Do you give credit the credit it deserves?
Starting your own business or growing an existing one? Credit could help you fast track your success. And if used the way it was meant, it can equal big returns for your business.
But using credit can come at a cost – plus interest – so it’s very important to weigh the benefits and risks carefully. We have some rules to live by when using credit for your small business.
How to use it: If opportunity comes knocking, credit can give you the ability to access funds immediately. It can also be a safety net for when something comes up. For example, maybe you need to replace an old computer, or get a new van for your dog grooming business. Credit can help with that.
When to use it: Ideally, to reduce borrowing costs, you’d use credit as a supplement to other business savings or investments. Every business is different- there’s no one-size-fits-all method for determining how much to borrow. What’s most important is to know how much you should take out. Ask yourself: will using credit put you in a position where you can grow and thrive?
What kinds of credit are available to small businesses?
- A business loan funds a specific, one-time expense. The business owner applies for credit at the time that they need financing. Loans typically require regular, fixed monthly re-payments over a pre-determined period.
- A business line of credit gives you a pre-approved amount for use as you need it. Repayments may vary based on the amount outstanding – if you haven’t drawn on the available credit, you won’t need to make any payments.
- Business credit cards provide re-usable credit with different payment obligations based on use and outstanding balance. They’ll give you the added convenience of using them for point-of-sale and online purchases.
Be careful with credit cards
It’s important to not be overly dependent on credit cards. That small piece of plastic can cause a lot of damage when used in excess.
Know when to use a credit card and when to look into a loan or line of credit. Credit cards can be handy, but ideally you should have a payment plan for credit cards and monitor their use by your employees to make sure there are no surprises when you get the bill.
What do financial institutions look for in a credit application?
- The 4 C’s: Cash flow, Collateral (any security required), Commitment (any money the business owner is putting down), and Character (the credit history of the business owner/s).
- The type and history of the business. They’ll look at the applicant’s financial background, the type of credit, plus the amount. Typically, taking out a large amount yields a greater ask from the financial institution.
- Remember to shop around. Talk to several different banks and/or credit unions to see how they can meet the particular needs of your business. Their specific requirements might vary, depending on your situation and their policies.
Letters of credit
If you’re going into business overseas, look into a letter of credit. Financial Institutions will use these in the import-export sector to guarantee future payments for goods when the buyer and seller don’t know each other.
How they work: The buyer typically applies for the letter of credit from their financial institution. Once the credit has been approved, the buyer sends this to the seller. When the items are delivered, the financial institution makes the payment from funds loaned to the buyer.
Why they’re good: A letter of credit protects buyers and sellers in trade transactions. It’s a security blanket that goods will be received before any payments are made. Plus, the seller has the word of the financial institution that they will be paid after delivering the order.
Written by Kirk Croswell, Associate, Business Banking, Coast Capital Savings Federal Credit Union.
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