Revolving credit facility is a short term funding solution for business and it is one of the most useful types of business finance.
Here we will discuss what is revolving credit facility and how it could help you fund your business, the advantages and disadvantages of revolving credit finance.
What is a revolving credit facility?
Imagine an old-fashioned bank overdraft, but without a bank account — that’s essentially what a revolving credit facility is.
You’ll get a pre-agreed credit limit, which is the maximum amount you can have outstanding at any one time, and pay interest on whatever is outstanding.
Usually, you’ll have an online account where you can log in, see the status of your credit facility, and withdraw funds to whatever account you like.
Like an overdraft or credit card, you can manage the balance, perhaps paying back a certain portion and then ‘topping up’ later on with another withdrawal. In fact, some providers of revolving credit facilities offer them with a business credit card included.
Who are they designed for?
Revolving credit facilities are a short-term reserve of cash that you can dip into when you need. They wouldn’t necessarily be my first choice as a long-term source of funding for a specific project, but for cashflow gaps here and there they’re hard to beat.
With this in mind, revolving credit facilities are suitable for a wide range of businesses, and any firm that experiences an occasional need for short-term funding could benefit from having one set up.
The key advantage of revolving credit facilities is flexibility. There’s no need to tie yourself into a fixed-term agreement, but you know the money is there if you need it.
Many of the leading providers of revolving credit facilities use automated credit decisions and integrations with accounting software to make credit decisions almost instantly.
This means it’s often possible to set up your facility in a few minutes — which can make all the difference when you’re in a tough spot and need the money quickly.
Another key factor is that aside from any initial setup fees, you pay for what you use — so your facility can sit unused for months, but then be ready to go at a moment’s notice.
The annual interest rates for revolving credit facilities are quite high, but they can end up being cheaper than fixed loans in real terms because you’ll use them for a few months rather than 1–3 years.
The interest rate is only one factor that affects overall cost, and the timeframe and amount are just as important. In other words, if you’re using a revolving credit facility the way it is intended, you’ll usually pay less overall because the term will be that much shorter.
Unlike a fixed-term loan with set repayments, the cost of a revolving credit facility is really in your hands — because the total interest you repay will depend on how much you borrow, and how quickly you pay it back.
The main downside of revolving credit facilities is that your credit limit may not be as large as you’d like for bigger projects.
The credit limit generally won’t be more than about a month’s revenue, although this will vary from business to business depending on trading history and revenue performance.
Having said that, some of the lenders in this area will agree to credit limits of £100,000 or more — but you’ll only be eligible for an amount that large if your turnover can support it.
Finally, because revolving credit facilities are a form of unsecured lending, you’ll normally have to offer a personal guarantee.
While this shouldn’t be an issue if all goes to plan, it’s important to remember that if things do go wrong you’ll be liable to pay if your business can’t.
For this reason, it’s a good idea to seek professional advice before signing a personal guarantee agreement.