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Borrowing money

To loan or not to loan: when to borrow for your business

Borrowing money

For most start-ups, the biggest obstacle is lack of money. Whether it’s initial start-up capital or regular cash flow, funding is a constant thought on many entrepreneurs’ minds. And for good reason too: a lack of funding is one of the most frequently cited reasons for start-up failure.

As a result, many start-up owners are turning to loans to make ends meet. These can help keep a business afloat in the short-term, but may lead to more problems such as debt further down the line. So should you seek out a loan as a start-up? And, if so, how do you secure such a loan?

Questions before you apply

Firstly, before applying for a loan, it’s a good idea to ask yourself some pertinent questions. If you’re unsure of the answers, then discuss them with a small business accountant:

How much do you really need?
A month-to-month cash-flow projection can help to work this figure out. Venture towards over-estimating rather than under-estimating, as the latter can cause problems down the line.

Will you qualify?
Knowing if you will qualify beforehand is important, as multiple failed applications will lower your credit score and affect your future prospects.

Do you have the cash flow to repay the loan?
Don’t go to a bank without a clear plan of how the money will be used and when you can expect to repay it. If you are able to reasonably demonstrate how you will return the funding, it will boost your chances of securing a loan.

Is the loan going to help your start-up to grow?
Use the money wisely and focus on growth. If you plan to throw good money after bad, then it’s time to examine your circumstances and see if you’re in what an economist would call the ‘sunk cost fallacy’ – where you continue to push on hoping to recover your losses, despite it being unlikely that you will.

Are your personal finances and documentation in order?
Incorrect or missing paperwork can often prevent a loan from going through in the first place. Before and during the process, make sure all your papers are in order and presentable. If it’s proving difficult, then consider hiring a specialist accounting and bookkeeping service to help you get everything together.

Are start-up loans a good idea?

More and more people are starting up businesses. In 2016, nearly 700,000 businesses were created in the UK – up 50,000 from 2015. The number has been attributed to government-backed programmes such as the aforementioned Start-Up Loans scheme, as well as the wider Start-Up Britain initiative.

However, on average over 30% of business owners who secured finances through the UK government-backed Start-Up Loans scheme defaulted on their repayments. In light of this, banks are notoriously wary of start-ups, and lenders need to see evidence of capital, assets, collateral, proven capacity and an impressive credit rating before they will even entertain the thought of parting with their cash.

Before going to a lender, make sure you meet the basic criteria for a loan. You need to be clear about the purposes of the loan, demonstrate how you will repay it, and find ways to reduce risk to the lender.

When should you apply for a loan?

Those with an already existing start-up are eligible to apply for a loan from the Start-Up Loans scheme, as long as they can demonstrate the potential for growth. This can mean loans to rent new premises, purchasing new equipment, investing in marketing materials or creating a website.

The scheme can also help start-ups that are struggling to grow due to cash flow issues. They can be caused by late payments from clients or an attempt to fulfil an unexpectedly large order from a customer. In these instances, a loan can fill the gap until the normal finances catch up again.

If you have hired professional help to grow your start-up then mention it during the application, as this will also improve your chances.

Other avenues of funding

Financial support from friends and family can help get you started, and the money doesn’t come with a high interest rate. However, the amount they can loan is often small, meaning this is usually only an option for new or very small businesses.

Crowdfunding has also become an important option for start-ups. Websites like Crowdcube allow investors to purchase equities in a company, and it’s becoming an increasingly common source of funding. In 2017 the platform generated £130 million of investment and launched 325 businesses, and in 2018 they have encouraged a record-breaking £50.4 million of investment in Q3 alone.

Lastly, angel investors are also a good alternative for eager entrepreneurs. Popularised in the UK by the TV show Dragons’ Den, it’s estimated that there are close to 20,000 business angels within the UK, investing £850 million a year. These investors tend to have quite a few years of experience, and they are often a valuable source of both money and networking opportunities.

You can find out more about alternative sources of funding from our blog ‘How to acquire funds for your business’.

Turn to Tax Agility – the small business growth specialists who can help

For new start-ups, loans are an enticing way of getting a business going quickly. However, for older start-ups, they can serve a crucial role in allowing them to grow their business and helping them deal with cash flow issues.

There is no right or wrong ‘catch all’ answer to the question of whether a loan is the correct choice. Each business is unique, so it is up to entrepreneurs – with the help of a financial adviser or accountant – to determine whether a loan would be good or bad for their business fortunes.

You can also turn to an accountant for help. At Tax Agility, we specialise in growing small businesses and start-ups, and we can help you decide whether a loan is beneficial for you and advise you on how to secure one.

To find out more get in touch on 020 8108 0090 or use our Online Enquiry Form.

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