The temperature’s rising, but sadly, you don’t have any money to stock your ice cream truck. Winter is just around the corner, but unfortunately, you don’t have the funds to fill the shelves in your ski town gift shop. If you run a seasonal business, these scenarios are probably all too familiar to you. When the busy season arrives, you need to buy inventory, hire help, and pay for a load of other expenses, but when you haven’t collected any revenue yet, covering those costs can be next to impossible. That’s why a lot of seasonal business owners turn to revolving loans and lines of credit.
What Is a Revolving Loan?
A revolving loan is set up so you can use the funds, pay them back, and use them again, and these loans take their name from that revolving cycle. A credit card is a common example of this type of loan. You can spend up to your limit. Then, you can repay all or part of the loan. Finally, as needed, you can spend and repay the funds again and again.
What Are Examples of Revolving Loans?
Beyond credit cards, the most popular revolving loans are lines of credit. Overdraft lines of credit, for example, are connected to your bank account. When you write a cheque or use the debit card attached to your account, the bank draws the funds from that line of credit if you don’t have any funds available in your bank account. When you deposit money into your account, the line of credit gets covered, but you can spend it again as needed. Another popular revolving loan is a home equity line of credit. This works just like any other revolving line of credit, but the equity in your home backs up the loan.
What’s the Difference Between a Revolving Line of Credit and an Instalment Loan?
Generally, the opposite of a revolving loan is an instalment loan. With instalment loans, you can’t spend and pay down the loan like you can with revolving loans. Instead, you get a lump sum of money, and you make monthly payments. Called instalments, these payments tend to be the same amount every month, and they’re structured so you pay off the loan in a certain amount of time. For instance, car loans and mortgages are instalment loans.
Why Are Revolving Loans Ideal for Seasonal Business Owners?
As a seasonal business owner, you don’t have a steady revenue stream like most other business owners, and that can be hard to manage. Usually, when the busy season starts, you haven’t collected any revenue in months, but you need money to set up for the season. A revolving loan fills the gap. You can use the loan to fund your operations, and then, when the revenue starts pouring in, you can repay the loan. The following busy season, you can repeat the process, as long as the loan or line of credit is still open.
What Are the Benefits of a Revolving Line of Credit?
With a revolving loan, you don’t have to take advantage of the full amount, and that can save you money on interest. To explain, say you take out an instalment loan from a bank. Ultimately, you decide you don’t need most of the funds, but you still end up paying interest on the whole loan. In contrast, with a revolving line of credit, you can choose whether you want to use the funds, and you only incur interest on the funds you actually spend. With credit cards, in particular, you usually don’t pay any interest if you pay off the balance the same month you spend the funds. In addition, the payments are often a small percentage of the balance, so you don’t have to worry about making huge payments.
What Are the Disadvantages of a Revolving Line of Credit?
The major downfall with a revolving line of credit is you might not be able to pay down the loan, and then you won’t have access to the funds again when you need them. Because of that, if you decide to use a revolving line of credit for your seasonal business, you need to be diligent about paying it off.
Additionally, many lines of credit charge annual maintenance fees, so be sure to read the small print before deciding, and remember to pay attention to the interest rate. Credit cards are notorious for charging high interest rates, and many unsecured lines also have relatively high rates. On top of that, lenders often reserve the right to change the terms of the loan, which can make these loans slightly unpredictable. In most cases, lenders only change the interest rate or close the line of credit if you make a late payment or break other terms of the agreement.
What Are Alternatives to Revolving Loans?
Not sure that a revolving line of credit is right for you? Luckily, there are alternatives. The best option is to set aside funds at the end of the busy season so you’re financially ready for the next season. If possible, see if some of your vendors would be willing to extend longer credit terms. That way, you can stock the shelves and worry about the bills later.
If you just need a short-term loan, you may want to consider a working capital loan. Typically, you get those loans from private lenders, and you repay them with a percentage of your sales.
Handling cash flow is always a challenge, and in fact, cash flow woes are one of the main reasons small businesses shut their doors. This is even more challenging when you run a seasonal business, but a revolving line of credit may be the solution you need.