8 Questions to Ask Yourself Before Getting a Small Business Loan
As a small business owner, the idea of having some extra cash at your fingertips to grow or expand your business has come to mind. It’s an exciting idea, right? And you may have come up with a few ways to get that business loan you need, either through banks or alternative lenders. It may all sound too easy, but the reality is that there is an overwhelming number of options, loan terms, and interest rates out there. But don’t worry, financing your small business does not have to be difficult, as long as you ask yourself these 8 questions before choosing an option.
What is the purpose of getting a business loan?
You need to figure out exactly why you need a business loan in the first place. To open up a new location? Buy inventory or equipment? Hire staff? Or need a bit of capital for marketing? All these sub-questions will help you better determine the type of loan and terms that will best help you in reaching your business goals. This will result in feasible payments and equitable loan terms.
How much do you need?
After determining the reasons why you need a loan, you can then easily identify how much capital you need. You might think getting as much money as possible is a good idea. But it can actually negatively impact your small business. Obtain only what you need, so as to it does not cost you more in the long run.
How much are you willing to pay each month?
Once you have decided on the amount, take a look at your budget and make sure you can afford the monthly payment. Take a look at your gross debt service ratio (GDSR), which is a percentage of your gross monthly income that you need to pay your basic costs. It will be difficult for you to cover other expenses if your GDSR is higher than 32%. Use this calculator to better estimate your repayment plan.
How long will it take to repay the loan?
This is also referred to as the ‘loan term’. The longer your loan term is, the more interest you end up paying. Make sure you figure out if there is a penalty for paying off the loan early. That’s because some lenders charge a fee if you repay the whole loan or make extra monthly payments.
What is the state of your cash flow?
If your cash flow is positive, lenders will love it! Because it shows that you can repay your loan. If your cash flow is negative and you’re losing money, lenders will consider it as a higher risk and it will be difficult to get approved. The best thing to do is to look at your financial statements and figure out if more is flowing in your business than out of it. This can also determine the payment amount you can actually afford.
Is the loan secured or unsecured?
Think about whether or not you want to go with a secured or an unsecured loan. Keep in mind that the interest rate on a secured loan is usually lower than an unsecured loan. So if you don’t pay back your loan (or in other words, default) your lender is a legal claim to your assets that secured the loan. It can be your business equipment, property, vehicle or even home.
How much debt do you currently have?
Do you currently have any outstanding personal or business debts? Most lenders usually consider the existing debt of your business. They will want to know the details — how much you owe and to whom. They will also want to ensure that you can repay both your existing debt and the new loan.
Do you have to pay for any insurance?
Some lenders might ask you to insure your loan. What this means is that the lender will take over your monthly payments if you cannot repay them for reasons such as sickness. Loan insurance can be optional. If you still do decide to insure your loan, figure out how much extra it will cost you and what exactly it will cover.
When searching for a small business loan, first ask yourself the above questions. Write them down if you need to, so you can have a visual understanding of what exactly you need. There are loans for all types of businesses and situations. Educate yourself on the available options out there. Seek a business advisor or expert who can help you answer the questions.