Working Capital Line of Credit for Small Businesses

Healthy working capital helps companies operate efficiently and maintain a steady cash flow. However, getting the balance right is not easy for new businesses, given the changeability of industry trends, market conditions and economic factors, which is why many seek working capital finance solutions, like business loans, lines of credit, and invoice financing. In this article, we discuss how a working capital line of credit works, common use cases and the key benefits for small businesses. 

What is a working capital line of credit?

A working capital line of credit is a form of short-term business financing that offers fast access to funds to ease cash flow, cover operating costs, such as restocking, payroll, rent and utility bills, and support business stability and growth.

Working capital is your current assets minus current liabilities, so a slim or negative figure can lead to cash shortages (especially in the event of unexpected costs). 

Closely linked is your cash flow, which is directly impacted by working capital changes. For example, if a lot of cash is tied up in inventory or outstanding client invoices, you may have difficulties making supplier payments and covering various regular expenses. 

Using a working capital line of credit is particularly useful for small businesses, especially those in industries influenced by seasonality, like retail and hospitality, or sectors with lengthy sales cycles and payment timelines, such as construction, manufacturing and professional services.

How does a working capital line of credit work?

A working capital line of credit is a type of revolving credit. Unlike most business loans, where you get a lump sum, this financing solution lets you borrow money on-demand up to a set credit limit and timeframe – a bit like a business credit card – to meet financial commitments, boost stock levels or bridge cash flow gaps.

Here is a brief overview of how a working capital line of credit works:

• Gain access to capital with a pre-agreed lender credit limit
• Draw down funds as and when required for various operational needs, and only pay interest on the amount used
• You can extend your working capital business line of credit for a new period – prompt repayments can encourage lenders to give you higher future credit limits and better terms
• Once you no longer need the remaining amount of credit, you can repay what you’ve used in full at no extra cost to prevent incurring unnecessary interest 

In practice, you might use the funds to pay suppliers and increase inventory (potentially in large bulk orders ahead of peak seasons) while waiting for client invoice payments to land from recent projects. This avoids damaging supplier relations or missed opportunities due to money trapped in assets yet to be converted into cash.

Benefits of a working capital line of credit

When used well, lines of credit are a cost-effective financing option to support your business in peak seasons, periods of financial downturn or when unexpected costs hit. 

According to a 2024 SME insights report from Dojo, nearly 30% of UK business owners have less than 4 months of cash left in reserve – no wonder small businesses are increasingly seeking working capital finance solutions.

Here are the key benefits of using a small business working capital line of credit:

Flexibility

Access the amount you need, when you need it, over a short period and enjoy flexible repayment terms, only paying interest on the credit you use.

Cash flow management

Lines of credit help support cash flow management. Use the financial boost to address cash flow gaps and cover operational expenses in tricky times.

Fast access to funds

Most business finance providers provide quick approval decisions to help you grasp time-sensitive business revenue opportunities, meet seasonal demands and avoid risks of missed payment or impact on business continuity.

Cost-efficiency

Only paying interest on the funds you draw down within your credit limit and not needing to pay any early repayment fees reduces unnecessary costs compared to more inflexible, fixed-term loans.

How does a working capital line of credit compare with other business finance options?

So, how does a working capital line of credit compare to other relevant business finance options? We’ve created a side-by-side comparison of key features and suitability factors:

Quick-glance working capital finance solution comparison

Business line of credit vs working capital loan

Business lines of credit and working capital loans provide small businesses with vital cash injections but, while a line of credit offers flexible, revolving funds for recurring or short-term needs, working capital loans provide a lump sum to be repaid in instalments over a longer period. Although these loans may get you higher limits and lower rates, lines of credit can prove a more cost-efficient short-term option.

Is a working capital line of credit right for your business?

You can apply for a working capital line of credit via banks, credit unions or alternative business finance providers. To determine whether it’s the right option for you, consider your financial health, credit score and operational requirements. Align potential agreements with your financial goals and cash flow needs.

Providers typically look at your credit rating, annual revenue, time in operation and other financial considerations. Plus, for a secured line of credit, you’ll need to put up collateral as security. With an unsecured business line of credit, you don’t, but you’ll likely get lower credit limits and higher interest fees, as lenders take on greater risks.

What you’ll use the credit for and why is also important. Let’s look at a few common business use cases for working capital lines of credit:

Top working capital line of credit use cases to consider

• Covering operational costs – a line of credit can be drawn down when required to ensure you have available funds for expenses like rent, utilities, salaries or supplies 
• Meeting seasonal demands – as demand peaks in key seasons for many industries, the funds can allow businesses to ramp up to maximise success
• Upgrading equipment and enhancing technology – access to capital for investing in key business assets and modernising systems helps SMEs remain competitive in tough marketplaces
• Managing cash flow – many companies suffer from fluctuating cash flow, due to various industry and economic factors, so having a flexible line of credit to call upon is ideal for navigating difficult periods

Funding your working capital needs with iwoca

Using finance solutions like lines of credit to increase working capital is a timely and recurring source of funds that alleviates financial pressure and boosts operational efficiency, especially for companies in industries subject to cash flow fluctuations.

iwoca provides working capital finance solutions that strike a good balance between business loans and lines of credit. Our short-term funding solutions are fast, flexible and tailored to small business needs. Like with a line of credit, we only charge interest on funds used, plus you can make fee-free early repayments. 

Our popular Flexi-Loan solution was designed specifically to help SMEs manage working capital and accelerate growth. Apply online in minutes and get approved within 24 hours. You can borrow between £1,000 and £1,000,000, depending on your circumstances, for as little as a day, right up to 60 months.

Discover our flexible loans and keep your business moving in the right direction.

Working capital line of credit FAQs

What businesses are eligible for a working capital line of credit?

Eligibility depends on factors like creditworthiness, recent revenue and trading history, and your chances of approval are down to each lender’s risk models and requirements. For start-ups, owners’ personal credit scores will be assessed

How can I apply for a line of credit?

You can apply online via various banks and private lenders with most operating a smooth application process. However, to apply in one sitting, you should have your key business and financial details at hand.

When applying, you may be asked to provide the following:

• Basic information about you, your business and any other owners, for verification purposes
• Bank statements, tax returns and other financial details, like balance sheets/cash flow statements
• Business (and in some cases, personal) credit reports
• The amount you want to borrow and how you intend to use the funds

What are the risks of using a working capital line of credit?

There are risks involved in any financing solution, so responsible debt management is crucial. The main risks to consider are over-borrowing, higher interest rates compared to secured loans and, like other finance agreements, missed payments, which can damage your credit score and chances of future borrowing. 

Sources:

• Working Capital Finance [iwoca Finance Explained Knowledge Base]
• SME Insights Report: How UK Businesses Are Managing Their Finances [Dojo]
• Working Capital Line of Credit: What It Is and Best Options [NerdWallet]
• Working Capital Finance Options [British Business Bank]
• Business Lines of Credit (What You Need to Know) [Taxoo]

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