Business line of credit vs business credit cards

As a business owner, you might be wondering what the difference is between a business line of credit and a business credit card. Do you need both? When should one be used rather than the other?

Think of a business line of credit and a business credit card as financial siblings. They share many of the same features, but are two separate products. And they can get along very well.

How does a business line of credit work?

A commercial line of credit (LOC) is a fixed amount of money that a bank allows you to borrow. Letters of credit can be unsecured or secured by assets. They have a drawdown period, which is the number of years you have to draw down the funds. During this time, you can withdraw as much as you want up to the credit limit, and only the borrowed amount is subject to finance charges. To access funds, you typically use a company checking account, credit card, or mobile app.

The line of credit for a small business line of credit can be quite high. Depending on your credit history and the financial health of the business, it can easily reach $100,000 or more.

The lender will assess the minimum monthly payment due, which can be calculated as a percentage of the outstanding balance or based on interest. If a debt remains after the end of the drawdown period, the lender will determine the installments needed to pay it off based on a term, such as three or five years.

As with all financial products, there are costs involved. Depending on the lender, the LOC may be accompanied by:

  • Origination fees: application processing fees, often between 0.5% and 1% of the credit line
  • Annual maintenance fee: typically $25 to $50 per year
  • Drawdown fee: usually 1% to 2% of the amount you withdraw
  • Late fees: Varies by lender
  • Interest: APRs vary widely, from as low as prime plus a small percentage to nearly 30%, with no interest-free grace period

How does a business credit card work?

Business credit cards are like personal credit cards, but designed for the small business owner. Most of these cards are not secure, although there are secure business cards on the market. As with business letters of credit, they have fixed limits and you can charge up to that amount if needed. Only renewed debts will be subject to financing charges. Unlike LOCs, you can keep the account active for as long as you want.

The credit card issuer will assess the minimum monthly payment due, which is usually 2% of the balance (unless the balance is so low that it will be a fixed amount, such as $25). You can use the card for purchases and cash advances.

Regarding the fees, there are a few:

  • Annual Fee: No annual fee on some cards, others charge $500 or more
  • Late fee: typically $39-$41 after your first late payment, with some cards charging 3% of any overdue amount (whichever is greater)
  • Cash advance fee: usually $5 to $15 or 3% of amount (whichever is greater)
  • Overlimit fee: up to $35
  • Interest: Typically 14% to 26% variable APR (excluding 0% APR introductory offers), with a grace period during which interest is not assessed on purchases, except for cash advances

Lines of credit on business credit cards are usually around $50,000.

Line of credit vs credit card

Since the limits can be so high, commercial letters of credit are generally used for short to medium term financing of expensive things that you want to pay off over time. For example, you might need $50,000 worth of restaurant equipment. If your credit card has a $25,000 limit, you’d be out of luck, but the LOC would go with you.

On the other hand, you might just have to spend another $1,000 on advertising and you could pay the bill in 30 days. With the business credit card, you benefit from an interest-free grace period. Or, if you used a credit card with an introductory rate of 0%, you’d have even more time to charge without any interest being added to the balance.

There are also rewards for small businesses to consider. While some corporate LOCs offer a rewards program, many do not. Business credit cards almost always do. And if you’re traveling across the country or the world, choosing a good business travel card can be the answer. They are packed with perks that can reduce those costs while still offering attractive perks.

Be aware that since business letters of credit tend to have high limits, they may be more difficult to obtain than small business credit cards.

The bottom line

Ultimately, business lines of credit and business credit cards are compatible products. Once you understand the differences between them, you can decide which one best suits your business needs. The right strategy for your business may be to use both: a business line of credit and one of the best business credit cards. With either option, you’ll only pay interest on the money you use.