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A business line of credit vs a business overdraft
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When it comes to external funding, choosing the right option for your business can prove difficult. There are plenty of options on the market that’ll help you with everything from bridging the gap between sending an invoice and getting paid, to funding your expansion and increasing your digital capabilities. In this blog post, we’ll explain how a business line of credit is similar to a business overdraft. Then more importantly, we’ll highlight the 4 main differences.
Table of contents
- Key definitions
- 4 similarities between a business line of credit and a business overdraft
- 4 differences between a business line of credit and a business overdraft
- Achieve your growth goals with Tide Credit Line 🚀
- Wrapping up
Key definitions
A business line of credit is a pre-arranged amount of money that you can borrow from in parts or in full. As you repay the funds you use, they will become available for you to borrow once again. This process can repeat for as long as your business line of credit is active.
A business overdraft is attached to your bank account, and it allows you to spend beyond your bank account’s balance if needed. Then, you’ll repay any funds you use.
4 similarities between a business line of credit and a business overdraft
Similarity: You only pay interest on the amount you borrow
Business lines of credit and overdrafts are both flexible in that you only pay interest on the funds you use out of your total agreed limit. This is unlike a business loan for example, because you pay interest on the total amount of a loan no matter how much you use.
Similarity: You can dip in and out of a pre-defined limit
You’re given a pre-determined spending limit with a business line of credit and a business overdraft. As you use some of the funds and pay them back, the funds will then become available to you again. This goes for both options.
Similarity: You may pay a fee to keep the facility active
Some lenders or account providers may charge you a monthly or annual fee to use an overdraft. Similarly, you might have to pay a subscription fee to keep a business line of credit open and available for you to use.
Similarity: They can be terminated if you don’t make your repayments
As with any type of credit facility, it’s important that you make your repayments on time and in full. Not doing so could negatively affect your credit score and cause your lender to close your business line of credit or overdraft. This could cause any outstanding payments to become immediately due, meaning you’ll have to repay any funds you’ve withdrawn quicker than you may have planned.
4 differences between a business line of credit and a business overdraft
Difference: The type of interest rate usually differs between the two options
Variable interest rates change over time, usually in line with the UK economy and the Bank of England base interest rate (also known as Bank Rate). Your periodic repayments on your overdraft could increase if the interest rate changes.
The interest rate on a business line of credit is usually fixed. That means it should stay the same whilst you’re using it.
Difference: A business line of credit is pre-agreed, an overdraft may not be
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If your business bank or account provider hasn’t agreed to give you an overdraft, you may have an unauthorised overdraft attached to your account instead. If you spend from this, you’ll likely have to pay an additional fee. It’s usually the same case if you spend beyond the limit of an overdraft that has been arranged with your bank.
A business line of credit has to be authorised by both you and the lender, once you’ve applied for it. Some lenders, like us, may even pre-approve you for a line of credit so there’s no need for a lengthy application.
Difference: A business line of credit is separate from your bank account, unlike an overdraft
When you try to spend more than what’s in your bank account and the transaction still goes through, it could mean you’ve gone into either an unauthorised or authorised overdraft. You can only go into your overdraft once you’ve used up all the money in your account.
A business line of credit is separate from your bank account and balance. So, it can be used whether you have money in the bank or not.
Difference: One option may be better than the other, depending on your needs
To avoid being charged the extra fees that can come with overdrafts, many small business owners only choose to use them when they’re really in a pinch. This may be to fund a short-term gap in income or to pay off an unexpected expense.
Business lines of credit are useful as part of a wider, long-term funding plan. Whilst they can be used as a buffer whilst you’re waiting for accounts receivable to come in, a business line of credit can also be a good choice to finance your growth plans. Think investing in a new marketing campaign, upgrading equipment or buying inventory in bulk.
Achieve your growth goals with Tide Credit Line 🚀
Decided on a business line of credit? Tide Credit Line could be the right choice for you.
- No application required: We run daily eligibility checks and pre-approve you once you meet the criteria
- Costs made clear: We’ll show you the full amount we’re offering you, the annual interest rate and the subscription fee before you activate your Credit Line
- Instant activation: We’ll run a soft credit and director check when you activate your Credit Line. Neither your business nor personal credit score will be affected
- Flexibility: View the amount you’ve borrowed and your repayment schedule in your Tide app. You can deactivate your Credit Line at any time if it’s not needed, then reactivate it when it is (as long as you still meet the eligibility criteria)
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![Fund your working capital and build your credit score with Credit Line. Activate your pre-approved line of credit. Use the funds you need when you need it. Check eligibility.](https://web.uploads.tide.co/2022/05/13120359/Credit-Line-Large-Banner-Mobile.png)
If you’re eligible, tap More > Cashflow Insights > Solutions > Credit Line in your Tide app to view your pre-approved offer.
Wrapping up
When deciding between getting an overdraft or a business line of credit, the best option depends on what you’ll be spending the funding on. If your needs go beyond just covering unexpected expenses, then a business line of credit may be more suitable for your growth plan.
Learn about the different types of loans to get your business running, Start Up Loans and how to get your business ready for the application process in our Masterclass: How to secure the right funding to get your business off the ground with British Business Bank.