A plan to upgrade or grow existing business operations is often accompanied by the need for a commercial loan. If your existing funds in the bank coupled with the figures on your accounts receivable are not enough to fuel the strategies you documented, you may need to borrow from a formal source of finance.
The start-up culture is thriving in India. Every business journal talks about some new ventures that have gathered their clientele and are on the path of growth. They are confident about their credit worthiness and are aware of the advantages of borrowing rather than pitching in with their own funds. However, in their enthusiasm to expand their operations, most start-ups often don’t delve into different options and often overlook some crucial factors that determine the real value of a commercial loan.
Here are some common fronts where businesses need to be careful about before choosing their loan.
1. Not Understanding the Complete Cost Intricacies of the Loan– The Annual Percentage Rate (APR)
While looking for their loans, most small and medium enterprises (SMEs) only consider the lowest rate of interest in the market. They approach the bank or non-banking finance company (NBFC) offering the same. However, it is only when they look at their EMIs that they realise how much extra they are paying because of the processing fee, the loan insurance premium and other associated costs.
Most lenders mention the cost of their loans in various ways –some talk about the interest charged on the loan but do not emphasize on the other charges stated in fine print. Others tell the applicants about the total money to pay back but there is not much clarity on what proportions go towards the interest and the principal payments. This makes it difficult to compare loan options.
In the age of the internet, most applicants gather the general information on a commercial loan only from the website of the concerned lending organisation. However, to understand the costs of such credit products better, it is advisable to know its Annual Percentage Rate (APR) in terms of interest, processing fee and any other applicable charges.
Along with APR, one must also be aware of the tenure within which the loan has to be paid off and if there is any prepayment penalty in case of an early payoff. This is where borrowing from a FinTech company proves to be a better alternative. Unlike banks, the digitally-active NBFCs, also called FinTech companies allow their clients to clear the debt early without levying extra charges on them.
2. Not Gathering Relevant, Up-to-Date Financial Statements
For many a business, the first ever attempt at applying for commercial finance is saddled with some confusions.
If the organisation maintains clarity but it does not have sufficient formal statements to prove the business’s current financial position, banks are bound by their regulations to reject the loan applications that are not substantiated by all necessary details. Also, they need a business to be active for at least 4 or 5 years before accepting its request for a loan.
Younger ventures that are just over a year old in their industry find it easier to borrow from FinTechs who judge their credit-worthiness based on their documents such as business current account statements, balance sheet, tax returns, cash flow projections and identity proofs.
3. Not Looking at Credit Scores
Reports from bonafide credit information companies matter when businesses apply for commercial loans. In India, TransUnion CIBIL is a trusted source of credit scores and guides many lenders in making decisions on the loan applications submitted to them.
In addition to gathering its financial documents, an SME applying for a loan should gather its credit report from an organisation like CIBIL and make sure that all the information therein is accurate and up to date. If there are any discrepancies, they must be corrected before sending the loan application to the chosen lender.
4. Not Evaluating the Best Commercial Credit Provider
A commercial loan need not always come from the nearest bank branch or the bank in which the business has an account. There are multiple options to choose from. Having understood the actual cost of the loan on the basis of the points mentioned above, an applicant will have a better idea of the lending institution that suits his/her business requirements.
Apart from the choices in terms of lenders in the credit industry, businesses can also choose the best credit product. While banks insist upon their offers of long-term loans, some businesses can do well by procuring a merchant cash advance on the basis of their credit card settlement volume. Such advances are now granted by FinTech companies and it can be paid off in a tenure as less as 6 to 9 months. The idea of lending here is not to maximise interest earnings but to provide flexible and quick loans to an expanding clientele.
FinTechs also offer supply chain finance and customised loan products to different professional categories such as e-commerce retailers, schools and cab operators.
If you are searching for a suitable loan to fund your new business plans, be aware of the common intricacies. The project you have nurtured needs a careful decision on financial matters. Know the full costs of your loan, prop up your application with the right paperwork, take advantage of your real credit score, and ensure that you weigh all the available options. Then apply at a credible lender that suits your business requirements.