What's Better for your business? - Loans vs Lines of Credit EXPLAINED

well hello everyone welcome back to the Clara CFO group Channel and if you've been here for a while you might recognize that I'm in a different space I am super excited to be in my new office so I actually have rented out an office space I've built out a little bit more behind me so if you're new here go back and look at our old videos and you'll see that there was a slightly different or way different background but I'm still kind of filling in some spaces but I can say I'm really excited to be here and to be in this new space that is going to be dedicated for recording hopefully I will get a lot more videos out to you guys with this dedicated space so very very excited about that but that's not what this video is about this video is actually about loans and revolving lines of credit whew it might be more fun to talk about my office but I also got an office puppy so if you haven't seen that on the shorts YouTube shorts go and check that out he's adorable and he will make his debut on here on one of our longer form videos at some point in time but let's go ahead and talk about debt instruments and loans and lines of credit because that's pretty fun too alright let's go ahead and talk if you have been running your business for a while you might have been run into a scenario where you might need to use some type of debt to keep your business running and to keep it flowing and you know this happens all the time there are very very few businesses that never need to touch any kind of debt so I actually think that debt can be used as a great way to propel your business forward that's what they call leverage when you use debt to get you to a better place so I want you guys to understand when you might want to use a loan and when you might want to use a line of credit and as you're trying to decide what to do in your business this video hopefully will help you explain those things so if you're not already subscribed to the channel I would love to have you here we've got lots more content coming your way and this is just another example of something that we're trying to help you figure out how to run your business better and be more financially successful in the long run that's what this channel is for so if that sounds good I'd love to have you as a subscriber so I think the first thing that we will start with is just talking about what is alone and then we'll talk about what is a line of credit and then we're going to go through kind of some key components and differences of those and then when you would use each one all right so what is a loan a loan is kind of one of the more traditional debt instruments and when I say debt instruments it's just kind of a way that you can use debt through like a bank or some type of lending agency so we probably all have some experience with loans especially on our personal side of our finances so you might have a mortgage that would be a traditional loan you might have a car loan another traditional loan so loans are when you get money to buy something or you might just get the cash into your business and it's a set amount so you get all of it up front there can be loans that you kind of break down over time but for the we're going to talk about really traditional loans right now so you get the money a set amount and you have to pay it back in a set term and you have a set payment every single month and then you have an interest rate on that money so you borrow the full amount and then you pay it back in installments over time and that's almost always on a monthly installment so with that you get that lump sum up front and you're paying back over time with each payment there's going to be a principal and an interest portion so every time you pay so maybe your payment is a thousand dollars and there might be 95 of that going to principal and the other remainder of that could potentially be interest when you first start out okay so as you as the loan progresses it will change how much is going to principle and how much is going to interest let's define principal real quick just to make sure that everybody's on the same page here so when I say principal that means the amount of money that you actually borrowed so if you took a loan out for fifty thousand dollars your principal would be fifty thousand dollars and then as you pay and you make your payments you're going to be kind of paying back a little bit of principal every time so so the amount you owe goes down a little bit every time okay so I do want to hop in and talk to you guys about amortization schedules so if you have a loan you're going to have an amortization schedule an amortization schedule is a very fancy word for showing you exactly each month what is interest what's principal and what's left over what's interest for its principal what's left over okay so we're going to hop into a screen share here real quick and I'm just going to show you what that looks like and you can actually hop onto this website if you want to and plug numbers in if you don't have an amortization schedule you can use this it's very simple and I can show it to you okay I just went to bankrate.com to get just a really basic amortization schedule and so the 50 000 example I told you about I'm just going to plug that in here so we're taking a loan for fifty thousand dollars loan term is 10 years interest rate is seven percent and we're going to start this next month or this current month when I plug all this information in it runs a calculation for me on what my monthly payment would be what the interest at the end of the loan how much interest has been paid and then the total