Many small business owners find themselves in a cash crunch for a variety of reasons. Perhaps that big order hasn’t come in yet, or more clients have become late payers. Regardless of the reason revenue may have slowed, expenses are coming in like clockwork. Your client needs help, so they turn to you for advice. What can you tell them?
When a business want to borrow money, lenders often use three metrics. This includes the number of years in business, annual business revenue and personal credit score. Businesses in bad financial shape can get loans, but it’s going to cost more. Banks may lend, but they may want a personal guarantee or assets to secure the loan. Your business-owning client needs to know this information.
Because charging a purchase on a credit card or writing a check on their home equity line of credit basically just costs interest, your client might assume business loans work the same way. However, they should expect additional charges for origination fees and other expenses.
As the business owner’s accountant, you should help your client face up to some tough questions. Is the company going through a temporary dry spell? Is revenue forthcoming? When? Is the business really viable, or is the owner putting off its inevitable failure? Is borrowing money at high interest rates a solution to a short-term cash flow problem or the start of a much bigger problem? The firms considering becoming lenders will certainly be asking these questions.
Additionally, you can also recommend one of the following five solutions for cash in a hurry:
- Use Their Bank Line of Credit: This one is pretty obvious. The business is likely paying a floating rate tied to the prime one. For example, if the prime rate is 5.5 percent, your bank might be charging prime plus 3 or 8.5 percent.
- Small Business Administration: Ronald Reagan famously said the nine most terrifying words are “I’m from the government and I’m here to help.” In some cases, though, that’s good news. The Small Business Administration (SBA) offers partial guarantees on loans institutions make to qualified businesses. They have an online lender match tool your client can check out. As of May 2019, the maximum rates on SBA 7A loans are 7.75 - 10.25 percent, while maximum rates of CDC/504 loans are 4.39 - 4.70 percent. The latter is based on 10-year Treasury rates.
- Secured Loans: Your business owner has real estate or equipment their bank would consider as acceptable collateral. These take time because the asset needs to be appraised. Marketable securities are easier to appraise vs. heavy machinery. The loan might be secured by inventory or a claim on future invoices.
- Peer-to-Peer Lending: These folks are intermediaries matching up borrowers with lenders, which might be hedge funds or investment banks. That should be your first clue what rates will look like. Nerdwallet.com (6) gave a few examples in August 2018. For example, one provider would lend for flexible financing at rates between 9.8 - 35.7 percent. The criteria for approval are personal credit score, time in business and annual revenue.
- Credit Card Borrowing: Your client probably has a business credit card. They might decide to max it out and take out a hefty cash advance. It wouldn’t be the first time a business owner took this route. However, interest rates on credit card cash advances can be very high, even up to the 27 percent range, and this is assuming you have very good credit. Bear in mind there are also cash advance fees, too. These might be an additional 4 - 5 percent.
- Short-Term Business Loans: Your business-owning client really needs money, but only for a very short time. There are loans and lenders in that space too. The website nerdwallet.com gives examples of lenders and their criteria. Yes, they might be paying an APR as high as 99 percent. Under these circumstances, it better be a very short-term loan.
If your business-owning client needs money quickly, they have options. As you can see, however, they will not be cheap, so it's important to work with them to find an appropriate solution.