Small Business Loans & Long-term Finance
If you are considering purchasing any form of fixed asset, for example, plant and machinery or vehicles, you must obtain long-term finance. In addition, it is prudent to obtain that finance on repayment terms linked to the likely life of the asset. For example, if you are purchasing an asset with a working life of three years, it would be prudent to repay the necessary finance over the same term. In most cases the lender will indeed insist upon this. It would be futile for them to lend you money over ten years for an asset that will only last for three years.
Loans
Business loans are available from a wide variety of sources and on a wide range of terms and conditions. Some are secured on assets of one kind or another and some are available on an unsecured basis. As with all forms of finance, you need to know and understand the exact conditions under which the loan is being made available.
One thing to look out for is early repayment penalties. Even if you do have the means to repay the loan early it could cost you extra in terms of a fee or penalty interest. Most loans are covered by the various consumer credit legislation. They now give you 'cooling off' periods and a lot of the somewhat dubious terms and conditions that were previously imposed have been made illegal.
The majority of business loans are provided by banks and are usually subject to a minimum amount of £1,000 and a maximum amount of £lm. Repayment terms are also flexible, depending upon the purpose of the loan and can range from a 12-month period up to 20 years. In some circumstances it is also possible to arrange a capital repayment holiday where only the interest needs to be repaid for the defined term of the holiday. This can be advantageous for a new business in that it keeps expenditure down to a minimum whilst income is being built up from trade. This type of deferred repayment should be available regardless of whether you opt for a variable rate or a fixed rate loan.
Variable Rate Loans
Variable rate loans are entirely flexible but you need to be aware that this can actually cause you problems if the base lending rate increases. The bank will usually review your outstanding loan on an annual basis and if the base rate has increased substantially during the past 12 months this can also lead to a substantial increase in your repayments.
On the other hand, the bank may be willing to extend the repayment time-scale to allow you additional time to pay off the loan. Either way your costs have increased and this can only come out of your business profits. It can also make budgeting very difficult.
Fixed Rate Loans
Fixed rate loans have three specific features which are designed to take away the uncertainty of using a variable rate loan:
- The interest rate for the entire period of the loan is fixed from the outset.
- The monthly repayments are fixed for the full term of the loan.
- The full term of the loan is also fixed.
This means that you know from the outset exactly how much your repayments will be each month and how long the loan will take to repay. This cannot vary throughout the entire period of the loan. As you might expect, however, there can be a financial cost for this certainty.
It is likely that the interest rate that you will be offered will be higher than a comparative interest rate for a variable rate loan. What you have to remember is that by offering the fixed rate the bank is having to make assumptions about how the base rate is likely to move in the future. In effect this additional cost is the premium that you have to pay to ensure financial stability.
