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Need to borrow? Understand your options

By Joe Palermo    

Financing a small business can be a real challenge. Small businesses combine various methods of financing usually starting with the business owner’s saving, and in some cases their 401(k), home equity line of credit, friends and family, and credit cards.

After a two or three year track record the business may turn to bankers for a lease or loans to purchase equipment and establish lines of credit. Some business owners use factoring to speed cash flow when bank loans and personal borrowing power are not available.

But are these good choices? Understand your options before focusing on any one solution:

• Home equity line of credit. This is a convenient way to get the funding you need to grow or start a business. Although this was a sure method to finance a business if you had no credit history, in today’s business climate using a home equity line of credit is now one of the toughest and dangerous methods: Your house is used as collateral. If your business hits hard times and your income decreases or is eliminated your credit history will impact your ability to obtain additional business credit in the future.

• Credit cards. Credit cards are used for all types of expenses and depending on the various interest rates charged, this method can be a costly method. Because of high interest rates, you should make every effort to pay the balance off within the due date to avoid paying interest.

A word of caution: If you must use a credit card for short-term financing, keep in mind that the majority of small businesses do not pay off the balance each month. So, when you choose a card, select it for its low interest rate—not because of reward programs.   

• Business line of credit. If your business needs an occasional influx of capital, you might seek a line of credit, but the recession has made obtaining this difficult. A number of companies offer business loans to companies with questionable credit history but these firms usually want an up-front fee and higher interest rate, since the risk factor is greater due to the business’s credit history.

• Term loans. A term loan is a type of financing provided by banks to businesses as a “working capital loan” or “accounts receivable loan.” This type of loan enables businesses to consolidate high interest credit cards, expand the business, and cover equipment purchases.

From a business owner’s perspective a term loan is a preferred method of financing because of the the length of time—sometimes years—the business has to pay the loan off. But—always a but—getting approved for this type of loan is challenging today, since banks have tighten the requirements.

The question you must ask yourself is, “What is the best type of debt for my business to handle?” The answer is not simple. There is never “good debt.” One method of financing, however, might fit a your  business better than another business.

Best advice: Try to get the lowest interest rate, favorable payment terms, and reasonable line of credit. Search for non-traditional methods such as purchase order financing, accounts receivable factoring. And customize solutions that fit your business needs.

joe-palermosmall1Joe Palermo is a partner in B2B CFO and can be reached at 925-548-3395 or jpalermo@b2bcfo.com.

SIDEBAR

Good bookkeeping essential for financing options

The majority of small businesses are undercapitalized right out of the gate. To improve the possibilities of obtaining any type of financing or even to be able to continue self-financing from company profits, you need to keep on top of your financial status.

A good set of books and records are essential. With those books, learn how to explain your company’s financial performance to run your business more efficiently and improve your chances of obtaining a loan.

 


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