Small business owners know how crucial it is to have access to a reliable source of funds. A new opportunity may require you to come up with a large sum of money at short notice. Or a few big customers may be slow in making the payments that are due to you, and you may need cash to meet your day-to-day requirements. At these times, you may ask yourself, “How much can I borrow for my business?” and “What can I do to ensure that my loan application is approved quickly?”
While these questions are essential, it is equally critical to address two other issues:
- How much will the loan cost? A reasonably priced loan will not burden your future cash flows. On the other hand, a high-cost loan may affect your profitability and could even jeopardize the viability of your business.
- How will you repay the loan? You must have a plan in place to pay the lender the principal and interest on the sum that you have borrowed.
How can you ensure that the borrowing process proceeds smoothly? What are the steps that you must take to get the best possible deal on your loan? Find here the answer to the question “How much can I borrow for my business?” and many more.
Deciding on the loan amount
Small business owners usually need cash for one or more of these reasons:
- Working capital – businesses that are expanding can have increasing working capital requirements.
- Inventory purchases – you may need to stock up for the busy season, or you may get an opportunity to make a bulk purchase at a discount. Access to funds at this point can help to boost your profitability.
- Purchase of machinery or equipment – buying capital assets requires a sizeable one-time investment.
If you ask, “How much can I borrow for each of these requirements?” the answer will depend on several factors.
1. What is the amount of money that you require?
Your loan amount should be equal to the sum that you need. If the lender is willing to provide more than this, don’t give in to the temptation of overborrowing. Why is that? Shouldn’t you opt for the largest loan that you are eligible for? You may think you could always use the money later or even keep it aside to use in an emergency.
But borrowing a greater sum than you need isn’t a good idea. If you have more cash than you require, you may misspend it. It’s highly inadvisable to squander money on non-essential expenditure. To sum up, if your question is “how much can I borrow?”, the simple answer is: as much as you need, no more, no less.
2. Will the sum that you borrow provide a return that is adequate to allow you to repay the loan?
Here’s a fundamental rule that you must follow when you are taking a loan and ask yourself “how much can I borrow?”. The amount that you borrow must be used to purchase a productive asset. The cash flow from this asset also called Return on Investment or ROI, should be enough to allow you to repay the loan.
For example, you may use the borrowed funds to buy inventory. The sale of this inventory should allow you to liquidate the loan amount. Ideally, it should also boost your profitability.
Sometimes, it can be difficult to decide on the loan amount on your own. If you find yourself in this situation, speak with a Camino Financial loan specialist by chatting on this website or calling their main line. You will receive advice that takes the nature of your business and your specific requirement into account. This will allow you to make an informed borrowing decision.
3. Does the payment term of the loan match the cash flows that your deployment of the borrowed funds will generate?
Let’s understand this point with the help of an example. Say, you purchase a capital asset with the loan amount. The equipment that you buy has a life of five years, and during this time, it will generate a constant stream of cash flow for your business. In these circumstances, your loan term should also be five years. If you opt for a shorter repayment period, your cash flow may not be enough to allow you to repay the borrowed amount.
A longer loan term is also not advisable. That’s because your repayments would need to continue when the asset that you have purchased isn’t generating the returns that will allow you to repay the loan.
Getting a small business loan – are you eligible?
When you are asking yourself the question, “How much can I borrow?” you also need to address the issue of the lender’s willingness to advance money to your company.
Banks and other lenders use several criteria to make a credit decision. The inputs that they take into consideration include:
- Your credit score – some lenders have very rigid rules. For example, if your credit score is below a certain level, you may not be eligible for a bank loan. Even the U.S. Small Business Administration (SBA), a government agency that provides financial support to entrepreneurs and small businesses, does not usually extend finance to borrowers who have a credit score of less than 650.
- The number of years your business has been in existence – most lenders stipulate that they will advance money only to those companies that are at least a year old. In some instances, this period could even be two years or more.
- Your monthly/yearly revenues – again, every lender has its own rules. You will have to prove that your business generates a certain minimum level of sales on a monthly/yearly basis.
- Details on your business bank account: average balance, deposits, etc. You can learn here exactly what your lenders are looking for when they review your bank account and how this can impact your potential loan amount.
An excellent place to start your search for a loan is Camino Financial. To qualify for a Camino Financial small business loan, your company should have been in business for a minimum of nine months. You should have annual revenues of at least $30,000 or monthly revenues of a minimum of $2,500. Additionally, Camino Financial does not underwrite based on FICO score. In fact, you can qualify for a loan if you’re applying for the first credit under your name.
