Bank Line of Credit

A bank line of credit is an arrangement between a bank and a business that allows the business to borrow a predetermined, capped amount of money from the bank with a minimum payment due on a monthly basis. A bank line of credit is set up much like a credit card, except that it typically must be paid back in full once a year.

Advantages of Bank Line of Credit

Ease of Use

One advantage of using your bank line of credit to purchase equipment is ease of use. If you already have a bank line of credit in place and enough credit is available, then using your line of credit to buy a new piece of equipment is as easy as writing a check. You won’t have to worry about an approval process, a UCC filing, and all the other additional documentation required to finalize the equipment purchase. This process is very easy.

Lower Interest Rate

Another advantage of using your bank line of credit has to do with your overall interest expenses that you will pay for that piece of equipment. Depending on how your line is structured, you may have a much lower rate of interest than that you can receive from any other type of financing. For example, if your interest rate on the line of credit is tied to the prime rate, and your spread above prime is one percentage point (prime +1), if prime is at 3.25%, then your rate of interest is 4.25%. This is a very low rate for financing, and it will be difficult for any other long term financing options to compete. Generally speaking, short-term interest rates will be lower than long-term interest rates. So the temptation to want to use your line of credit will always be there.

No Pre-Payment Penalty

As you most likely already know, you can pay back your line of credit as much as you please, as long as it is enough to cover the minimum payment. So in the case that you intend to pay down your line of credit very aggressively, you can wipe off your debt much quicker, without any penalty. This allows you to pay much less in overall interest expenses. Any alternative long-term fixed rate financing will most likely have a pre-payment penalty clause in place should you choose to pay your debt back sooner than scheduled. If you know a large sum of money is just around the corner, it may behoove you to use your line of credit.

Disadvantages of Bank Line of Credit

Financing equipment on your line of credit has the following disadvantages: Mis-matching your financing, missing out on potentially larger tax benefits, and dealing with a floating interest rate.