Should You Apply for a Secured or Unsecured Line of Credit?

A line of credit is something every business should get if possible. It’s hard to beat the excellent combination of speed, convenience, cost, and capabilities of credit lines. You can get the sizable financing of a loan but without the need to pay interest constantly or use the funds for only certain things.

Before applying, there’s one main factor you need to consider: whether secured or unsecured lines of credit are better. Like so many things in business, the answer varies depending on your goals and circumstances. This guide can help you analyze the pros and cons of each option.

Secured Versus Unsecured Lines of Credit

A secured line of credit is backed by some type of business asset. If your company has been in business for a while, you can likely use inventory, real estate, or equipment as collateral for the credit line. There are several advantages to choosing this option:

  • Easier credit score requirements for qualification
  • Larger credit limits
  • Lower interest rates

Generally speaking, lenders are more comfortable extending secured lines of credit because they don’t take on as much risk. Your company benefits from fewer restrictions and better terms.

That said, there’s always a level of risk for business owners when using collateral to secure credit. If you don’t pay, you can lose the asset. The amount of risk depends on your company’s cash flow and revenue.

For example, if you have strong revenue and merely need to use the line of credit to improve your cash flow, then there’s probably little risk of defaulting on debts. On the other hand, for businesses where every project is like rolling the dice, such as construction companies or real estate businesses, you may not want to risk essential business equipment.

The Advantages of Unsecured Lines of Credit

With unsecured credit lines, you don’t need to worry about your company’s assets. They’re safe. Instead, the credit limit is based on your company’s credit score. You can still use the funds however you think is best, just like a secured credit line.

Not having to risk collateral is a big benefit for business owners. In exchange, you may need to accept a higher interest rate or a smaller funding amount. If you only use the line of credit for operating expenses and seasonal needs, these may be sufficient. For large inventory purchases, you should consider the total spending cap so you have the funds necessary.