The Difference Between Lines of Credit and Asset-Based Lending
There are different types of financial help you can get to make big purchases, start a business or stay afloat during lean times. Two of these financing types are lines of credit and asset-based loans, each of which have unique definitions and functions as well as optimum uses which can get easily confused when you are researching funding options for your personal or business use. Knowing the key definitions and differences of these types can help you find the best fit for your needs and goals.
Credit Lines
Credit lines are a form of revolving financial facility secured by a guarantor and the most familiar is a credit card. You have a set amount of available funds, or credit limit, which you can borrow against and repay as often as needed. Lenders extend these lines to the companies most able to pay the funds back through cashflow and have a history of timely payments, have low relative debt, and show steady profits. This makes them difficult to qualify for, but the lower risk to the lender means lower rates and fees. These lines also have covenants outlined in the contract which must be followed for the lines to remain open and vary by lender.
Asset-Based Lending
Asset-based lending differs from lines of credit in that they are secured with collateral instead of a guarantor. This collateral can be real estate, receivables, inventory, or other property owned by the company or individual partners. When you use accounts receivable for the collateral, this lending option has a limit of the value of invoices factored. This financing option can be easier to qualify for because if the loan is defaulted on, the collateral can be seized and sold by the lender. Your collateral will need to be valued by the lender and the customers’ creditworthiness will be determined to see if your invoices qualify for factoring.
Best Uses
Businesses which are approved for credit lines and can keep up with the covenants outlined for them, can make best use of this funding for smaller purchases which can be repaid through cashflow. This keeps the account in good standing without putting additional strain on the company. For companies without stellar credit and who have enough accounts receivable to cover the funds they need, asset-based lending may be the better option.
When deciding between lines of credit and asset-based lending for your business needs, it is important to understand key differences and uses. Both funding options can be used for buying supplies and equipment, paying bills, or meeting growth goals. Credit lines are harder to qualify for and maintain than asset-based lending options like AR financing, but they are a revolving line.
