Whether people are managing their personal expenses or running a small business, credit ensures their finances are running smoothly. Access to credit provides an important lifeline when managing cash flows, making critical investment decisions, or tackling unforeseen expenses. 

In the last decade, we’ve seen some pretty radical changes in credit products, as well as the introduction of new companies that offer them. The 2009 CARD Act ushered in new rules around lending requirements and credit access, fundamentally changing the relationship between lenders and American consumers. 

Since then, a low interest rate environment has kept borrowing costs low while fueling the rise of innovative FinTech startups, including a number of ones that offer credit products. Buy Now Pay Later (BNPL) in particular has gained significant traction, and today’s consumers are increasingly being greeted at point-of-sale checkouts by eye-catching logos from providers like Klarna, Affirm, and AfterPay. These companies all seek to make products more affordable by allowing customers to pay in installments. With Apple announcing their new “Apple-Pay-Later” program, we’re likely to see even more companies embed credit-like products in the coming years.

Credit cards remain the number one option for Americans to get fast and convenient access to credit services, with total credit card debt rising 12.3% in Q1 2022 to more than $1 trillion. At the same time, many people are increasingly searching for alternatives when credit cards seem scary or BNPL doesn't meet all of their needs. If you’re considering offering some form of credit to your retail or business customers (or even your employees or members), what other types of credit products might meet their borrowing needs?

This guide discusses unsecured* Lines of Credit (LOC). It provides a primer on how LOCs work, how they can create value for you and your customers, and how to start embedding them into your products. 

Read on to learn:

• What a Line of Credit is
• How a Line of Credit is different from credit cards and traditional loans
• How FinTechs and businesses are embedding Lines of Credit into their products
• How to generate revenue from Lines of Credit and the advantages they provide to customers
• A quick guide to setting up Lines of Credit

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What is a Line of Credit?

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A Line of Credit (LOC) can provide quick access to credit or make purchases more manageable. 

It is a way for consumers or small businesses to borrow funds by allowing them to access a predetermined amount (also known as a credit limit) and pull from it on an ongoing basis. The borrower is able to repay the funds and borrow again, as needed. Interest may be charged on the LOC as soon as funds are borrowed, but only on what’s borrowed.

Here’s a few scenarios where LOCs might be used:

Retail customers might want personal LOCs in order to:

• Manage expenses in the face of constrained cash flow or uneven income 
• Make payments where credit cards cannot be used i.e. cash-only transactions
• Meet unforeseen expenses 

Business customers might want to use LOCs to: 

• Cover near-term expenses and investments
• Finance projects where costs or schedules fluctuate
• Manage irregular cash flow due to seasonality or market dynamics
• Help gig workers smooth out their monthly income

A practical example: Shelly owns a small business - she sells sea shells on the Jersey Shore to tourists.

‍Because her business is seasonal, Shelly opens up a Line of Credit with her bank to help her prepare for the flood of tourists that hit the boardwalk. Shelly gets access to a $10,000 Line of Credit and draws $1,000 from the credit line to cover expenses, stock shell inventory, and more. Shelly only has to pay interest on $1,000, whereas, with a traditional loan she would have had to take out and pay interest on the entire $10,000.

A Line of Credit helps Shelly get her business stocked and ready to sell sea shells when it starts running five times faster.

How is a Line of Credit different from a credit card or a traditional loan?

While LOCs, credit cards, and loans are all credit products, there are key distinctions among them that influence why customers use them, how customers access funds, how interest is calculated, and more. 

