8 steps to consolidating business debt
If your company is struggling with cash flow, your business might benefit from consolidating your business debts into a single monthly repayment. Read on for a full guide on business consolidation.
Carrying multiple loans and experiencing difficulties with cash flow, be that because of debt, an unprofitable contract or a general reduction in business can be really stressful.
However, you could consider business debt consolidation. And your business might benefit from the transition to a single monthly debt repayment and the potential reductions in interest that a debt consolidation loan could offer.
How does business debt consolidation work?
Business debt consolidation can help make your debts more manageable — and potentially more affordable, too, if your debts are for high-interest forms of financing, such as credit lines, merchant cash advances or credit cards.
To begin with, you’ll need to research which consolidation providers and business loans options offer the best terms for your circumstances. Check your credit profile to get a better understanding of where you stand.
After you’ve found a consolidation lender you decide which of your business debts (if not all) you wish to consolidate. You then apply for a new business loan, the proceeds of which you can leverage to pay off those loans you have chosen to consolidate. You make repayments on the new business loan under the terms set out by your provider.
How to consolidate your business loans
You’ve practised due diligence, conducted your research and concluded that debt consolidation is the way forward for your business. But when planning how to consolidate your business debts, and preparing your business loan application, what steps do you actually need to take?
1) Think about your goals
What are you looking to achieve by consolidating your business debts? A lower rate? Lower repayments? Additional cash flow? Alternatively, it may be that you’re finding the management of multiple debts stressful. Understanding your own motivation for consolidation will help when you need to choose a loan provider.
2) Review your debts
It’s important to take into account all of your business’s debts, be they for credit lines, loans or credit cards. Note the interest rate, the amount owed and repayment term for each. Add up the total amount owed.
If you do decide to move forward with a debt consolidation loan, contact your existing loan providers for the exact settlement figure before you proceed.
3) Decide which loans to consolidate
The type of debt you consolidate can affect the outcome of the consolidation process. For example, if you’re looking for more cash in hand right now, you might seek to consolidate only those debts with the largest payments and shortest terms. On the other hand, of course, you may want to consolidate all your debts to simplify your life and reduce the stress of their administrative requirements.
Whether you decide to consolidate some or all of your loans, make sure you can afford to manage all the repayments you have to meet.
4) Watch out for prepayment penalties
Read the small print on your existing loan agreements. If your current provider imposes penalties on early loan repayments, you’ll need to take that into account.
5) Decide which consolidation option is right for your business
How likely are you to qualify for each type of loan? If your credit score is healthy then your bank may yield favourable loan terms. You may be considering an online lender because of the simple application process and speedy funding. Some online lenders will get the consolidation loan to you in just a few working days.
6) Organise your accounts
Your lender may well request copies of your tax returns from the previous year or two, along with financial statements, credit reports, bank statements and a summary of your business plan. It will help to have the relevant paperwork ready to go.
7) Apply for the loan
The moment you’ve been waiting for! Once you’ve completed the lender’s application forms and submitted all required documents, there’s nothing left to do but sit back and await their approval decision. If you are successful, you will of course need to provide them with your bank account information in order for them to process the loan.
8) Pay off your existing loans with your new business consolidation loan
Ask your original loan providers for a precise payoff amount to account for any finance charges or interest that may have accrued since you applied for your business consolidation loan. Request confirmation from the lender that the loan has indeed been paid in its entirety and that the balance is now zero. It’s also worth considering a monthly appraisal of your credit reports to check the account history has been updated in reflection of your payment.
Business consolidation vs. debt refinancing
It’s imperative to understand the distinction between business consolidation and debt refinancing. The two are often referred to interchangeably, but they are not the same thing.
When you consolidate your business debts, you take out a single new loan to pay off two or more existing loans. The interest rate you pay may be different to the average you’ve been paying on your current loans.
When you refinance your business debt you also take out a new loan — but there are two key differences:
- You can refinance a single business loan. There doesn’t need to be multiple loans involved, unlike with business debt consolidation.
- The goal of refinancing is to either get a lower interest rate on your business debts or free up capital.
