We all know the story of the chicken and the egg. This concept, applied to cash flow, is every business owner’s biggest challenge. You have to have cash to operate your business and make money, but you don’t have cash until you’ve run your business and made money. Cash is the egg that grows into the chicken, but the cash egg doesn’t exist until it comes from the chicken.
In order to get in front of the cash cycle, many business owners turn to working capital loans. The process of working capital loans for small businesses involves getting unsecured business funding, to operate the business before you make cash. Working capital loans are very commonplace and there are many small business lending companies who offer such funding, but not all are in your best interest. To help you make a good business move with you working capital loan, you should make sure you follow these responsible borrowing tips:
- Be cautious about the lender you get your cash from.
There are a lot people in the lending business who just want to take a chunk of the money, regardless of how much it hurts your business. Many lending brokers say that they will find the lowest rates and best terms for your working capital loan, but end up adding their own fee on top of the interest rate that you have to pay the lender already. Working with a direct lender sometimes is better than going through a broker (providing the terms of the loan are beneficial) because the direct lender’s money is on the line, and so they care that you do not fail.
Be wary of lenders who use predatory practices to get you in more debt than you could possibly pay and hurt your business. Finding a responsible lender is incredibly important while getting a working capital loan.
- Do not borrow more than you need.
Securing funding for a small business can be difficult, if you find a loan above the amount you need, it might feel intuitive to take it so that you don’t have to secure more funding in the future. However, doing this hurts you more than help for two reasons:
- First, your payment amount will be higher for a higher loan. While this might be no problem today, if you’re cash flow changes in the future, this could be detrimental.
- Second of all, the real vantage of the working capital loan is to give you the money to make money. Money that is just sitting in your bank account unused is considered “dead money.” It serves no purpose to you. In fact, not only are you losing it by paying interest on it, your savings account probably accrues interest at a fraction of a percentage point, while inflation is reducing the value of the cash as it sits it collects dust.
- Make sure the repayment process is convenient and easy.
Small business owners put in 25 hours a day. Staying on top of the payments can be difficult; missing a payment leads to extra fines and hurts your credit. It might seem like a small deal, but using automatic payments is a great way to ensure that you never default on a payment.
- Make sure that you to pay your loan off early.
Being able to pay off your working capital loan early is the ideal situation. If your cash flow take an unexpected turn in a great direction, and you have the money to pay that loan off early, it’s a win!
However, some lenders build into the terms of their loan that even if you repay the loan early, you’re still subject to all of the interest that would have accrued throughout the life of the loan, so you do not save a single red penny by getting out of debt early.
Sometimes, obtaining a working capital loan is not optional, you need that extra cash just to survive. Sometimes, getting that extra money gives you the ability to grow your business in a way that you never could do organically. There are a lot of great reasons for taking out a working capital loan. However, before signing the dotted line, make sure you’re doing it smartly.