Here’s a high-level breakdown of the differences:

• LOCs allow a customer to withdraw only the amount they need, and interest is charged only on the borrowed amount. As mentioned in the example above about the Jersey Shore’s resident sea-shell seller, unlike a loan, with a LOC customers don’t have to borrow the entire credit limit, meaning, they don’t have to pay interest on the entire amount. 
• Unlike a loan, a customer can repay the borrowed amount on a LOC and then borrow again up to the predetermined credit limit - the line remains open for a customer or business to use flexibly instead of having to reapply for a loan over and over again.
• Unlike credit cards, most LOCs do not offer any merchant rewards, points, or cashback to the customer.
• With a LOC, a customer can withdraw cold-hard-cash for “cash-only” transactions without paying fees or extra interest that a cash advance would require. For context, cash advances on credit cards typically come with interest rates that can be around 5% to 10% higher than the interest rate charged on credit card purchases and/or Transaction fees on the amount borrowed

How are FinTechs and businesses embedding LOCs into their products?

LOCs are important to today’s consumers in an increasingly competitive credit-product market – just ask Wells Fargo. In July 2021, CNBC reported that Wells Fargo would stop offering personal LOCs to their customers, only to reverse its plan less than a month later after a groundswell of customer backlash. 

Until recently, however, there has remained limited wide-spread marketing efforts around LOCs and their benefits to everyday users. That is starting to change as FinTech innovators are leading the charge in utilizing the traditional LOCs as a building block to create new services or complement existing ones in a wide range of industries.

For example: FinTech Tally has come up with a unique way that LOCs can help consumers pay down debt faster than a loan. As a customer pays Tally back, the company will free up space on their credit line to use again and again in order to unlock funds to pay off additional, expensive credit cards.

Here are some other cutting-edge LOC use cases that FinTechs have brought to us at Synctera recently:

• A gig-economy FinTech is seeking to expand their offerings by embedding LOCs as an income-smoothing solution to help freelancers, creators, and gig-economy workers better manage uneven income patterns
• A tech-enabled real estate brokerage is looking to grow its market share by offering LOCs as an embedded, complimentary service for homeowners to pay for home staging when selling their house
• A provider of services to sports leagues and clubs is planning to embed LOCs in its product suite so its customers can finance pre-season expenses

How to generate revenue by embedding a Line of Credit into your products

Now that we’ve discussed why access to LOCs can be beneficial for retail and business consumers, let’s discuss how they can be beneficial to you. Why should you consider offering LOCs to your customers?

The answer to this question is multifaceted but pretty simple – LOCs can enhance your value proposition to existing and new customers and help you earn revenue. Here’s how: 

1. LOCs expand your relationships with your existing customers. Offering LOCs can make your relationships with customers stickier, thereby increasing their lifetime value. For example, a 2021 McKinsey report found that 60 percent of consumers say they are likely to use financing at point-of-sale over the next six to 12 months. You’ll need to determine if this statistic is representative of your existing customer base. If it is, offering a LOC can unlock value from customers that are interested in flexible credit options.

2. LOCs differentiate you from competitors: A LOC can lower your customer acquisition cost (CAC) by enhancing your unique value proposition and assisting in acquiring new customers. For example: As FinTech giant Square embedded additional financial features into its P2P CashApp product to include crypto, trading, and loans, they’ve been able to decrease their CAC to less than $10 - better than the $180- $300+ that is typical of the financial/banking/insurance industries.

3. LOCs allow you to access a new revenue stream: LOCs can allow you to access an additional source of revenue by charging interest on the utilized amount, or by charging a subscription fee. Across a range of financial services — including payments, lending, and insurance — embedded financial options like LOCs will generate $230 billion in revenue by 2025, a 10x increase from $22.5 billion in 2020. 

<div class="rt-btn-wrap"><a href="https://www.synctera.com/post/banking-as-a-service-banks-25-billion-revenue-opportunity-in-fintech-banking" class="button yellow w-button">Need more industry context? Download our BaaS / Embedded Finance report</a></div>

Should my FinTech or business offer Lines of Credit?

The first step in adding LOCs to your list of offerings is deciding whether or not it’s realistic for your business, customers, and use case.  For example, if you offer a savings app for consumers where the goal is to build a nest egg, there might not be a logical use case for a Line of Credit in your products.

