What is a Committed Credit Line?
A committed credit line is a monetary spending loan balance offered by a financial institution that cannot be suspended without notifying the borrower. A committed credit line is a legal agreement outlining the conditions of the credit line between the financial institution and the borrower.
Once signed, the agreement requires the financial institution to lend money to the borrower, provided that the borrower does not break the conditions of the credit agreement.
- A committed credit line includes funds available to a company which cannot be rescinded by a financial institution without proper notice.
- Committed credit lines may be set up by small and large businesses to cover expenses in times of financial strain.
- Committed credit lines differ from uncommitted credit lines, which offer the lending bank discretion based on market conditions.
- When a lender provides a committed credit line, the funds offered can be used at the company's discretion, but is not meant to act as a cash reserve.
Understanding Committed Credit Line
Committed credit lines differ from uncommitted credit lines in that they legally bind the lender to provide the funds, rather than giving the lender the option of suspending or canceling the credit line based on market conditions.
The terms of a committed credit line may specify a timeframe or expiration date for all the funds to be disbursed by the institution. There may also be fees incurred by the borrower for unused portions of the credit line. Such fees tend to be about 1 percent of the unused balance.
Companies may seek committed credit lines as a buffer against anticipated expenses, such as fees associated with major litigation, to address sudden shortfalls in revenue and profits, or to cover the costs of equipment purchases that were not originally planned for in a fiscal budget.
Lenders may require the borrower to pay a fee based on the amount that can be borrowed.
Access to committed credit lines helps companies maintain liquidity at times when their operations do not generate sufficient cash on their own to support all of the company’s expenses. It is worth noting that committed credit lines have increase during the pandemic to hedge the risk of liquidity drought due to the lockdown.
A committed credit line can be sought by a company to assure shareholders that it has the means to maintain its core business while taking on additional challenges. For instance, a business might want to expand its locations, expand its offices and add more vehicles to its fleet, conduct a round of new hires, or even pursue a new acquisition opportunity that recently presented itself.
By securing a committed credit line, the company would have the resources available to take such action without having to pursue other forms of financing. This type of product is intended for use and repayment rather than as a reserve of cash the company keeps on hand.
Businesses typically seek committed credit lines to address specific needs, including sudden expenses they expect to incur, unlike funding raised from investors or other sources, which may be used over a more flexible period of time that allows more leeway and options for repayment.