Refinancing Small Business Debt
Refinancing small business debt is the process of replacing an existing financial loan with a new loan. Normally the new loan pays off the current loan debt, so the business debt is not eliminated with refinancing. However the goal of this process is to save money on financing , reduce overall debt and strengthen the business’ financial profile for future financing. A small business does not necessarily have to be in a poor financial situation to consider this financing option. Rather this decision can take advantage of a better interest rate (or other loan terms), even if the business has no difficulties with payments on the existing financial loan. Refinancing small business debt is an option businesses choose for the purpose of gaining financial leverage due to internal business or external market changes.
Let’s review refinancing small business debt and see if it is right for your business situation:
Refinancing Small Business Debt – Benefits
The process of refinancing small business debt offers several potential benefits that need to be balanced with the time and effort required:
- Save Money – As previously mentioned, the most common reason for refinancing a loan is to save money by reducing your interest costs. Normally you will refinance with a new, lower interest rate loan versus your current loan. If your new loan is not extending the payment term duration, the lower interest rate will result in a significant reduction in interest costs and your business will save money.
- Improve Cash Flow – Assuming your refinancing is at a lower loan interest rate, this will also result in lower loan monthly payments (assuming the same loan repayment term duration). The reduction in loan payment provides your business more cash for other monthly business expenses. The result is easier cash flow management.
- Modifying Loan Terms – Your business profile (time in operation and credit history) has evolved since your business got its original loan, to where your business is more attractive to a lender. This can result in the opportunity to refinance your loan with a better interest rate and terms. Your new loan can allow your business to lock-in a source of long-term financing when future market interest rates a projected to increase. This would also apply if your existing loan is a variable rate loan, or has a balloon payment in the short-term. While extending the loan term may increase your total financial costs, you normally have the flexibility to balance this by accelerating payments against the principal balance when desired.
Refinancing Small Business Debt – Considerations
As previously mentioned, refinancing small business debt needs to be balanced with a series of considerations:
- Does It Make Sense –While your business may qualify for refinancing, you need to do a financial review of your business to determine whether it makes sense to move forward: A) What type of business debt do you have? B) What is the business debt balance? C) What is the total business monthly debt payments? D) When will your business payoff the existing debt if you don’t refinance?
- Cost Of Refinancing –Financial lenders are in the business of making money. You need to clearly understand all new loan origination costs and any associated prepayment penalties of your existing business loan. Are there sufficient cost savings to justify refinancing?
- Business/Personal Credit Profile –Refinancing small business debt is greatly affected by the current business and owner credit scores. If both are not credit-strong, it may be prudent to wait on refinancing until steps have been taken to improve the credit scores.
- Business Financial Health – Your business financial health will influence the quality of a refinancing loan offered by a lender. Business health factors include monthly cash flow, gross revenue, net profit, balance sheet and the length of time in operations. If you are at 20 months in operations, it would make sense to wait until your business has two years in operations, to have a stronger financial profile.
Refinancing Small Business Debt – Conclusion
Refinancing small business debt benefits are varied but fundamentally serve a business by saving money on financing and reducing overall debt. The existing business debt still remains to be paid off but under more financially attractive conditions. Depending upon your current business situation, this financial solution may fit your business needs, now or in the future.
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