Let’s face it: Few people are starting with such wealth that they can begin a business without having to scrimp or go into debt. While opening a ton of credit lines and borrowing lots of money isn’t necessarily the best choice, neither is avoiding debt as if it were the plague. Like most parts of business management, a good balance is key. Here’s how to determine when going into debt is likely to be good or bad for your business.
Sources of Funding
When you start a business, you’ll usually have a few sources of funding, such as:
- Other income
- Investor funding
Before you have clients, you may not necessarily have income. Some people choose to keep a side job or even a full-time job while they build their business. This isn’t necessarily an easier task, depending on the type of work you do. Savings can be difficult to accumulate, but has the benefit that it’s freely available and never needs to be paid back. Maintaining a variety of possible funding sources, including crowdfunding or investment money, makes debt less of a risky proposition.
One of the first things you have to establish before you take on debt is how you will pay it back. In some industries, people can start a business and find paying clients very quickly. This depends heavily on your location, your competition and the type of work you do. Otherwise, you’ll need to figure out how you plan to pay yourself and your debts, plus other overhead expenses like equipment or materials. This is why a lot of people will build a contracting business more slowly at first, so they can keep other income opportunities flowing at the same time.
If you’ve been waiting for years to be able to start your own contracting business, it’s tempting to start spending as soon as you have the opportunity. But if you rack up a bunch of debt before you have reliable clients and income to pay it off, you’re going to find yourself with too much overhead and not enough profit. Getting into debt on a limited scale to help you get established can be helpful. It will be easier to manage if you can stick to what you need instead of what you’d like. For example, you’ll spend less to pay for rentals on equipment that you don’t need daily than you would to buy them.
Type of Loan
When it comes to getting into debt for your business, the type of loan matters significantly. There are a variety of lending options for businesses, including:
- SBA loans
- Secured loans for vehicles or other equipment
- Credit cards or other lines of credit
- Cash advances
The interest rates that you’ll pay vary depending on your credit and the type of loan. For example, a loan that is secured by an asset, like an auto loan, tends to have the lowest interest rate. Credit cards and cash advances usually carry a higher risk to the lender, so they have higher interest rates. This affects how much you have to pay each month and how long it takes to pay it off. As such, getting one type of loan may be more practical than others, depending on the purpose.
Plan to Pay Off
As a good general rule, you should develop a plan to pay off all debts that you accumulate for the business. This is true for revolving debt like credit cards, as well as loans with a set amount and a defined term. The last thing that you want is to spend the next 10 years making minimum payments on a debt that you could have paid off within a year. Formulate a plan in advance to handle the debt before you take it on. This can help you make sure that you actually need to make the expense, as well as give you a path to manage it.
Funding your business wisely is one way you can ensure it will last. Getting a great education is another. To start building your contracting business, contact CSLS today!