Business debt consolidation serves to combine multiple loan payments to increase their manageability. A reduced rate or payment is often just a bonus. Refinancing can enable a business to find a more favourable rate. It might also afford directors the opportunity to renegotiate their debts’ terms with their business’s needs.
Is debt consolidation right for my business?
There are many factors to consider before applying to consolidate your business loans. It won’t necessarily be the best option for your company, so it’s crucial to weigh the pros against the cons with regard to your business’s specific situation.
- Lower interest rate. The higher your interest rates, the more you’ll pay on your loan. But, if debt consolidation enables you to reduce your interest rate, you could save your business a significant amount of money. If the lowered rate also decreases your monthly repayments, you could funnel those savings right back into your business.
- Potential for enhanced credit score. If the aim of your consolidation loan was to have one, more manageable repayment, then it stands to reason that if you successfully manage the loan, your credit score will benefit from demonstrating your ability to manage your finances.
- Manageability. Time is a finite resource, as any business owner is only too aware. Managing multiple monthly payments can be a logistical conundrum. A business consolidation loan has the capacity to eliminate much of this stress by whittling away the majority of those bills, due dates and interest rates.
- The payoff could end up more expensive. If you extend your loan term to secure lower repayments, it will (by definition) take you longer to pay off the debt. This in turn is likely to lead to increased overall costs, and the entire endeavour might end up costing your business more than if you’d stuck to managing the repayments of your various loans on an individual basis.
- A lower rate is not guaranteed. The interest rate you are granted for your business consolidation loan is contingent on several factors:
o How much you’re borrowing
o Your creditworthiness
o The type of lender and loan
o Your business history
This means that, despite having consolidated your debts, the rate you ultimately end up with may not actually be lower than that which you were paying before.
- Consolidation won’t address deeper cash flow issues. Freeing up cash by taking out a business consolidation loan can be a first step for business owners who are feeling the pinch, but it’s not a permanent solution. If your expenses continue to grow as revenue flatlines or even falls, you may end up only taking on more debt as you attempt to keep the company afloat. In the long run, this could leave the business worse off financially.
What debt consolidation options are available to my business?
Understanding what options are available to you when it comes to consolidating your business debts can help you identify which type of loan — if any — would benefit your business.
Financial institutions such as credit unions and banks offer consolidation loans with competitive interest rates, not to mention repayment terms of up to 10 years. If you have established and nurtured a healthy relationship with such an institution, whether personally or as a business, you may qualify for reduced fees or a discount on your loan.
That being said, some banks prefer businesses that have been operational for a good number of years and that can demonstrate solid revenue and a good credit score. Debt consolidation loans can help solvent companies get their finances in order. However, if your business is facing insolvency and insurmountable debts, there are other options out there.
Individual voluntary arrangement (IVA)
An IVA is suitable for sole trader debts. You repay what you can afford over a five-year period. This can be beneficial to sole traders because they are personally liable for their business’s debts. In effect, an IVA protects the business from legal action whilst enabling it to continue trading.
Company voluntary arrangement (CVA)
The CVA is similar to the IVA in that it allows limited companies to consolidate their unsecured debts and repay them over a period of time, most commonly five years. This can afford directors the security and time necessary to restructure and diversify their offerings in order to beget future success.
Partnership voluntary arrangement (PVA)
The PVA is similar to both the IVA and CVA but involves partnership debts. An individual partner may concurrently carry an IVA for personal debt.
You don’t have to manage your business debt alone
When your company is battling against debt, it can feel like nothing’s going right for you. However, if you face your issues head-on and practice due diligence in researching how best to manage your business debts, you could face these challenges.
Where to go for debt advice
We have pulled together a list of organisations to help individuals who are in debt.
Getting back on track
NerdWallet provides free, impartial comparisons of business loan providers. Taking the time to get your finances back on track will allow you to focus on what’s important: creating a business that is viable, profitable and successful!
Peter reports on a number of areas in the personal finance sector, with a particular interest in supporting businesses and individuals in the UK services industry. Read more