Why this matters
A line of credit (LOC) is one of the most flexible short-term financing tools for small businesses. Unlike a term loan, it’s meant for cyclical or unpredictable needs—payroll gaps, seasonal inventory, or timing mismatches between receivables and payables. Used well, a LOC smooths cash flow. Used without discipline, fees and revocations can make it costly or unavailable when you need it most.
How draws work
- Draw = any cash withdrawal, transfer, or check written against the approved limit. You only pay interest (and sometimes draw fees) on the amount you actually use. Most lenders post interest daily and bill monthly.
- Typical mechanics: you request a transfer or use an account-access tool, the lender advances funds, your outstanding balance rises, and available credit falls by the same amount.
- Repayment restores availability: when you repay principal, that portion of the limit becomes available again—this is what makes the LOC “revolving.”
Interest and amortization
- Interest: usually variable, tied to a base rate (prime or SOFR) plus a margin. Business LOC APRs vary widely depending on credit quality—expect a broad range rather than a single number.
- Minimum payments: many LOCs require interest-only monthly payments with a principal balloon or a required amortization schedule if balances aren’t reduced by renewal. Read your agreement for payment timing and any required principal paydown.
Renewals and lender reviews
- Term length: many commercial and small business LOCs are issued with a 6- to 12-month term and are subject to renewal. Some are multi-year with annual reviews.
- Renewal process: lenders typically request updated financial statements, bank statements, and tax returns. They will re-underwrite cash flow, receivables, and collateral, and may adjust the credit limit, pricing, or covenants.
- Nonrenewal risk: if revenue weakens or covenants trigger, a lender can reduce, freeze, or close the line. Keep covenants current and communicate early if you expect stress.
Common fees (what to expect)
| Fee type | What it is | Typical range or note |
|---|---|---|
| Origination fee | One-time setup or underwriting fee | Often 0%–5% of limit (varies) |
| Maintenance/service fee | Monthly account servicing charge | $10–$50/month common for small business accounts |
| Draw/access fee | Per-withdrawal charge | $0–$25 per draw depending on lender |
| Commitment/unused fee | Fee for keeping unused credit available | 0.25%–1% of unused portion annually in some deals |
| Early termination | Fee for closing or paying off early | Depends on agreement; read terms |
Notes: Fee ranges vary with lender size and loan structure. Online lenders, community banks, and credit unions price differently. Always get a fee schedule in writing.
Key risks and covenants
- Covenant breaches: lenders often include financial covenants (DSCR, minimum EBITDA, net worth). Breaching them can trigger immediate repayment or limit changes.
- Collateral and personal guarantees: many LOCs require UCC liens on business assets or personal guarantees from owners—understand what collateral is pledged.
- Revocation: unused lines are not guaranteed—banks can reduce or close a line after notice or review, especially in deteriorating economic conditions.
Practical strategies to keep costs low
- Use for short-term needs: LOCs are best for bridging timing gaps, not financing long-term growth where a term loan may be cheaper.
- Consolidate draws: combine small, frequent draws into fewer withdrawals to avoid per-draw fees.
- Negotiate renewal terms: provide clean, timely financials and a short renewal package to reduce underwriting friction and fee surprises.
- Maintain a usage target: many firms keep utilization below 30%–50% to preserve capacity and credit score effects.
Real-world example
A retail client kept a $75,000 LOC and used it seasonally for inventory. By limiting draws to large, predictable purchases and repaying within 60 days, they paid interest only on used amounts and avoided frequent draw fees—saving several hundred dollars per year.
When to consider alternatives
- If you need multi-year financing for growth, a term loan or SBA 7(a) may offer lower long-term cost and predictable amortization (see When to Choose a Line of Credit vs a Term Loan).
- If you want a standby emergency resource with minimal fees, compare committed lines with low commitment fees and business credit cards for small, ongoing purchases.
Internal resources
- For how a business LOC differs from a term loan, see: When to Choose a Line of Credit vs a Term Loan.
- For structure and cost details, see: Line of Credit for Small Business: Structure and Costs.
Authoritative sources
- Consumer Financial Protection Bureau — Small business loans and credit (consumerfinance.gov). See guidance on business loan costs and disclosures.
- U.S. Small Business Administration — funding resources and loan types (sba.gov).
Professional disclaimer
This entry is educational and not individualized legal, tax, or lending advice. For decisions about a specific line of credit, consult your lender and a qualified financial or legal advisor familiar with your business.
