Small businesses looking to add a few more people and expand their operations often need some extra funding to be able to realize their goals. As this might not be readily available for all companies, they have to look into the financing options at their disposal. In addition to angel investors, mortgages, and some help from friends and family, small business owners can also opt for bank loans. Here are some pros and cons to take into account when considering bank loans.
Business owners that have several options available should think about the advantages of this approach before they make their decision as bank loans can be beneficial for several reasons.
Low, fixed interest rates
For starters, traditional loans offered by banks usually come with lower interest rates than payday loans or credit cards. Moreover, their interest rates are fixed so business owners don’t have to worry about the loan payments increasing over time. However, it’s important to check whether this applies for the entire term of the loan or just a part of it.
Building business credit
Just like individuals have their personal credit score, businesses also have a credit history. Getting a bank loan and repaying it on time can help a company build its credit score. Even if the business owner has no immediate need for cash, they can still take out a loan and build a good reputation with banks in that way. By making timely payments, banks will be more open to providing them with a new loan in the future.
Many uses for the loan
Additionally, there are many ways how a company can use this loan. For instance, in some cases, business owners use it to stay afloat. Furthermore, they can also help if a company experiences plenty of ups and downs when it comes to cash flow. As some periods are simply slow, this loan is of great assistance when companies need to survive for a few months until work picks up again. Then, companies can invest in new equipment, improve cybersecurity, take their digital marketing campaign to the next level and so much more.
Retaining control of the company
Another reason why many business owners prefer bank loans over angel investors, let’s say, is that they will not be losing control over their company. By bringing in a friend, a family member, or an outside investor, there might be pressure to sell stocks of the company or even relinquish creative control. As this can affect not only the mission of the company but its reputation as well, many owners don’t like this approach.
However, it must be said that there are also some downsides to taking out a bank loan.
Strong credit score required
For example, people with bad credit might have trouble qualifying for a traditional loan as banks typically require strong business and/or personal credit scores. In addition, they can ask for a personal guarantee or collateral such as a house. While there are ways how the credit score can be improved, they don’t work instantly, which is why businesses that need cash straight away might not see a bank loan as the best solution.
Longer approval time
Regardless of credit scores, bank loans take a long time to be processed and approved. Banks require applicants to submit a detailed business plan, their account history, and even financial forecasts. As this process can last anywhere from one to three months, many business owners opt for commercial business loans from online lenders as these can be approved within two days.
Even the business owners that can wait for a while for their application to be approved should keep in mind that the paperwork banks require is quite lengthy. To prove the legitimacy of their business, applicants have to show their credit reports, bank statements, income statements, tax returns, and budget projections. The requirements here usually depend on the lender.
Unclear rejection reasons
Another downside to taking out a bank loan is the fact that many borrowers complain about how the approval process lacks transparency. Business owners are often rejected and they don’t understand why as lenders don’t provide them with details as to why they were not approved. Some examples of why banks might reject an application include borrowers asking for too small of an amount, the bank doesn’t operate in a specific industry, it considers the borrower to be too much of a risk, and similar.
Repayments can affect cash flow
Depending on the loan terms and the amount of each repayment, taking out a bank loan can put a business’s cash flow in danger. If the money made has to be set aside for these regular payments, the company might not have enough cash to cover other expenses, such as salaries, orders, and overhead costs.
When looking to expand their company, business owners need to take bank loans into account. It’s essential to carefully weigh the pros and cons before making this big decision.