When you own a small business, you learn that there are a lot of factors that you simply can’t control. No matter how thorough the business plan or how valued the product or service, roadblocks arise and fast solutions are needed. That’s why flexibility is so precious to small business owners.
Funding may be one of the top areas where small business owners need the most flexibility. When you need to get the job done, the ability to get the finances you need, when you need them, is invaluable. There are many types of small business financing available but one of the most flexible is a business line of credit (a revolving credit account).
But what is revolving credit? And if it’s not a fixed term, how do you calculate interest? Let’s start at the beginning.
What Is Revolving Credit?
Revolving credit, also referred to as a revolving account or a line of credit, is a flexible, open-ended loan that doesn’t have a fixed number of payments. Unlike an installment loan, revolving credit allows your credit availability to be renewed as your debts are paid off. Credit cards are the most common example of revolving credit used by consumers.
How Interest Is Calculated on Revolving Credit
Fixed term loans, like installment loans, have a specified length, making the interest calculations more clear cut. But what if you make sporadic draws as you would with a line of credit?
A revolving line of credit calculates the interest based on your principal balance amount. This principal balance is the amount outstanding for the previous billing cycle (which is typically 30 days long). You will only pay interest on those funds that you have drawn from your account.
Interest is typically calculated based off the entire year and is shown as a percentage. The formula for a revolving line of credit is the balance multiplied by the interest rate, multiplied by the number of days in a given month, all divided by 365 (to represent the number of days in a year).
When you have all the factors, calculating the interest is pretty simple. Revolving credit is meant to be easy — with its flexibility and easy accessibility, it’s a great option for small business owners who qualify.
There are many types of revolving credit available to consumers and this article does not contain all methods that may be used to calculate interest. Contact your lender directly for more information on how interest is calculated for your specific loan agreement.
The information in this article is provided for education and informational purposes only, without any express or implied warranty of any kind, including warranties of accuracy, completeness or fitness for any particular purpose. The information in this article is not intended to be and does not constitute financial or any other advice. The information in this article is general in nature and is not specific to you the user or anyone else.