Starting a small business can be an exciting and challenging endeavor all wrapped into one. 58% of small businesses report that one of the biggest roadblocks they face is getting business loans to grow their business.
On the flip side of the coin, the same report indicates that a measly 39% of mature firms share the same difficulty. For a company to grow and spread its wings, it needs access to credit.
One of the most common approaches company owners take is to apply for personal loans to finance their small businesses. The question is, is it a good idea?
This personal loan guide weighs the pros and cons of taking a personal loan to help you determine if it’s right for you. Read on.
The Pros of Taking a Personal Loan for Your Small Business
Many credit financing institutions categorize small businesses in their infancy stages as high-risk. However personal loans present a more viable alternative to credit financing. Here are some of the advantages.
1. Favorable Terms
When you apply for a personal loan, financing institutions look at your personal credit history and not that of your business. In fact, in most cases, the terms you’ll get are more favorable than those of business loans.
2. Funds Are Disbursed Quickly
One of the best things about applying personal loans for small business is just how quickly you gain access to the funds. You don’t have to spend time drawing up extensive business plans or providing mountains of documentation just to be considered.
The entire end-to-end process can take as little as a couple of days. If you need fast financing for your small business, getting a personal loan is your best bet.
3. No Collateral Is Required
To get a business loan, you need to put down collateral. This would be in the form of assets or inventory. In the event that you fall behind on your loan repayments or end up defaulting altogether, the lender is at liberty to seize those assets.
Applying for an unsecured personal loan, on the other hand, doesn’t require you to put down collateral to access credit. Defaulting may hurt your credit score but your assets are out of bounds to lenders.
4. Flexible Repayment Terms
If you qualify for a business loan, the repayment terms alone are enough to take the wind out of your sails. Your business will have to commit to making regular repayments on a daily or weekly basis.
With a personal loan, the terms are more laid back. Loan installments are made on a monthly basis which allows you to budget and nurture your small business.
5. Lenders Don’t Dictate How You Use the Funds
Business loans limit the use of funds to only business-related expenditure. For instance, if you took out a business loan to purchase inventory, you have to direct the funds to do just that.
With a personal loan, however, you can split the funds between business expenses, personal expenses and any other pressing needs that may not necessarily be related to your small business. This makes personal loans a great option for self-employed individuals, sole-proprietors or individuals with startups with cash-flow constraints.
6. Enjoy Lower Interest Rates
Having an excellent credit score makes lenders sit up and pay attention. You get to enjoy low APRs compared to those on business loans. This gives you the perfect opportunity to grow your business without worrying about hemorrhaging funds through exorbitant interest rates.
The Cons of Personal Loans for Small Businesses
Based on the pros above, applying for a personal loan for your small business might seem like a no-brainer. But are there concerns you need to be aware of before you apply? This section explores a few of them.
1. Your Personal Credit Score Is on the Line
If you take out a personal loan for your company and your business takes a nosedive financially, your credit score will suffer as a result. This makes it a lot harder to qualify for future loans, lines of credit, credit cards and mortgages. What’s more, personal loans also increase your debt-utilization ratio which effectively bumps down your credit score.
2. Limit on Borrowing Capacity
Personal loans have much lower borrowing limits than those of business loans. This might prove to be inadequate if you have extensive expansion plans for your business. For this reason, applying for a business loan is a better alternative.
3. No Tax-Deductibility
While interest rates on business loans may be tax deductible, those on personal loans are not. The IRS doesn’t extend the same courtesy to personal loans.
You’ll, therefore, have to pay higher amounts in taxes than you otherwise would, had you applied for a business loan instead. Personal loans might limit the growth of your business in this way.
4. Risk of Loss of Assets
If you default on a secured personal loan, you run the risk of losing your personal assets. So if you used your home, car or any other personal asset to secure the loan, the lender reserves the right to seize those assets.
The Verdict
Taking a personal loan for your business isn’t for everyone. You should only take them as a last resort when all other avenues of credit financing for your small business have failed.
Business loans, on the other hand, provide a much better alternative to growing your small business. You qualify for substantially higher amounts that can positively impact your business’ bottom line. Use the personal loan tips in this guide to help you determine if it’s right for you.
What are business loans and how can you get one? Follow these 7 quick and easy steps to access capital to grow your business.