Overview of Line of Credit (LOC)

Definition of
Line of Credit (LOC)

Professor A defines Line of Credit (LOC).

What is a Line of Credit (LOC)? A Line of Credit (LOC) is a flexible loan from a financial institution that provides a defined amount of money that a borrower can access as needed and then repay either immediately or over a pre-specified period. Unlike a traditional installment loan where a lump sum is disbursed and repaid in fixed installments, a line of credit allows the borrower to draw funds up to a certain limit (the credit limit), repay the borrowed amount, and then borrow again up to the same limit. Interest is typically charged only on the amount of money actually drawn, not on the entire credit limit.

Activities Related to
Line of Credit (LOC)

Activities involved in using and managing a Line of Credit.

Here is a list of LOC related activities: Applying for a line of credit from a bank or financial institution (see Loan Preparation), Drawing funds from the LOC as needed for business expenses or cash flow management, Making repayments on the drawn balance (principal and interest), Monitoring the available credit and outstanding balance, Potentially paying fees associated with the LOC (e.g., annual fees, draw fees), and Using the LOC for short-term working capital needs or to bridge financial gaps.
These activities provide businesses with flexible access to funds.

The Importance of
a Line of Credit (LOC)

Two team members discussing the benefits of a Line of Credit.

A Line of Credit (LOC) is important for small business owners because it offers crucial financial flexibility. It can be a lifeline for managing uneven cash flow, covering unexpected expenses, or taking advantage of short-term opportunities without needing to apply for a new loan each time funds are required. Because interest is typically only paid on the amount used, it can be a more cost-effective way to manage short-term financing needs compared to traditional loans if used judiciously. Having an established LOC can provide peace of mind and a ready source of funds for working capital requirements.

Key Aspects of
Line of Credit (LOC)

Golden Key highlighting key aspects of a Line of Credit.

Revolving Credit
Funds can be borrowed, repaid, and then borrowed again up to the approved credit limit, similar to a credit card.

Interest on Drawn Amount
Interest is typically charged only on the portion of the credit line that is actually used, not the entire available limit.

Secured vs. Unsecured
LOCs can be secured (backed by collateral) or unsecured (not backed by collateral, often with higher interest rates).

Flexibility
Provides businesses with flexible access to funds for various short-term needs, offering more adaptability than a fixed-term loan.

Concepts Related to
Line of Credit (LOC)

Brainstorming concepts related to Lines of Credit.

A Line of Credit (LOC) is a form of debt financing. When drawn upon, it creates a liability for the business. The cost of using an LOC is the Interest Expense. It's often used to manage Working Capital and ensure sufficient liquidity. Obtaining an LOC may involve Loan Preparation and an assessment of the business's creditworthiness.