Do you want to refinance your small business loans but lack the know-how? If YES, here are 7 smart tips on how to consolidate business debts successfully.
Table of Content
What is Debt Consolidation?
Debt consolidation is a form of debt refinancing that entails taking out one loan to pay off many others. Debt consolidation can also be said to be the process of combining multiple existing lines of credit and loans into a singular account by getting a loan that can be used to pay off those accounts. Debt consolidation loans often come with low interest rates, and your circumstances would decide how low an interest rate you will typically get.
Why Consolidate your Business Debts?
A small business debt consolidation loan can lower your interest rates and reduce the size of your monthly payments. Debt, especially multiple uncontrolled debts, is very dangerous for a business as it can easily drive a business into bankruptcy. Debt consolidation on the other hand can help businesses regain control of their finances.
Asides this fact, debt consolidation comes with other advantages, and they include;
- It offers reduced monthly payments: When a business has been offered a debt consolidation loan, it would now start making lower monthly payments. This is because the business now has a lower APR (annual percentage rate) and a longer repayment term.
A lower monthly payment helps to ease the stress on the business’ cash flow. That means you’ll have more cash available for normal operating expenses and unexpected opportunities. It may also allow you to avoid additional borrowing in the future.
- It lowers APR: A small business debt consolidation loan comes with lower APR than nearly every short term financing option available. Reducing APR is the main reason businesses take out debt consolidation loans.
- It allows a business to borrow more: It’s not uncommon for small businesses to require some additional working capital when consolidating business debt because the business would still have issues that need to be tended to.
When small businesses get consolidation financing, they may qualify for additional borrowing. This borrowing is made possible because of the lower APR and longer terms of repayment which increases the business’s DSCR (Debt Service Coverage Ratio).
- It simplifies loan payment: When setting up and running a business, a business owner may be forced to get financing from different sources, thus making the entrepreneur to hold debt in a lot of different places. Noting all these different sources and making payments to them every month can be cumbersome. So, rather than juggling multiple creditors, debt consolidation would allow you to make payment to just a single account. The lower rate and longer repayment term will also result in a smaller monthly debt payment.
- Loan payments are more predictable: Many short term loans that are consolidated have variable interest rates. This means that the payment changes over time, and you can’t accurately budget the same amount on every payment date.
This can be very frustrating if your payments end up being more than what you expected. A consolidated business loan with a fixed interest rate helps you more accurately budget what your loan costs will be through the entire term of the loan. You will not have the unexpected payments or frustrations that a variable interest rate loan can bring.
How to Know You are Ready to Consolidate your Business Debts
Not all businesses are ready for debt consolidation, and it can be disastrous for your business if try to consolidate your debts when the business is not yet ready. There are things to look out for that would tell you your business is ready for the debt consolidation journey. Some of them include;
- If you have many high interest loans
If your business is shouldering a lot of high interest loans, then you should start thinking of getting a debt consolidation loan. A debt consolidation loan would enable you pay off these debts with a loan that has a lower interest rate.
The interest rate you can qualify for will depend upon certain factors, including your personal credit score, your business’s annual revenue for the previous 12 months, and the amount of time you’ve been in business. If the loans your business is funding can be described as low interest loans, then you need not bother with debt consolidation.
- If you want to extend your loan term
If your business carries a lot short-term loans that you may not be able to handle all at once, and you are looking for more time to pay off the loans, then you start thinking in terms of debt consolidation to buy yourself some more time before you have to fully repay the debt. This is because debt consolidation would help you consolidate your business debt into one multi-year term loan—or at least a loan with longer terms than your current contracts have allowed.
- If you have a strong credit history
When seeking to consolidate your debt, you are essentially asking to get a higher or larger loan to use in paying off the various small debts you have. In order to grant you a large amount of money, the lender will expect you to have good personal credit and credit history.
Your credit has significant impact on the interest rate and terms that the lender will offer you. Without a satisfactory personally credit, you may not be able to get a debt consolidation loan, and if you were to get one, the interest rate you will get would be quite high.
For you to be considered to have a good credit score, your score should be between 620 and 700. Here is how it is analyzed.
- 700+ is considered an excellent credit score. You will be given options that have lower interest rate.
- 620-700 in combination with a few years in business is a good credit score. You might have options to lower your interest rate too.
- 550-620 is an ok credit score. It’s unlikely but possible that you might be able to lower your interest rate.
If your business profitability has increased
Any time your revenue or profitability increases for 3 consecutive months, then you know you might be eligible for debt consolidation loans, that is of you need one. The minimum business revenue for consolidating your debt is usually around $25,000, and you should have a debt service coverage ratio of at least 1.2.
- If your personal finances received a boost
When you are a small business owner, your personal finances are just as important as your business finances for getting a small business loan. When you notice that you have higher personal income (from sources other than the business), lower personal debt, more equity in real estate, fewer dependents, reduced household spending, then know that you qualify to get a debt consolidation loan.
- If you have been long in business
Businesses that have operated for longer periods of time have longer financial histories and proof of profitability and success. This goes a long way when you’re applying for a business debt consolidation loan. Your business should be at least one year old before you can be eligible for a business debt consolidation loans
7 Smart Tips on How to Consolidate Business Debts Successfully
The right time to consolidate your business debts depend on the terms of your existing debt, your business’ current finances, and your personal credit. When you apply for a small business consolidation loan, be sure to follow these simple steps to ensure that you are optimizing your debt consolidation.