When making this decision, you’ll need to consider these questions about your customers and your business. Here’s a mini checklist to help:

Your current and potential customers  

1. Do your customers truly need a LOC?
2. Have they been underserved by traditional credit markets?
3. Can you quantify how much value will it provide to them?
4. Can this value be provided by a competitor or an alternative?
5. Do your customers have a credit profile that matches your risk tolerance?

‍Your business

1. Does it make sense to add LOCs to your business model and products?
2. Do you have the risk tolerance to bear some of the credit risk?
3. Do you have the willingness and ability to perform credit decisioning?
4. Is there any risk that offering LOCs will cannibalize other parts of your business?
5. Does it align with the value proposition of your other products?

Deciding how to build a Line of Credit product

If you’ve decided that embedding a LOC product in your offering makes sense for both your customers and your business, you’ll need to decide whether to build it in-house or with a Banking as a Service platform. 

Building in-house

The DIY approach can be done, but it will come with the following demands: 

• A team with expertise in lending: The paradigm of “move fast and break things” does not apply to lending due to the complexity around credit products. Building solutions that are not only compliant with banking regulations, but are also secure, scalable, and robust, requires a multidisciplinary team of experts in the fields of financial products, banking regulations, risk management, and legal. This talent set is scarce, and the investment in hiring and retention is not trivial.

• Comfort with business development and partnerships: You will need to identify, vet, contract, and integrate with multiple vendors for specialty services like fraud prevention, identity verification, prevention of money laundering, flagging high-risk clients like politically exposed individuals, and more. There are many providers in this space and you’ll need to carefully select the right partners.

• Ability to find a sponsor bank that trusts your team, what you built, and your partners: US regulations dictate that the lender-of-record has to be a duly-licensed financial institution. There are roughly 4,500 banks in the United States. You will need to identify and partner with one of these institutions.

<div class="rt-btn-wrap"><a href="https://www.synctera.com/platform/launching" class="button yellow w-button">Learn how to find a bank partner and launch</a></div>

Building with a Banking as a Service platform like Synctera

Working with a BaaS platform like Synctera is the easiest approach to building and launching a LOC offering. Synctera has everything you need in one end-to-end platform:

• A modern, flexible API for all the banking, payments, and compliance tech services you need
• Relationships with the widest range of bank partners across the most use cases – working with Synctera can increase the likelihood of you finding a bank partner to support your LOC program
• Program support and SME guidance on best practices, processes, and regulatory compliance
• Guidelines on LOC roles and responsibilities to keep you and your bank partner aligned on marketing, origination, funds flows, servicing, disputes, and collections

Closing thoughts

Credit offerings have been under continuous scrutiny – whether from regulators or from younger generations. But with interest rates rising, businesses facing supply chain issues, and consumers facing higher prices, the need to borrow money will become more acute.

Innovative FinTechs and companies interested in embedding financial products today can reimagine how credit and lending services are tailor-made, how credit risk can be evaluated, and how access to credit can be improved for their customers. These companies have the opportunity to build a more intimate, long-lasting relationship with their customers by making it easy to access credit in a manner that is dignified, at rates that are reasonable, and at terms that are equitable.

At Synctera, we are fortunate to provide a platform that can support a new wave of credit products that you can dream up. We strongly believe that, together, we can make a material impact, especially serving borrowers on the lower end of the credit spectrum and those with “no credit” or “thin credit.”

Read the rest of the revenue series from my colleagues to learn more about how you can quickly create revenue-generating programs for your financial service idea while also helping people get better access to personalized financial services:

<div class="rt-btn-wrap"><a href="https://synctera.com/post/how-to-get-your-financial-product-to-market-fast" class="button yellow w-button">Our COO Shep Smith helps you get your idea to market fast</a></div>

<div class="rt-btn-wrap"><a href="https://synctera.com/post/what-are-interchange-fees" class="button yellow w-button">Our Card and Wire PMs discuss Interchange - a common revenue FinTechs earn on card swipes</a></div>

*Note: Lines of credit secured by assets like residential real estate are not covered in this blog.