Financing is frequently considered the most difficult aspect of beginning or developing a small business. Although there are numerous loans, investment, and finance possibilities accessible to entrepreneurs, pitching for that cash at the appropriate moment and with the proper tools may sometimes feel like a massive effort.
There are plenty of measures you can take to make the most of getting a small business loan, from developing a budget to managing expenses. A loan may be a fantastic source of cash but navigating the plethora of loan choices accessible to small business entrepreneurs can be tough. Business lines of credit, traditional bank loans, online working capital loans, and peer-to-peer loans are just a handful of the lending options available to small businesses.
To help you manage this step in your entrepreneurship journey, we have put together a list of dos and don’ts you should consider when scouting for a business loan.
1. DO create a pragmatic budget plan
Many times, loan officers say entrepreneurs come into their offices with giant budget plans consisting of millions of dollars in earnings. However, when going through the line items, you will notice that there is no actual backing to verify the figures. Instead, there is just plenty of excitement surrounding the product, the market, and, most importantly, the great potential their new company has.
One thing you need to keep in mind is that neither banks nor investors are interested in buying your great idea. Their main purpose is to make a profit, so if you want them to have faith in your idea, they need to receive the positive assurance that there is going to be some hefty profit. This is why it is important that you develop a realistic budget plan showing the financial evolution of your business and its true potential. With little to no exceptions, banks and investors are not even going to consider your business if they believe things are too good to be true or if they feel your efforts are not going to pay off.
2. DO make sure it is the right time to borrow
Planning ahead and being prepared for any circumstance are essential in business. Whether you need startup capital or are wanting to expand, take the time to get to know your business, decide when you will need the money, and where you will put it once you get it. It’s one thing to consider some extra capital would be nice to have and other for your business to really depend on this money to grow.
Borrow too soon, and you may be tempted to spend the money on items you need right now rather than what you intended to spend it on. Borrow too late, and you risk putting your company’s finances in jeopardy. Figuring out the best time to take out a business loan may be a bit tricky, but it’s the best thing you can do for your company.
3. DO compare your options
One of the most important things to keep in mind is that no two lenders, not even those offering the same financial product, will have identical sets of terms and requirements. This is why it is very important that you do your research properly when you go scouting for business loans.
Once you decided how much money you need to borrow, find the lenders that are willing to offer this amount. This is where things can get a bit tricky, as there is a high chance you will have more than one option to choose from. If you find two lenders offering the same amount of money, it is worth taking a look at the annual percentage rate (APR).
Some loans have a high APR, but a shorter payback timeframe, which means you will get rid of this burden faster. Others have a lower APR, but a longer term, which is suited for businesses that want to make smaller monthly payments. No approach is wrong, provided It is the one that suits your business best, so take the time to weigh in your option.
4. DON’T focus on interest rates alone
While the interest rate is one of the main things borrowers look at when signing up for a loan, it is far from being the only important component. Besides the interest rate, there are other aspects about the loan that should interest you just as much. These include:
- The period of time you need to make the repayments in
- The amount of capital the financer is able to lend you
- The flexibility of the loan terms
- The type of guarantees you are asked to provide in case of default
5. DON’T apply to too many lenders at once
While it may be tempting to apply to as many lenders as possible and hope for approval, this approach may end up hurting your credit score more than you think. It’s good to have options, but don’t go to every single loan officer in town.
When you apply for a business loan, the loan officer will check your credit score. If the lender only does a soft credit pull – to give you an initial quote, for example – it won’t hurt your credit score. However, if you go ahead and submit a full application, the lender will have to do a hard credit pull, which can lower your credit score by a few points. Do this for every application, and you’ll soon have a bad financial reputation in the eyes of the credit reporting companies.
The best approach is to find the best two to three options that work for you, then only apply for those.
6. DON’T neglect prepayment penalties
A prepayment penalty is a cost charged by a lender if you pay off a debt before its due date. Paying off a loan early reduces the amount of interest earned by the lender; therefore they levy a penalty. The cost is typically two to three percent of the loan’s outstanding total, but it can be on a sliding scale – the sooner you pay off your debt, the higher the penalties.
You may be able to negotiate the elimination or reduction of a prepayment penalty. If not, check the tiny print before signing the loan agreement, so you know precisely how much you will be charged for early repayment.