Secured vs Unsecured Lines of Credit for Small Business

When it comes to financing your small business, the market has plenty of options to offer: short term loans, business term loans, SBA loans, merchant cash advances, equipment financing, credit cards, business lines of credit, and more.

However, there's also the question of secured and unsecured small business loans. Each has its own advantages and disadvantages, so if you're considering getting a business line of credit, that should be one of your first considerations: secured, or unsecured?

Below, we'll discuss the key differences between a secured and unsecured line of credit, walk you through a few scenarios where each might be most appropriate, and explain everything you need to know before choosing the right line of credit for your small business.

What's the Difference Between a Secured and Unsecured Line of Credit?

A business line of credit is a revolving loan that you can use for practically any business expense. Once you repay the portion you borrowed, you regain access to that credit (just like a credit card). Your line of credit has a maximum borrowing limit, but no set expiration date, meaning you can use it again and again to finance your business needs.

You can find both secured and unsecured lines of credit throughout the market, and it's important to note that the two are almost identical, except for how the borrower guarantees them.

A secured line of credit is guaranteed by collateral, such as a car or home, while an unsecured line of credit is not guaranteed by any personal asset. 

With a secured line of credit, your lender will ask for collateral. If you default on your payment, then the lender will legally be able to seize your listed belongs to liquidate them and pay for the loan. 

This collateral gives lenders more confidence in your business since they have an extra guarantee they'll be able to make money on their investment. Lower risk means higher credit limits and lower interest rates, which translates to more affordable financing.

With an unsecured line of credit, lenders waive the collateral requirement; however, since they're exposing themselves to greater risk, lenders often offer lower credit limits with higher interest rates. 

It's also worth noting that lenders want to be sure you won't default on your loan, so they'll often require higher credit scores, consistent revenue, and a well-proven reputation. 

When to Get an Unsecured Line of Credit

An unsecured line of credit might be your best option if you're a new business with little to no assets on the books, or if you don't want to risk your personal assets. However, keep in mind that less risk for you often means more risk for the lender-and more risk for lenders often means stricter requirements and higher interest rates.

If your business has a track record of two or more years (with six-figure annual earnings), then you'll likely qualify for an unsecured line of credit. While lenders do their due diligence in reviewing your application, your side of the process is a lot easier-this accelerates the overall lending process by decreasing the typical back-and-forth collateral negotiations.

You won't be able to afford to finance larger projects with an unsecured line of credit, but it's a great funding option for smaller expenses. If you need to cover day-to-day costs or boost your cash flow, an unsecured line of credit may be your best option.

When to Get a Secured Line of Credit

If you're confident in your business' performance and are willing to take the risk, then a secured line of credit might be the more appropriate financing option. Secured lines of credit come with higher credit limits, lower interest rates, and more lenient repayment terms. Remember, you'll be risking your business's assets (and possibly your personal assets, too), but you'll be making a more cost-efficient decision for your business. 

Since secured loans come with larger dollar amounts, they're almost always the stronger choice when you need to finance a more substantial project. For example, if you needed to buy expensive equipment or finance extensive renovations, you'll likely need a bigger loan.

Plus, businesses that take out lines of credit often need longer repayment terms with bigger loans in order to make the monthly payments more affordable. A secured line of credit will likely provide you with more generous repayment terms, allowing you to cover your financing without hurting your cash flow.

However, things can always go wrong. If disaster strikes and you're unable to pay back your line of credit, your business could land in serious danger. Your lender may seize and liquidate all your essential assets, effectively putting you out of business.

Bottom Line

Ultimately, there's no "better" option when it comes to Unsecured versus Secured lines of credit. Each can be highly beneficial to different businesses at various stages in their life.

If you want to mitigate risk to your assets, then go with an unsecured line of credit-however, be prepared for higher interest rates and lower lending amounts. If you're not worried about putting your assets on the line, go with a secured line of credit-you'll get access to larger lending amounts and lower interest rates.