Quick answer
A business line of credit works best when it is sized to your real cash flow gap, drawn only for short-term needs that will repay themselves, and regularly repaid back towards zero. Watch for the balance staying fully drawn, which turns it into expensive permanent debt. Track line fees on unused limits, review the limit each year, and keep long-term purchases on separate finance.
Key points
- Size the limit to your deepest regular gap plus a buffer.
- Use it for short-term needs that repay themselves.
- A balance that never falls is a warning sign.
- Review the limit and fees at least once a year.
Checklist
- Limit sized from a cash flow forecast
- Clear rule for what the line is used for
- Balance returns towards zero regularly
- Line fees reviewed against usage
- Annual review diarised
A line of credit is one of the most useful tools a small business can hold, and one of the easiest to misuse. When it is used to bridge short gaps and repaid as cash arrives, it costs little and keeps the business moving. When it drifts into funding everything, it becomes an expensive, permanent debt with a review date hanging over it. The difference comes down to a handful of habits.
Habit 1: Size it from a forecast
Pick a limit based on your deepest regular gap, plus a buffer, not on the largest number a lender will approve. The cash flow gap calculator shows the lowest point your account reaches over six months. A limit far larger than you need costs more in line fees and invites drift.
Habit 2: Write down what it is for
Decide in advance what the line is used for: timing gaps between paying suppliers or wages and receiving customer payments, BAS quarters, seasonal stock, and genuine short-term emergencies. Write down what it is not for: vehicles, equipment, fit-outs, owner drawings or covering ongoing losses. Long-term needs belong on long-term finance; our equipment finance review explains why.
Habit 3: Bring it back towards zero
A healthy line of credit swings: it is drawn when money goes out and repaid when money comes in. If the balance has not fallen meaningfully in months, it has stopped revolving. That is the clearest sign something has changed, either in the business’s cash flow or in how the line is being used.
Habit 4: Watch the fees
| Cost | When it applies |
|---|---|
| Interest | On the amount drawn, usually daily |
| Line or facility fee | On the full limit, used or not |
| Establishment fee | At setup and sometimes at renewal |
| Review fee | At periodic reviews on some facilities |
| Over-limit or dishonour fees | When payments exceed the limit |
Compare annual fees with how much you actually used the line. If you rarely draw on a large limit, a smaller one may save money.
Habit 5: Review it every year
Facilities are usually reviewed, and the lender can change the limit. Get ahead of reviews: provide updated financials promptly, keep the account in good order and ask for a limit change before a busy season rather than during it. Re-run your forecast each year to check the limit still fits.
Habit 6: Keep it separate from personal spending
Using a business line for personal expenses blurs your records, can cause tax problems and makes the business’s cash flow harder to read for lenders and your accountant.
Warning signs of line-of-credit drift
- The balance sits at or near the limit for months.
- You draw on the line to make loan repayments elsewhere.
- You use the line to pay the ATO every quarter without the balance recovering.
- Your account dishonours payments despite the line.
If these sound familiar, consider moving the permanently drawn portion into a term loan with a clear repayment plan through working capital finance, so the line can return to its proper job.
Line of credit versus overdraft
Both are revolving. An overdraft sits inside your transaction account; a line of credit is usually a separate facility. Some businesses prefer the separation of a line because it makes borrowing visible. The habits above apply to both.
An illustrative example
A made-up joinery business sets up a line of credit sized to cover six weeks of materials and wages between progress claims. For two years it swings between zero and near the limit as jobs come and go. Then the owner starts using it for a new vehicle and a showroom refresh, and the balance stops falling. At review, the lender asks why. The owner moves the vehicle onto equipment finance and the showroom costs onto a small term loan, and the line goes back to swinging.
Tracking usage simply
A simple monthly note of the highest and lowest balance on the line, and the fees charged, tells you most of what you need to know. If the lowest balance keeps creeping upward, act before the next review.
When a line of credit is the wrong tool
For businesses whose gap is caused mainly by customers paying on long terms, invoice finance can grow with sales in a way a fixed limit cannot. For one-off purchases with a clear payback, a term loan is often cheaper and cleaner.
Setting internal rules if several people can draw
In businesses where a partner, manager or bookkeeper can draw on the line, agree simple rules: who can draw, for what, up to what amount without approval, and how draws are recorded. A shared understanding prevents the line slowly filling with purchases nobody planned. Many owners set a monthly reminder to review all draws against the agreed purposes.
Before you renew
At renewal or review, compare your actual usage over the year with the limit and the fees paid. Ask whether the lender can reduce the line fee, adjust the limit to suit your real pattern, or change the review date so it does not fall just before your busiest season. Renewal is also a good moment to compare with other facilities in the market using the business finance comparison checklist.
Thinking about a line of credit?
If your business has regular gaps that close on their own, a well-sized line of credit could make cash flow far calmer. Make one enquiry to explore it. There is no credit check when you first enquire, a real person reviews it and your details go to one lending partner rather than many. Tell us how often your account dips and by how much in your enquiry.
Frequently asked questions
How big should my line of credit be?
Big enough to cover your deepest regular cash flow gap plus a modest buffer, based on a forecast. A much larger limit can cost more in line fees and tempt you to use it for the wrong things.
Is it bad to keep my line of credit fully drawn?
It is a warning sign. A permanently drawn line is no longer bridging gaps; it has become long-term debt, often at a higher cost than a term loan. Consider restructuring part of it.
Should I use a line of credit to buy equipment?
Usually not. Equipment is a long-term asset better suited to equipment finance, which keeps the line free for cash flow.
Can the lender reduce my limit?
Many facilities are reviewed periodically and the lender may reduce or cancel the limit if trading weakens or terms are breached. Treat the limit as useful but not guaranteed.
Do I pay interest on the full limit?
Usually interest is charged only on what you draw, but line or facility fees may be charged on the full limit.
Sources and further reading
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