Calculating your repayments
Before you finalize a loan for your business, there is one fundamental issue that you must address – how will you generate the cash to make repayments?
This question is very closely connected with the other query that many small business owners have – “How much can I borrow for my business?”
You should answer these two questions concurrently. Borrowing less than your business requires is a mistake. You will not be able to accomplish the goal that you have set out to achieve. But, borrowing more than you need could be equally harmful to your company. If the loan amount is too large, and you can’t meet your repayment commitments, your reputation may be tarnished, and you may find it difficult to raise money in the future.
So, how do you arrive at the correct loan amount? Remember that the important thing here is that you must ensure you are in a position to meet the monthly payments.
And how do you calculate your monthly payments? The monthly payment amount involves three variables – the loan amount itself, the payment term, and the interest rate. Let’s assume that the payment term, which is the period over which the loan must be repaid, and the interest rate is constant. In this situation, a bigger loan will lead to a larger monthly installment.
If you think that you will not be able to meet the monthly payment, you could opt for a longer loan term. A lower rate of interest will also result in a reduced monthly outgo.
It can get quite complicated to adjust the three variables to arrive at the ideal mix.
|Variable||Impact on the monthly installment||What you should remember|
|Payment term||A longer payment term leads to a lower monthly installment||While a longer loan term can reduce the monthly payment, it will lead to an increase in the total interest that you pay|
|Interest rate||Higher interest rates will result in a rise in monthly installments||Try and minimize your interest rate|
|Loan amount||A greater loan amount will have the effect of increasing the monthly installment||Ensure that you borrow the right amount|
You can see that it could be quite difficult to calculate the impact of these three variables – the loan amount, the payment term, and the interest rate – on your monthly installment.
Fortunately, there is a simple solution. All that you have to do is to use Camino Financial’s Business Loan Calculator. Enter your loan amount, the preferred payment term, and the monthly interest rate. The Calculator will immediately tell you the costs involved, your monthly installment, and your total interest cost.
Let’s understand this with the help of an example:
Say, you enter the following details:
- Loan amount: $10,000
- Payment term: 60 months
- Monthly interest rate: 1.25%
The Calculator will tell you that:
- Your monthly payment amount is $237.90
- The total interest over the term of the loan is $4,273.96
- Cost of the loan is $4,972.96 (interest of $4,273.96 + Closing fee of $699)
You can vary the loan amount/payment term/interest rate to arrive at a monthly installment figure that matches the sum that you can afford to pay every month.
While you are doing this calculation, you may want to be conservative in your estimates. If you think that you can repay, say, $500 every month, take a loan that carries a monthly payment of only $400 (80% of $500). This will help you to maintain a margin of safety and ensure that you don’t run short of money.
High-interest rates and other costs can hurt your business
When you are raising a loan for your company, it’s crucial to minimize your interest cost. How can you do this? One basic precaution that you can take is to shop around. Compare rates, and identify the lender that offers the lowest overall cost.
Remember that the interest rate is only one element of the total cost. When you are entering into a loan agreement, you may also be agreeing to pay:
- Closing fees – these could range from 4% to 7% of the loan amount.
- Late payment fees – these are usually charged at a rate that exceeds the interest rate on the loan.
- Prepayment penalties – the lender may penalize you for paying early! Why is that? By prepaying, you are depriving the lender of making a profit for the remaining term of the loan. The prepayment penalty compensates for this. It also discourages borrowers from paying early.
However, the cost of the loan is not the only factor that you need to consider when you are taking a borrowing decision. The profit that the borrowed funds will allow you to make is equally important.
Say, your only option when you want to raise funds is a high-cost loan that carries an interest rate of 30% per year. If you can’t get the money that you need, you will have to pass up an opportunity that would give you a substantial profit. Your gain, even after paying back the loan and the 30% interest that it carries, is significant.
Should you take the loan or not? The answer is quite apparent. As long as the profit or return on investment that you will make exceeds the cost that you incur, taking the loan is advisable.
Start your search for a loan as early as you can
If you start looking for a source of funds when your business needs money urgently, you may be forced to accept the first offer that you get. This could mean borrowing at a high cost. Instead, it makes sense to identify a lender before you need the money.
All that you need to do is to enter a few details on Camino Financial’s website. Submitting a loan application will not impact your credit score. Soon after you provide the information about your company, a Camino Financial loan specialist will get in touch with you and help you to find a loan that is the best match for your needs.