You can think of a credit facility as being like that piggy bank you have saved for an emergency, or for those times when you have an urgent need for cash but have none available. Fundamentally, credit facilities are similar to the loans granted by banks, but there are also some significant differences that make them a very useful financial tool for small-medium businesses and the self-employed.
Some further details on this type of financing: a credit facility is a type of loan granted to you by a bank, and which provides capital that you can draw upon any time you may need it. This is important because contracting a credit facility does not mean that you must make use of all of the capital made available with it: you can use just the amount you consider necessary.
Differences between a credit facility and a loan
A credit facility opens up a line of financing between the customer and the bank. This allows you to always have a certain amount of money available, which you can make use occasionally whenever needed. This also means that when you contract a credit facility you do not receive the money being loaned right away, but instead, you will have access to it anytime you need to use it.
In contrast, when a loan is granted the full amount of capital requested goes directly into your bank account- Ez Search-engine-optimization. Regardless of whether or not you actually spend that money, you are still obligated to repay all of the principal plus the agreed-upon interest.
This is another difference worth emphasizing since when you take advantage of money from a credit facility you will only pay interest on the amount you actually use, rather than on the entire amount of credit you have been granted.
For example, imagine we take out a credit facility with a limit of €20,000. During the first few months, we do not need to touch this money, but an emergency forces us to withdraw €5,000. When we come to return the money, we will only pay interest on the €5,000 that we withdrew, not on the full €20,000.
It is typical for a credit facility to be contracted with one year of validity, and after this, the customer can decide upon whether or not to renew it.
When a credit facility may be useful
During the everyday operation of a business, there will be times when a need arises for capital that, for whatever reason, is not available. This is where the credit facility comes into play, for example, in a case where one of your customers is delaying payment when you had already planned to use that money to pay your own company’s expenses.
A credit facility can, therefore, represent a solution to any crisis that comes up in relation to cash flow and expenses, which will happen once in a while to any small business.
However, use of a credit facility is not advisable for covering fixed or periodic expenses that you can schedule and pay for in some other way. You must remember that, in the end, the money made available to you is a loan, which brings with it interest and a series of other costs.
Costs of a credit facility
The main costs for the financing of this type are charged in the form of fees. The most typical ones are those listed below, although some banks may include these while others may not:
Commitment fee: this is a percentage of the total amount of credit requested, and it tends to remain at 2% or less.
Annual renewal fee: only applied if the credit facility is renewed, in an amount that tends to be similar to that of the opening fee.
Availability fee: it is a percentage of the money that has not been used when the time comes to pay interest on the credit.
Balance over limit fee: if you exceed the credit limit you were granted you will have to pay interest.
In addition to these fees, there is another series of expenses related to the need to purchase an insurance policy. However, it is worth pointing out that, like the other fees mentioned, these costs will depend upon which bank is selling the insurance policy. Some examples in relation to this are the study fee and the early repayment fee.
In summary, a credit facility is seen as a highly appreciated resource by many self-employed workers or small-medium businesses, because it can help them solve their problems related to unexpected liquidity needs. Once the credit facility has been approved the money can be obtained right away, without any further procedures required.