What a Line of Credit Actually Does for a Small Business

You've got $40,000 in outstanding invoices. Your biggest client always pays, just never on time. Meanwhile, a supplier wants $18,000 by Friday or you lose the early-payment discount. The money's coming in. It's just not here yet.

That gap between money owed and money needed is where most cash flow problems live. And it's exactly where a business line of credit earns its keep.

How a line of credit works (and how it's different from a loan)

A line of credit is a pre-approved borrowing limit you can draw from whenever you need it. You only pay interest on the amount you've drawn, not the full limit. When you repay what you've used, the funds become available again.

Think of it as a financial buffer rather than a lump sum. A term loan gives you $50,000 on day one and you start paying interest immediately. A $50,000 line of credit sits there until you need it. Draw $12,000 to cover a slow week, repay it when a client pays, and your interest cost is minimal.

How minimal? At 8%, drawing $15,000 for three weeks costs you roughly $70 in interest. That's it. The cost of having cash exactly when you need it, without touching your reserves.

"Why not just use my bank overdraft?"

Most business owners' first instinct is to ask their bank for an overdraft. Overdrafts work, but they come with trade-offs.

A bank overdraft is tied to your transaction account and typically has a lower limit (often $10,000 to $50,000 for SMEs). Rates tend to run higher, commonly 10% to 15% from the major banks, and the facility can be reviewed or reduced at the bank's discretion, sometimes with little notice.

A standalone line of credit usually offers higher limits, more competitive rates (from around 7% to 8% secured, higher for unsecured), and a fixed facility term so you know exactly how long you have access. The trade-off is a separate application process and potentially a more thorough credit assessment upfront.

For small, occasional cash flow gaps, an overdraft might be enough. For anything beyond that, a dedicated line of credit gives you more control.

Four scenarios where a line of credit pays for itself

1. Bridging the invoice gap

Late payments cost Australian SMEs roughly $2,400 per month on average, and one in four small businesses say late payments are a significant threat to their survival. A line of credit turns a 30 or 60-day wait into a non-event. You draw what you need, cover wages or suppliers, and repay when the invoice clears.

On a $20,000 draw repaid in four weeks at 8%, the interest cost is about $120. Compare that to losing an early-payment supplier discount, delaying your own deliveries, or turning down a job because you can't fund the materials.

2. Smoothing seasonal dips

If your revenue drops predictably (construction in the wet season, tourism in winter, retail between Easter and June), a line of credit keeps the business running without touching your reserves.

You draw during the quiet months and repay during the busy ones. The alternative is either keeping months of cash sitting idle in a transaction account earning nothing, or scrambling for a term loan every time the dip hits.

3. Covering an unexpected cost

The work truck needs a new engine. The cool room breaks down on a Friday night. A key piece of equipment fails mid-project. These things don't wait for a good month.

A line of credit means you handle it immediately. No new loan application. No waiting for approval. The facility is already in place.

4. Jumping on an opportunity with a deadline

A supplier offers 10% off if you order by the end of the week. A competitor closes and their client list is available. A bulk materials deal comes up that would save thousands on your next three jobs.

These windows are short. A line of credit gives you the speed to act and the flexibility to repay once the return comes through.

What it costs

Beyond the interest rate on drawn funds, most lenders charge a facility fee on your full approved limit, whether you draw or not. On a $50,000 facility, expect roughly $50 to $150 per month depending on the lender. That's your cost of having access.

The key numbers to compare:

• Interest rate on drawn funds (variable is standard)
• Facility fee on the approved limit (monthly, quarterly, or annual, often 0.5% to 2% per annum of the limit)
• Minimum repayment terms (some require monthly minimums, others are fully flexible)
• Security requirements (secured facilities get lower rates but require property or business assets as collateral)

When a line of credit is the wrong tool

A LOC isn't always the answer. If you're drawing the full limit and never repaying, you've effectively taken out a very expensive term loan. The value comes from the cycle of draw and repay.

Use a term loan instead if you need a fixed amount for a specific purpose (buying equipment, fitting out a new site, hiring). Term loans have lower rates because the lender can plan around a fixed repayment schedule.

Consider invoice finance if late-paying debtors are the core problem and you want to address the cause directly. Invoice finance advances a percentage of each invoice upfront, so the facility grows with your revenue.

Build a cash reserve first if your gaps are small and predictable. If you only need $5,000 to bridge a quiet week twice a year, the discipline of setting aside cash each month may cost less than a facility fee.

How lenders assess a LOC differently

Worth knowing: lenders don't assess a line of credit the same way they assess a term loan. With a term loan, they're underwriting a fixed repayment schedule. With a LOC, they're underwriting your ability to manage revolving debt, which means they put more weight on your cash flow consistency and account conduct (how your transaction account moves day to day) than on a single profit figure.

Businesses with lumpy but reliable revenue often do better on LOC applications than they expect. The key is showing the pattern: money comes in, money goes out, and the cycle is healthy.

What to do next

Map your cash flow gaps from the last 12 months. When did money get tight? How long did the gaps last? How much did you need? That gives you a realistic facility size.

Then compare at least three options. Check the total annual cost including facility fees, not just the interest rate. A lower rate with a $150/month facility fee can cost more than a slightly higher rate with no fee, especially if you only draw occasionally.

Emu Money's specialists can compare line of credit options across 50+ lenders and help you find the right fit for your cash flow. Explore line of credit options.