Imagine you run a small business, and a large client unexpectedly places an order worth ₹10 lakhs. You need ₹3 lakhs upfront to buy materials, but your current funds are tied up in other expenses. You consider two options: take a ₹3-lakh line of credit or a ₹10-lakh traditional loan.

With a line of credit, you borrow only ₹3 lakhs and pay interest on that amount, say at 12%. That’s ₹36,000 in interest annually, or just ₹3,000 per month. With a traditional loan, you’d likely borrow the full ₹10 lakhs, paying ₹1.2 lakhs in annual interest even if you don’t need the entire amount right away!

In fact, a World Bank report highlights that SMEs contribute up to 40% of GDP in emerging economies, with many relying on flexible funding options like lines of credit. 

What Is a Line of Credit?

A line of credit (LOC) acts as a financial cushion. Think of it like a credit card for your business. You get access to a fixed credit limit—let’s say ₹15 lakhs. You withdraw as needed, repay it, and borrow again. Interest is only charged on the amount you use.

Here’s an example:

Clearly, a line of credit ensures you save on unnecessary interest while keeping funds ready for future use.

Understanding Traditional Business Loans

Traditional loans are fixed-term commitments. They work best for long-term projects like buying equipment or real estate. You get the full loan amount upfront and repay it in fixed EMIs, regardless of your immediate needs.

For instance, if you take a ₹10-lakh loan for 3 years at 14%, your EMI will be ₹34,230. That’s ₹12,32,280 repaid in total. Compare this to using ₹10 lakhs from a line of credit at 12% interest, and repaying in 12 months. You’d pay ₹11,20,000 in total—a saving of ₹1,12,280!

However, loans come with strict terms. Miss an EMI, and penalties apply. You may also face difficulties in securing approvals for small, short-term amounts.

Key Benefits of Line of Credit Over Traditional Loans

• Flexibility in Usage
  • With an LOC, you borrow only what you need. This avoids over-borrowing.
  • Example: Need ₹2 lakhs for staff salaries during off-seasons? Withdraw just that, and repay when business picks up.
• Cost-Effective
  • Interest is charged only on the utilised amount.
  • For instance, ₹5 lakhs at 12% for 6 months costs just ₹30,000 in interest. A traditional loan with the same tenure costs much more due to fixed EMIs.
• Quick Approvals
  • LOCs typically have simpler requirements. Most banks in India approve limits up to ₹25 lakhs for SMEs in under 7 days.
• Boosts Cash Flow
  • Perfect for seasonal businesses like wedding planning or retail stores. Borrow during peak demand and repay post-revenue.
• Improves Credit Score
  • Regular repayments on LOC boost your credit history. This increases chances of securing higher credit limits or loans later.

How to Choose the Right Financing Option for Your Business

• Analyse Costs: Calculate total interest and repayment terms.
• Assess Needs: Borrow for immediate or recurring expenses. For one-time investments, loans might work better.
• Consult Experts: Speak to your banker or financial advisor.

Conclusion

A line of credit isn’t just a financial tool; it’s a lifeline for businesses that value flexibility. Unlike traditional business loans, LOCs adapt to your needs, ensuring you pay for only what you use.

Here’s a question: Would you rather pay for ₹10 lakhs you don’t need or ₹5 lakhs you do? A line of credit makes the smarter choice clear.

FAQs

1. What is the maximum limit for a line of credit in India?
   • Limits typically range from ₹5 lakhs to ₹50 lakhs, depending on business size and creditworthiness.
2. Can I use a line of credit for personal expenses?
   • No, business LOCs are strictly for operational or business-related expenses.
3. What’s the difference between a line of credit and a loan?
   • LOCs offer flexibility and interest-on-use. Loans provide a lump sum with fixed EMIs.
4. Does using a line of credit affect my credit score?
   • Yes, responsible usage improves your credit history and score over time.