Are Bank Loans Riskier Than Alternatives?
You’ve heard me talk about banks vs Debtor Finance before. But one thing I didn’t delve into is the risk associated with choosing a bank loan.
About 6 years ago I got myself a personal loan. I wanted to buy a car but just for good measure I got the bank to throw in an extra 5K, so I could go on a Contiki tour with my best friend. Oh to be 21 again. Cut to present day and I am still paying off that puppy. Due to interest rates and the long term contract I committed to, it’s been a struggle. Now I know this is different to a business loan but it’s the same kettle of fish. I chose to borrow more than I could afford and essentially I’ve been burnt. I took a risk and it didn’t go in my favor.
Of course one big factor when considering any type of financial loan is always risk but it seems with the big banks the fall when you fail is a bit steeper. If little old me has struggled to pay back my loan without the pressures of other outgoings, how does a business survive? Consider the fact that when you borrow money, you will immediately need to begin monthly repayments to your bank and at the same time you will also need to pay your employees, pay your suppliers and pay your rent (just to name a few). How are you going to manage all these payments each month WITH INTEREST?
One question you need to ask yourself is – If my business suffers and I can’t make the bank payments do I risk losing it all?
So if you have hit a financial wall and you need outsourced finance and you think a bank loan is an obvious choice – perhaps think again. As I’ve discovered in most cases, a bank loan puts up more obstacles for struggling SME’s.
If you have been reading my blogs you would also remember I’ve also spoken about how it’s important you define your cash flow problem before seeking financial aid. You don’t want to end up with a solution that causes you more grief and essentially more money – so as well as accessing the risk factor associated with your choice you also need to make sure your seeking the right type of finance. Consider this: You may not even need a huge lump sum of money; you may just need continuous cash flow to keep the business running efficiently.
So let’s look at different types of bank loans for instance. Secured Vs Unsecured.
With a secured loan you are taking on massive risk as one of the pre requisites of acquiring a secured loan is to provide an asset as a guarantee. If you take this risk and fail to pay the bank, among other things, they will take possession of your asset; this could be your family home.[blockquote]Then there is an unsecured loan which in theory is more risky for the bank but risky for you as well as you still have to pay it back to the bank (with interest) each month. So if you have bitten of more than you can chew expect huge fines and further action from the bank.[/blockquote]With Debtor Finance it’s simply a financial transaction where you sell YOUR invoices to a factoring company at an exchange for immediate money minus a small fee, so you can continue to finance your business. So the emphasis is on the invoices and not on your credit history or assets. Which essentially means no risk to you – you’re not borrowing money you can’t afford to pay back and you’re not putting any assets on the line. It’s much more manageable.
Another Bank loan risk is the difference between a fixed and variable rate. Lock yourself into a fixed rate and the market might take a turn that you won’t benefit from. Choose a variable rate and you will feel the sting when the market goes up.
Plus after all this you also have to work out a time frame commitment you want to make to these banks. If you make a long term commitment then you lose flexibility and may be stuck with the loan for a long time, or you may have to pay significant financial penalties if you decide to pay your loan off early.
I’m exhausted just thinking about all these risks. Surely it doesn’t have to be so hard?
With Debtor Finance there is no commitment to ongoing payments – you simply hand over your invoices to the financier as soon as they are issued, and you receive an immediate cash payment for them. Again you’re not biting off more than you can chew. You get paid for money you already know is coming in.