cost of the loan means the principal plus the interest and then I can show you guys this is basically a simplified amortization schedule right here where it says every month how much is going to principal how much is going to interest and what's the remaining balance and and I always like to show you guys too here's the here's the CSV file of it so you can see this is what a lot of amortization schedules look like they're going to be done in Excel or you might have the ability to pull them into Excel because all the formulas work nicely but what it'll tell you is just what the payment is that breakdown and then what the balance is so if you don't have an amortization schedule for a loan you do want to try to contact your bank and figure out if you can get one because it's really helpful especially when we're trying to keep accurate records on our financials and you're paying back a loan you want to make sure that you get that interest in that principle split out okay so that's a classic loan let's talk now about a line of credit and I'm specifically talking about you'll hear the term revolving line of credit so that's what we're going to be talking about here because I see that being used most often for businesses a line of credit is a way as another debt instrument that you can use to access money so you will need to go to a bank just like you would for a loan and you'll need to request a line of credit so when you get a line of credit what this means is that the bank is going to basically give you access to a certain amount of money they're going to give you you know let's say it's fifty thousand dollars again they're going to say okay you have now have a line of credit for fifty thousand dollars once you're approved and what that is is it's it's a pot of money sitting there that you can draw on and when you borrow from it that's called drawing on your line of credit so you can use it as you need it unlike a loan where you get all the money up front and it's like in your bank account a line of credit is like kind of a safety net almost of you know maybe you don't need the money right now but you might need to borrow a little bit of it in the future let's say to cover payroll maybe an invoice hasn't come in that was supposed to cover payroll and you need to make sure your people are paid a line of credit is a really great instrument for that because you can borrow let's say ten thousand dollars from it pay your people and then when that invoice comes in you can repay the line of credit so it's pretty different from that loan structure that you get the money up front and you're paying back over time and very like easy installments with a line of credit you can borrow and pay back and borrow and pay back so that's kind of why they call it like that revolving line of credit so unlike a loan let's say it was a hundred thousand dollar loan and you have paid off fifty thousand dollars of it you can't then go back to the bank and say Hey I want to borrow again that extra 50 000 that I have kind of paid down now if you want to do that you need a line of credit so a line of credit will allow you to kind of have that use it and pay it back use it and pay it back one really important thing to note with that is that you're only paying an interest on the money that you're borrowing for the term that you borrow it for so unlike a loan again where you're paying interest on that full amount because you get it all up front if you use ten thousand dollars for seven days you're only paying interest on the ten thousand dollars for those seven days okay so that's really important because you can think about using a line of credit very strategically and understand the exact cost of using that line to be able to let's say cover payroll or if you want to use some other kind of money that might be a little bit cheaper lines of credit you'll pay interest every month if you have like if you've actually borrowed some money you'll pay interest every month so your interest statement will come in or your bank statement or your statement on your line of credit will ask you to pay the interest that is owed on what you borrowed so with that it will just be a tiny portion and then you can pay back a big chunk or you can pay back in installments however you prefer to pay back the line of credit that's up to you okay now one really important thing to note about lines of credit is that the banks typically don't like you to use all the money that you've been allotted for a really long period of time without paying it back occasionally so they like to have the line of credit rest this is called letting the line of credit rest and that's where where you're not borrowing on the line of credit so that's why the lines of credit are really good for these short-term needs they're not great if you have a really big Capital project let's say that you're not going to have the cash to repay it anytime soon maybe you need to go loans and we'll talk about that in a minute you need to understand how much your bank likes you to have it rest and they see that as kind of like the bank sees that as you know healthy use of a line of credit is being able to be solvent enough have enough cash flow that you can borrow and then pay it back and borrow and pay it back because that's really what the purpose of that is is really just to help you with kind of some short-term cash Falls so or cash shortfalls now with a line of credit you're also going to pay an annual fee to be able to have access to this money so typically that's going to be somewhere around 500 a year this is not anything that's too huge but it's something to consider when you're trying to make a decision