- Gather all your current business debts
To gain a full understanding of how much debt your business has, you have to pull together all your business debts including all your debt statements. You need to know the outstanding amount on each, the lender, the interest rate, the maturity date, and the payment schedule. Knowing this would enable you know how much to request for.
- Check if any of your debts have prepayment penalties
Remember that with a commercial debt consolidation loan, you are getting one large loan to pay off several smaller loans. Paying off the smaller loans before their maturity date could trigger prepayment penalties. You have to note this and then find a way around it.
- Categorize the debt
As you review each statement, decide if it is debt that needs to be paid now or if it can be put off until later. You may choose to consolidate some debts and not others, or you may wish to consolidate the total debt the business has. After that, you then have to add up all the debt you want to consolidate.
- Compare the interest rates and calculate APR
You need to compare the interest rates, fees, terms and conditions of the potential debt-consolidation options you have been offered before deciding which one will be the most beneficial to your business situation.
You’ll also want to know the average annual percentage rate (APR) of your existing loans, so you know what interest rate your new loan has to beat. APR is not the same thing as interest rate. APR is the annualized interest of a loan, including all fees, and it gives you an honest assessment of the cost of the loan.
- Shop around for a business debt consolidation loan that would suit you
After knowing the kind of loan your business would need, you now have to start actively looking for lenders that can give you the loan. You can visit your local bank or check out online lenders to see if there are new loan options at your disposal.
- Compare your current APR and know whether to accept the offer you’ve been made
Before you proceed, you should get the APR on the new loan and see how it compares to the average APR on your current loans. It is great news if the APR on the new loan is lower, but that is essentially not everything. The new loan might also have a much longer term, which means you’ll end up paying more in interest over the long run. You’ll need to figure out if the new loan makes sense for your business, given your specific finances and priorities.
- Sign the new loan agreement, and use the capital to pay off existing debts
Once you have made a choice, you are now required to sign and obtain your debt consolidation loan. In most cases, you’ll actually never see the money that goes to pay off your existing lenders. The new lender will divide up the money among your existing creditors on your behalf. By so doing, you now have just one lender, and this lender will start to send you statements, and you will start making payments to them.
- Reach out for debt counseling
Seek commercial debt counseling from a company that specializes in business-debt consolidation. Commercial debt counseling will help you create a plan for paying off the business debt, and the debt counselor assigned to your business will help you carry out the plan so as to prevent you from defaulting and racking up more problems for your business. Note that this service is not free as you have to pay for it, but the good news is that you can put it under your debt consolidation loan.
4 Best Options of Debt Consolidation Loans Available to Businesses
There are different ways business can get debt consolidation loans, but note that your commercial debt consolidation loan options will depend on your specific situation. Your credit score, your business’s revenues, the age of your business will all impact the business consolidation loans that are available to you. Here are some of the best options.
- Bank loans
Getting a traditional loan from the bank is one of the best ways to consolidate business debt. Banks are good because they have low interest rates, their loan terms are long and they can give out huge loans. The term rates for banks are around 10 years, their interest rates are usually under 10 and their payment frequency is monthly. But on the downside, banks only approve the most qualified borrowers.
Asides bank loans, another debt consolidation source available to businesses are SBA loans. The Small Business Administration (SBA) guarantees loans made by banks and other direct lenders. The guarantee can help you qualify where you might not otherwise have qualified for traditional bank financing.
SBA 7(a) loans can offer up to $5 million, their term length is 7 – 25 years, their interest rates start at 6.75%, while their payment frequency is monthly. To get an SBA loan, you are required to have strong credit and strong business base.
Fundation is an online lender that also offers business debt consolidation. They provide loans of up to $350,000 for businesses who require such amount or an amount under it. Their loan term is between 1 and 4 years, interest rates are between 7.9% and 28.9%, while their payment frequency is twice a month. Fundation is also easier to qualify for than a bank or SBA loan.
- Lending Club
Lending Club is another online lender that offers slightly less capital than Fundation. They offer up only $300,000. This then means that their loans are for businesses that do not carry a lot of heavy loans, or for small businesses. To make up for their meager loan offer, Lending Club has competitive terms that keep it in the running for top business consolidation loans. Their loan payment term is 1-5 years, their interest rate is between 5.9% and 25.9%, and borrowers are required to pay back monthly.
As a side note:
When you feel that it is time to consolidate your business debts, you should make it a priority to find a reputable company that will work on your behalf to negotiate the best terms with your creditors. You need to talk to a lot of them to compare interest rates before you can reach a conclusion. You may also want to consult a financial adviser to ensure you aren’t overlooking any important considerations.
As you go ahead, you may also want to consider whether you want a secured or unsecured consolidation loan. While secured loans often come with better interest rates, they’re backed by a significant asset as collateral. Note that if you are in a lot of financial mess, you may risk defaulting on your payments, and as such lose your valuables. You’re probably better off with an unsecured loan, even at a higher interest rate as long as it’s serving you a good purpose.