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Boost Your Business Funding: How To Avoid Turning A Business Loan Into A Debt Black Hole

Thinking of a new business? Then you must be looking for short-term options to manage cash flow. Or rummaging through Google to land at a long-term alternative to grow your enterprise.

If you’ve reached here, it proves your research is on. And luckily, this is a great space to start. I will cover all viable options for commercial lending. The primary alternative is, of course, a business loan -- a credit amount offered to exclusively fund businesses.

But first, let’s get a glimpse of the recent lending finance scenario in Australia. Here are key insights revealed by the latest trend analysis from Australian Bureau of Statistics (ABS)

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As you can see, the value of total commercial finance commitments fell by 0.8% from April 2017 to May 2017.

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Now when you seek this financial option, you will want answers -- prompt, reliable, and versatile enough to meet all your enterprise requirements. Before even going there, you need to have a few heads-up about commercial financing. 

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And why is that so?

You would know that there are various structures of business entities -- such as partnerships, trusts, and companies. But credit approval for finance applications for each of these differs from that of a regular consumer loan application.

Now, how are these structures different from each other? Let’s have a closer look.

 

Various Types Of Structures & How It Affects Your Business Loan Approval Criteria

You need to know and analyse your business structure. It is a separate legal entity, except for those classified as sole-traders. With any business loan application, the business is responsible for making loan repayments. Or else accumulated debts will eventually bring you to your knees.

Your business loan application has to be guaranteed by directors, trustees, or partners. This means that if you business entity fails or ceases trading, then the guarantor would repay the loan. Lenders do it to cover the risk on money lent.

According to research, here is a percentage break up of the major business types in Australia

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Different business applications are assessed differently. Let me give you a brief overview of its various aspects:

 

Companies 

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In case of a company, I discovered that the most important step in assessing any loan application includes calculation of the surplus income to pay the loan. The lender will compare the financial figures from the last two years to understand the stability and profitability of your business.

An added benefit is the age of your venture -- the longer any company has been trading, better the chances of approval.

Be prepared for thorough questioning though! The lender will question any spike in the financial figures to understand what has really changed in your business. If the increased turnover or profit is a result of good management decisions, then it certainly strengthens your application to get an approval.

Besides your company financials, the lender will also seek more information on the guarantor’s work history. For example, if a concreter has quit his job to be a self-employed carpenter, then his work experience doesn’t support the loan application as his income as a carpenter is not proven yet. His credit application will have more chances of approval once he has finalised the financials for at least two consecutive years.

Got it? So keep those answers ready!

 

Trusts 

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Typically, I would classify your business as a trust if it had been set up to protect the assets from external creditors. The assessment of the trust is similar to the assessment of a company application.

One key pointer --- Identify who is the trustee of your trust

If there is an individual acting as a trustee of the trust, then he may have to go as a guarantor on the loan application. If a company is acting as a trustee, then the director will be the guarantor on the loan application.

Again, the same assessment criteria applies as company, in calculating the surplus income for the business entity.

 

Partnerships 

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If you are two or more individuals, coming together to operate as a business entity -- then your organization can be classified as a partnership.

A heads up though!

Regardless of the ownership structure, every individual is fully liable for any debt on the partnership.

The partnership profits are generally distributed to the partners in the ratio of their stake holding. A partnership should be able to pay off all the debts. Financial data would be compared for the last two financial years.

 

Sole Traders 

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The assessment of this loan is similar to the consumer loan application. The lender will calculate the surplus based on income available after paying all the business expenses, general living expenses, any current loans, credit cards, and others.

Still not sure which category you fall into? Check out this video from the Australian Taxation Office (ATO) to get detailed information about each structure.

 

A Few Tips From Our Team On Getting Your Business Loan Approved

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Although it is essential to know about what category of business you fall into, I do have a few generic tips on how to guarantee a quick approval on your business loan.

Keep track of your trading history!

Yes, this holds paramount significance. Longer the trading history, better are the chances of loan approval.

Pro Tip: It is a clever idea to wait for at least one full financial year (if your business is new and has been running for less than 12 months) before applying for a loan.

For new start-ups, provide an accountant-prepared financial projection for the next 12 months in the business. Make sure that you provide enough documents showing how the figures will be achieved in the business. An example of this is -- contracts in place with existing clients, new contracts, and others.

Explain what positive changes will the management bring in the business.

Always offer any deposit money on the loan (if possible).

If there are any credit defaults, be upfront in disclosing that information to the lender. Typically, any lender would want to know under what circumstances did the default occur and if it has been paid. However, it is always advisable to maintain a good credit score.

Calculate your debt-to-income ratio. This will offer a clear visibility of the difference between liabilities and income. If the gap is too large, you might be refused a loan. However, small businesses are under greater scrutiny, since larger corporations often have a higher debt ratio.

Determine your collaterals that you can provide. Banks usually seek immovable assets as collateral such as a house, machinery, stocks and bonds, inventory, vehicles, annuities, jewellery, and others.

Prepare a business plan well ahead. This renders you creditworthy in the eyes of the lender and gives him an idea of your loan repayment target. A bank might also want to go through your tax returns, balance sheets, profit and loss account, and other business-related documents. Therefore, keep all documents in place to fast track the loan approval process.

Another important factor is cash flow. This is essential when the amount is huge, since it is a reflection of your overall business health.

 

Do You Need To Enquire On The Various Types of Business Loans?

Definitely you do! If you are a resident in Australia, there are several banks at your disposal with a myriad of options for business loans.

Pro Tip: Settle on the right alternative depending on your requirements.

Here are the major types of commercial financing options in Australia: 

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Line-of-credit Loans

These short-term, low-risk loans are advanced to small-business owners for purchasing inventory and paying operating costs for working capital and business-cycle requirements.

They're not intended for purchases of equipment or real estate.

Upsides: With lower interest rates, it requires comparatively less negotiation, can be availed for one year, and are payable at monthly instalments.

 

Instalment Loans

Payable through equal monthly payments, that cover both principal and interest, this category of loan is offered to meet all business needs.

If monthly instalments are not appropriate, you can also settle for quarterly, half-yearly, or annual payments.

 

Balloon Loans

A balloon payment is a fraction of your entire loan payment where you pay a lump sum amount at the end of your loan term. This means you make reduced payments throughout your loan tenure, thus rendering this option quite advantageous for entrepreneurs.

Who should opt for it?

Businessmen facing a cash crunch in the beginning but expecting liquidity to move at a faster pace in the near future can immensely benefit from this contract.

 

Interim Loans

Interim loans are availed in order to make periodic payments to contractors who have been allotted the task of building new facilities. Here, the mortgage on the building will be used to pay off the interim loan amount.

 

Secured And Unsecured Loans

An unsecured loan is approved when your lender is assured that the business is healthy and payments will be received on time. It requires no collateral, but does need records of the enterprise’s track record of profitability and success.

A secured loan comes with a collateral -- such as inventory or real estate. With lower interest rate than the former option, it involves lesser scrutiny and paperwork with regards to your business as compared to an unsecured loan.

 

Letter Of Credit

Going global? Then this is your perfect option. A letter of credit is generally used in international trade. This document is a guarantee for payment to suppliers in other countries.

 

Conclusion

As you can see, business loans can be availed from various lenders according to the type of loan, tailored as per your business structure and requirements. If you do proper research and can anticipate what the bank will review and scrutinise, you can increase your chances for a quick approval.

Disclaimer

Whenever in doubt, it is always recommended to seek counsel and advice from your accountant.

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