What Are the Benefits of an Overdraft Line of Credit?

Author: Tyler McGinnis, Small Business Senior Advisor

From managing cash flow fluctuations to navigating rising costs, business owners understand the financial challenges associated with running a commercial operation. However, obstacles may differ for owners of small to medium-sized businesses compared to larger operations.

Findings from a Consumer Financial Protection Bureau survey indicate that SMB owners are nearly twice as likely to report monthly variances in income than larger entities. They are also more likely to experience frequent overdraft charges on their business checking accounts, resulting in insufficient funds fees. Fortunately, business owners can avoid financial issues like these with a little help from their bank.

An overdraft line of credit provides protection against insufficient funds, while safeguarding business reputation and credit worthiness. Here is how it works.

What Is an Overdraft Line of Credit?

As the name implies, an overdraft line of credit protects a business checking account from becoming overdrawn. Like overdraft protection for a personal bank account, the overdraft line of credit kicks in when checks or charges are presented to an account with insufficient funds. Instead of rejecting the request, your bank makes the payment and adds the amount to your credit line.

From there, interest will accrue until the balance is paid. Many business owners will pay off their line of credit as soon as their checking account is in the black again, saving money in long-term interest fees.

Because an overdraft line of credit provides immediate access to funds when an account balance is low, it can help small business owners cover expenses and avoid declined transactions. Just as important, it is a valuable tool in managing cash flow gaps.

Benefits of an Overdraft Line of Credit

Businesses can realize multiple benefits from opening an overdraft line of credit. The first is protection to the brand’s reputation.

Businesses that can’t pay their vendors could easily damage trust, but the impact doesn’t stop there. Companies have been known to raise prices or require a larger deposit from buyers who pay late. Having an overdraft line of credit ensures that your bills are paid on time, even if you are suffering from a temporary cash flow disruption.

The responsible use of an overdraft line of credit, including making timely payments, can also help a business build a positive credit rating. A solid credit history will be imperative should your business need to access funding to fuel growth or make capital investments down the line.

The flexible nature of an overdraft line of credit means you only borrow what you need, when you need it. This differs from a revolving line of credit where a business must prequalify for a predetermined loan amount that can then be regularly renewed. An overdraft line of credit, on the other hand, issues borrowed funds only when the account balance is insufficient to cover a charge, up to a limit determined by the bank.

Finally, having an overdraft line of credit eliminates late fees or charges for insufficient funds. While you do pay interest on the balance of your overdraft account, the amount will be less than overdraft fees, helping to support a positive bottom line.

How Does a Business Set Up an Overdraft Line of Credit?

Setting up an overdraft line of credit is easy. Simply talk to a banker. After a quick chat to discuss your financial situation and your needs, your banker will start the application process. Acceptance is based on an evaluation of the business’ income and credit score.

The banker will also discuss terms and conditions, making sure you know there is no monthly fee for an overdraft line of credit, and that you won’t owe a balance unless a charge is submitted to your account with insufficient funds.

Overall, an overdraft line of credit can be a valuable tool for managing your business finances and avoiding fees. Because payments are made up to the limit in your overdraft account, you can rest assured that your brand is recognized for timely payments to suppliers, and you may even be able to secure additional advantages, such as early payment discounts.

Whether you need an overdraft line of credit, an operating line or another financing solution, FNBO has the right products to support your business. Explore our options to find the right fit for you.

About the Author

Tyler began his career as a personal banker and transitioned into business banking. He appreciates seeing and supporting small businesses as they grow from start-ups to successful ventures.