63% of small business owners have some form of debt (source: SBA). Business debt is not a bad thing as business credit is essential for small business growth.
For business owners who take on business debt, it is good practice to plan your repayment ahead. This article covers some common mistakes business owners overlook when paying off their business loans. Our goal is to give you some tools to avoid digging yourself in to more liability as you’re paying your business debt off.
1. You need a budget to get out of debt
If you don’t have a budget, create one. If you do, make sure your budget accounts for all your debt payments. Then crunch your numbers and find a way to pay more than the minimum towards paying off debt. For example, if you own a business and you know that extra income will come in, write down how you will allocate it, i.e. what portion of your extra cash will go towards credit card debt, any vendor debt, or your business loan. Be realistic, don’t set aside more than you can afford. Use your cash flow forecast to predict when money comes in, when it goes out, and how much you’ll be left with once you pay off your bills. Read more about balancing your small business budget.
2. Business owners should pay off high interest debt first
How is your debt spread around? Chances are you have a business or personal credit card to finance your business. The National Small Business Association reports that credit cards are one of the top three sources of short-term capital used by small businesses. Because credit card interest rates are much higher than loans or other financing, make sure you tackle the account with the highest interest rate first. And always make your payments on-time.
3. Transferring debt to other credit cards
Business owners and consumers often fall prey to this common mistake when paying off business debt or personal debt. Low introductory interest rates may be tempting, leading borrowers to consider using a credit card to pay off the debt for another credit card. As a rule of thumb, unless you are sure that you can pay your debt off before that promotional rate expires, don’t pay off your credit card debt with another card. From a consumer stand point, you should also consider the numbers of credit cards you own and how much of your overall credit is utilized. Too much credit card debt can adversely affect your credit score.
4. Traditional invoice factoring may hurt your reputation
When you’re struggling with cash flow because of business debt, invoice factoring has traditionally been a way to get cash from outstanding invoices. There are several reasons why small business owners might want to think twice about partnering with an invoice factoring company. Some of the key issues with traditional invoice factoring include complex fee structure, loss of ownership of your accounts receivable, the fact that customers will learn of your financial troubles, and long-term contracts that lock you in. Read more about the risks of invoice factoring.
5. Payday loans are not made for businesses
Payday loans are not business loans. As a rule, business owners should avoid payday loans to pay off business debt. Remember, payday loans and consumer cash advance may offer short-term relief. but it often comes at a high price and may lead to even more debt. Check out my earlier piece on the risks of payday loans.
6. Talk to your lender
Don’t bury your head in the sand. If monthly repayments are becoming overwhelming, call your financial institution, explain your situation, and ask if they can help. This may be in the form of a lower interest rate or a new payment plan. But be careful about opting for a new repayment plan that drags your loan into eternity. Could you cut costs in other areas of your business before being saddled with more debt, albeit at a lower monthly payment?
If you have an SBA loan, you may be able to take advantage of programs like the SBA 504 Refinance Program that lets you pay off existing loans with a new loan at a lower cost.
The Bottom Line
Don’t let debt run your business into the ground. Try to avoid the mistakes above. Evaluate your spending habits, spend some time in your budget, prioritize your debt payments, and consolidate or renegotiate debt whenever possible.
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