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How Does a Business Lines of Credit Work for Contractors?

Mar 09, 2021

As a contractor, your business is unique. You're in the business of building. And to build, you need a steady supply of working capital.

That's where business lines of credit come in handy. Many business loans are term loans. That means they have set monthly payments stretched over a fixed term.

But a line of credit gives you the flexibility to advance or pay down on the loan as you need. This gives you a steady supply of working capital without the restrictions of a term loan.

Continue reading to learn about how a business line of credit works and how you can benefit from one.

The Benefits of Business Lines of Credit

1. Flexibility

A business line of credit gives you access to cash at all times. And you have access to that cash easily, without having to wait.

With a term loan, you sign loan paperwork every time you need cash. That means you may not have the cash available on short notice.

But with a line of credit, you always have access to your available funds. And it's easy to move cash to and from your bank account. This also gives you flexibility for when you make payments.

2. Interest-Only Payment Terms

Most lines of credit are set up with interest-only payments due each month. This is a big advantage for contractors.

While you work on a construction project, you save on monthly expenses with smaller payments. Then, when your project is complete and you receive payment from your customer, you pay off the loan.

3. No Early Payment Penalties

Some term loans have pre-payment penalties. This is often true of business equipment loans.

But a line of credit doesn't work that way. You pay the loan down to $0 any time you want with no penalty.

How to Qualify

To get a business line of credit, you need good personal credit. You also need a few years of business history. This shows that your business has good credit too.

Strong business financials are a must. They show that your business has the ability to make payments on the loan. Here's a list of the usual financial information to gather before reaching out to your lender.

In addition, you'll supply them with a source of repayment for the loan. This is usually in the form of payments from your customers. Or it might be from the sale of a home you built.

The Line of Credit Terms

A commercial line of credit is usually a short-term loan. This means it has a term of one year or less. But if you perform as agreed on the loan, your lender often renews the loan for future use.

Your lender secures the line of credit with business assets. This might be with short-term assets, like receivables and inventory. And in some case, they take a blanket lien filing on all of your business equipment.

Sometimes a lender requests a mortgage on a piece of property. This usually happens when you plan to sell the property to pay off the loan after you complete the project.

The lender visits with you about the amount of money you need. And after they look at your credit and financials, they'll let you know how much money you're approved for. The amount of money also depends on the collateral.

If you secure the line with receivables, the loan won't exceed a certain percentage of those receivables. If it's secured by a mortgage, the amount depends on the value of the property.

Open and Close Lines of Credit

There are two types of lines: open and closed lines of credit.

An open line lets you advance and pay off as you go. A closed line is a specified amount and once you've advanced it fully, you can no longer use that line.

The type of line that the lender extends depends on the type of contracting you do. If you build homes and you need a line for a specific home, a close line makes more sense.

If you provide a service such as roofing or paving, you might receive an open line that you use as you please. This allows you to pay suppliers before you get paid for your work.

How to Use Your Line of Credit

After you sign the loan paperwork, the money is available to you right away. For an open line of credit, the lender allows you to advance money from it as you see necessary.

With this type of line, you call the lender and ask that they transfer money to your bank account. Or they'll give you the options to do it yourself online.

For a closed line of credit, the lender might ask to see receipts to verify what the money is used for. This practice is common with a line used to build a home.

The Best Way to Get Working Capital

Business lines of credit provide many benefits for contracting businesses. They are flexible and offer low monthly payments while you complete construction projects.

The type of line you get depends on your type of business. A roofer might have a different type of line than a home-builder.

In order to get the line, you'll need good credit and strong business financial performance. Once you have the line in place, it's easy to use. And that means you've got access to the working capital you need to successfully run your business.

Discover how working capital loans can give your business the financial advantage it needs.


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