The word “debt” isn’t one that people typically get excited about. “Woo-hoo! Debt! I love it so much!” That’s just not really something people say.
But particularly in business, debt is not necessarily a bad thing. In fact, in some cases it may even be a good thing! When used correctly, debt is a calculated risk that helps your business grow. And growth is a very good thing!
Changing the connotation around business debt simply comes down to finding which form of debt will help—not hurt—your business. For that, an increasingly popular form of debt among small business owners has been short-term debt, or, in other words, a short-term loan.
Short-term loans often come in smaller amounts, are repaid faster than traditional loans, and hold higher interest rates (often much higher) than longer term loans. But although short-term loans may be one of the pricier loan options available for small business owners, there are times they can benefit your company.
So when should your business consider taking on short-term debt? Let’s take a look at some of the most common scenarios.
You want to take advantage of an opportunity
As a small business owner, you’re probably used to small unexpected expenses popping up. If you have a little extra money stashed away and you’re able to cover those costs, there’s not much to worry about. It’s when you can’t cover costs that the real problems arise.
However, sometimes those unexpected costs precipitate a major revenue-generating opportunity. For example, let’s say you own a T-shirt design studio and you just received a huge order that you can’t financially fulfill. Are you going to turn down the job, which could cause you to miss out on the extra revenue and could potentially cause you to lose a new customer?
This is exactly where short-term financing comes in. Short-term loans can be a versatile financial tool to help you better manage cash flow, and they don’t take much to secure. They typically require less paperwork than more traditional loans, and they have more lenient standards when it comes to your credit score. And in the above scenario, if a short-term loan with a relatively high-interest rate would still cost you less than you would make in profit from the sale, it could make sense since you’d know exactly how you would be paying the sum back.
You need cash fast
If you try to secure a loan from some of the more conventional lenders, you could be waiting a few weeks or even months to get your hands on any money. So if you need the money in a pinch, as in our T-shirt example, there’s a good chance you won’t be able to wait that long.
When you have a need for speed, sometimes a short-term loan is the best—or only—available answer.
Your credit isn’t stellar
When it comes to getting the absolute best interest rate around, traditional bank loans will always be your first and best option. But the reality is that most small businesses that apply for bank loans get rejected—most simply don’t have strong enough credit to qualify for a traditional bank loan.
There are other loans you can apply to if this is the case (longer-term online loans) that have lower rates than short-term loans. But if your credit score is below 620, you will have a tough time qualifying for those types of loans. If you are below a 620 (but above a 550), a short-term loan might be the right option.
You only need extra cash for a little while
As the name suggests, short-term loans have a duration anywhere between three and 18 months. This means the debt gets cleared from your books pretty quickly.
On this point, some may argue that you could potentially apply for a traditional term loan but pay it off more quickly than the stated terms. This makes sense if the loan doesn’t have a prepayment penalty. But if you can’t qualify for a traditional term loan, a short-term loan is the next best bet.
What can short-term loans be used for?
Short-term loans are most often used to provide working capital for small businesses. So you might use the loan proceeds for things like inventory, purchasing materials, or to cover payroll.
Keep in mind that since short-term loans are smaller , the repayment periods are much shorter. You’ll find that most short-term lenders require daily repayments.
If you’re considering a short-term loan because you want to take advantage of an immediate business opportunity, it’s a good option assuming your business doesn’t qualify for a more cost-effective form of business financing. Then again, when you’re looking at a short-term loan because you’re in a financial pinch, it can be tempting to jump at the first loan agreement offered to you.
Before you make any decisions, remember, short-term debt is meant to help your business—not hurt it—so do your homework beforehand to make sure you can handle higher APRs and daily repayments. As long as you cover your bases, you can safely pursue a short-term loan without risking long-term financial hardship.
SOURCE: ALL BUSINESS