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Lots of lenders, especially short-term lenders, offer business borrowers more money after their small business loan is about 50% paid down. But how do you know whether or not you should take the offer?
It can be tempting to jump at the chance to borrow more capital—after all, you can find plenty of uses for it, right?
Not so fast. Keep in mind that lenders make more money when they lend you more money, so their offers don’t necessarily have your best interests in mind. Here are 6 questions to ask yourself before making your decision.
You should never borrow money without having a concrete plan for how you’ll use it, what the expected return on investment will be, and whether the cost of the capital is worth that ROI. If you want money “just to have a cushion,” a better option would be to take out a business line of credit. This gives you access to capital when you need it, but you don’t have to make payments until you actually draw on the credit line. You might also want to consider a business credit card for its flexibility—plus, it can help you grow your business credit.
Successfully paying back a loan improves your business’s credit score. That can make a pretty big difference in your fundability, especially if your business was brand-new or had a poor credit score when you originally borrowed. Especially if this was your first business loan, your chances of securing another—possibly with better interest rates or repayment terms—are probably a lot higher. Making every payment on time, in full, will go a long way to improving your financing in the future.
You may have ideas for ways you could use an infusion of capital for long-term purposes, such as purchasing a building, but a short-term loan isn’t the best vehicle for financing long-term plans. In this situation, taking out a bigger short-term loan wouldn’t make sense. You should always match the term of the loan to the purpose you plan to use it for.
Now that you’ve proven yourself by paying back at least 50% of the loan, it’s fair to expect better terms and interest rates the next time around. But is your lender willing to adjust the terms of the outstanding portion of that loan? If not, can the additional funds be used to pay off the original loan without any prepayment penalties? (Learn more about the pros and cons of paying off a short-term loan early… You can save yourself quite a pretty penny by being prepared.)
It can get real confusing when comparing the cost of loan products from alternative lenders—especially for short-term loans. Different repayment terms (daily, weekly, or monthly), lots of fees, and non-standard interest rates make it difficult to figure out what you’re actually paying over time—and how loan repayments will affect your business cash flow. Putting every loan into APR can show you the differences between their interest rates and fees, but it’s not always so cut and dry.
These loan calculators can help you run the numbers, but if you still aren’t sure, have your accountant figure out whether the larger amount the lender is offering makes financial sense for your business.
Even if everything above satisfies you, the terms that your current lender is offering might not be the best ones you can get. As your business credit score improves, new kinds of financing will become available. This can mean lower interest rates, larger amounts, and better terms. Always take your time, do some comparison shopping, and find out what other lenders have to offer before making a decision.