April 11, 2022
Revolving vs. Non-Revolving Lines of Credit: How to Decide
In this post, we'll discuss two types of lines of credit: revolving and non-revolving. Both options serve different needs and have varying interest rates, limits, terms, and application requirements.
After reading this post, you'll be able to determine which option is right for your business.
What Are the Differences Between Revolving and Non-Revolving Lines of Credit?
Revolving Credit Definition
A revolving line of credit is like a credit card; once you sign a revolving credit agreement, you can spend up to the credit limit. If credit is available, you can continue making purchases, and if you don't use the approved amount of credit, the credit line doesn't expire or close. Each use of a revolving credit account is called a draw. Once the lender deposits the amount into your checking account, you can spend it on whatever expenses you like. Once a draw is complete, funds are available quickly, and you can make a draw and have the funds in your account within minutes. Each draw subtracts from available credit, limiting the draw amount until you repay the outstanding draw amounts. As you can see, this type of financing offers much flexibility and is beneficial if you need to fulfill cash flow shortages or make many small purchases over time.The following is an example of making several draws from a $10,000 line:
1/14 – $2000 (available credit $8000) 1/16 – $500 (available credit $7500) 1/20 – $1000 (available credit $6500) 1/25 + $200 (Monthly minimum payment. Available credit $6700) In this example, the recipient can draw down the credit line further after the 1/25 payment. The example is simple and doesn't show the impact of interest, reducing available credit. It's important to note that interest rates on revolving lines are higher on non-revolving lines of credit, but not as much as credit card interest rates. Interest rates are often variable. Most revolving credit line providers charge interest rates based on the prime rate plus an amount determined by the lender. As the prime rate goes up, your interest rate increases by a similar amount. As the prime rate decreases, so will your interest rate. In addition, the credit limit on a revolving line of credit will be smaller than a non-revolving line. Depending on your financing needs, this can mean limited access to capital.
Non-Revolving Line of Credit Definition:
Like a car loan or student loan, a non-revolving line of credit is a lump sum paid at once. For example, a business loan is a non-revolving line of credit. These types of lines have lower monthly payments than non-revolving lines of credit. Interest rates are low and usually fixed, so they won't fluctuate unless there's a unique condition in the loan terms. Like a revolving line of credit, you must complete an application to receive a non-revolving line of credit. The difference is that the account is closed once you pay off your outstanding amount. If you want to open another non-revolving line of credit, you must apply again. In addition, this means there will be additional inquiries on your credit report, which will impact your credit score. Therefore, it's worth noting that this can affect your credit history. If you require fast financing, a non-revolving line of credit might not be your best option. Since there is an application process involved with each new non-revolving credit line, you won't have quick access to funds. Non-revolving lines of credit are made in a lump sum, making them beneficial for businesses that need to make large purchases or are investing in something like an expansion project. One thing to note is that non-revolving lines of credit allow for better expenditure projections since you know exactly how much the loan will cost before you sign the papers, which isn't the case with revolving lines. In addition, some non-revolving lines of credit will include a prepayment penalty on their terms. Therefore, you must adhere to the amortized schedule and pay off the loan on the listed terms.