credit, “you should try to get the line that’s available to you,” Katz says, “because even if it doesn’t fully cover your costs, withdrawing it and paying it off regularly will help you earn your path to a larger line. “

Are there any downsides to having a line of credit?

While fluctuating cash flow isn’t an issue, your decision to apply for a line of credit is more complicated. Although a line of credit can be used as a reserve or emergency fund in times of economic hardship, there are downsides to consider when obtaining a line that may not be used.

It takes time to apply and complete the necessary paperwork, the lender may charge a maintenance fee if you don’t use the line, and your limit may be lower than you want. Also, because lenders look at lines of credit, even unused ones, when evaluating a borrower, a line of credit could negatively impact your ability to obtain other types of financing. .

What do you need to get a line of credit?

If the pros of a line of credit outweigh the cons for your business and you decide to apply for one, lenders will typically look at your business profitability, credit score, and accounts receivable. Accounts receivable, money owed by customers for goods or services, represents future income that can be used to pay off your line of credit.

“Receivables are important for any type of loan product, but in lines of credit, your accounts receivable are really the No. 1 criteria,” says Katz.

Also keep in mind that old accounts receivable may be considered at risk of non-payment. Katz says, “If a line of credit is something you’re considering, try to keep your receivables under 60 days.”

When should you apply for a line of credit?

Shauna Huntington, of the NAWBO Institute of Entrepreneurial Development, the nonprofit educational foundation of the National Association of Women Business Owners, says business owners who want a line of credit should consider getting one before buying it. really need it.

“If they are waiting for this large order and they need a line of credit to produce it, it will be more difficult to go to the bank and ask for this money at that time and do it. turn quickly,” says Huntington.

With the ability to draw cash as needed, a business line of credit may be the right move for businesses worried about cash flow issues in the future. However, a line of credit, used only as a way to hedge your bets on an uncertain economy, can be an unnecessary expense that offers little or no benefit.

By Lisa Anthony of NerdWallet

The Epoch Times Copyright © 2022 The views and opinions expressed are those of the authors. They are intended for general informational purposes only and should not be construed or construed as a recommendation or solicitation. The Epoch Times does not provide investment, tax, legal, financial planning, estate planning, or other personal finance advice. Epoch Times assumes no responsibility for the accuracy or timeliness of the information provided.

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