about what you need Okay so let's sum up the difference between loans and lines so with loans you get your money up front you have monthly payments of principal and interest your loans get repaid in a set term typically these are secured by something like a like if it's a car loan you have a car that's kind of securing it that's the collateral if you were to buy a building you'd have the building secure the mortgage on the building and if not you might have to get like a guarantee the owners might have to actually guarantee the loan because if you defaulted on the loan they want to know how they're going to get their money with loans you cannot borrow again after it's been repaid and you will have an amortization schedule so on the lines you can borrow the money as needed you can repay the money whenever you want monthly payments are going to still be made but they're going to be interest only there's no set term these can also be secured or unsecured it kind of depends on the size of the loan they will usually need to be guaranteed by something if the loan if the line is kind of high and then you need to let the line rest and that you will not have an amortization schedule for a line of credit when do you use one of these things versus the other I would say loans are really great when you have a longer term need for the cash and that your return on investment is going to be longer so let's say you buy a piece of equipment in your business and you're like hey this is going to help me sell more jobs that's going to help me be more efficient it's going to help us you know potentially be more profitable in the future a loan might make more sense for that especially if it's going to take a couple years to really see the fruits of that labor or the fruits of that investment actually come back so with that you might decide on maybe a three-year equipment loan something like that might make sense let's say you're also looking at expanding your business and you want to make a big investment and maybe buy maybe you want to buy another business for example you might want to get a loan for that because it might take a while for that business to start Purdue using the cash to be able to really pay off any significant amount of a loan but it's probably making enough business or making enough money or cash flowing enough to make the payments on the loan so a lot of times business transactions are done with a loan and it's really because of that longer term need for the payback okay so I think like when you think long term you're probably going to go with a loan if it's a short-term need for cash we're probably going to move more into the line of credit so lines of credit are really great for things like I mentioned earlier covering a payroll if you're waiting for invoices to come in another thing that they're really great for is if you are an inventory business and you are buying things ahead of time knowing that you need to be prepared to sell them in the future so we have some e-commerce clients for example and like you know the end of the years their big Seasons Q4 is their big selling season and they need to buy all the inventory and have it on hand in order to fulfill all those order and make their customers happy they can't wait for the customers to buy the money and then by the inventory that just won't make any sense so line of credit is perfect for that where you can buy everything you need have it on hand and you're going to turn that into cash within like a couple months and repay the line of credit and obviously you're going to have money left over because you've built profit into your business right that is a really awesome way to use a line of credit and I love every business to actually have access to a line of credit there's almost you might have loans but having access to a line of credit is something that I highly recommend all of my clients and it's really like even if you never ever ever have to use it it's nice to know that it's there okay it kind of gives you that like safety net feeling of like if something happened I would have the ability to draw on it and the last thing I'll say about lines of credit is that try to get them when you don't need them so when you have cash is a great time to go to the bank and ask for a line of credit and it's something again that you can you use a little bit and then pay it back the bank likes to see that you're using it at least occasionally hold it into your checking account and then pay it back but having a line of credit can be a huge Lifesaver in you know the unexpected so hopefully that answers a lot of questions for you guys if you have any questions specifically about loans or lines of credit let me know in the comment section below hopefully this is helpful to you all and um yeah also let me know let me know what you think about this okay I'm going to be working on it there's going to be some plants there's going to be some more stuff but I would love to hear your feedback so thank you so much for being here and I will talk to you later bye [Music] thank you

Channel: Clara CFO Group

Views: 19,750

Keywords: line of credit, business line of credit, revolving line of credit, loans vs. lines of credit, when to get a loan vs a line of credit, loans vs. lines, loans explained, lines of credit explained, understand loan, understand line of credit, how to get a line of credit, renew a line of credit, how to use line of credit, draw down on line of credit, repay line of credit, how to repay line of credit, debt instruments for small business, debt instruments explained, business loans

Id: cTyd13-MnwE

Length: 15min 9sec (909 seconds)

Published: Thu Jun 15 2023