Businesses, whether big or small, battle many uncertainties like unfavourable market conditions, payment delays, change in customer demand etc. All such factors directly impact the financial position of the business and may limit its financial flexibility.
If your business is already in debt, then the impact of uncertainties is much greater. In such a scenario, apart from revising your business strategy, refinancing existing high-cost business loans is a recommended practice.
Refinancing business loans is a very common and smart financial practice followed by many businesses but is one that must be executed with utmost care. Here are 6 things you should know before refinancing your business loan.
What does refinancing a business loan mean?
Refinancing a business loan refers to taking a fresh loan in order to consolidate your loans and pay off existing debts. This usually involves taking a new loan at more favourable terms as compared to your current debts. The primary goal of debt refinancing is to pay a lower interest rate or switch from a system of fixed interest rate to one of flexible interest rate. It offers numerous benefits to business owners including the following:
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Debt consolidation
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Lower monthly payments that help improve cash flow
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Can extend the term of the loan and make payments more convenient
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Facilitates additional borrowing
Refinancing a business loan may look simple and straightforward, but you should only take this decision after weighing all the pros and cons of the new loan package against the existing one.
Does your current lender allow refinancing?
Before taking a decision on refinancing, confirm whether your lender allows the refinancing of a business loan. Generally, most of the financial institutions accept proposed refinancing, but it is better to have clarity on the matter. Find out the procedure to be followed for refinancing a business loan and the documentation needed to successfully complete the process.
What are the costs of refinancing a business loan?
Refinancing a business loan may involve high costs and it is wise to compare these expenses with your existing loan package. Since, refinancing is like taking a new loan, you need to take into account the processing fee and all other charges. Another thing you must take into account is the prepayment penalty imposed by your existing lender when you repay your current debts. Therefore, you should check whether savings from refinancing outweigh the penalty and other charges before considering this option.
How does refinancing a business loan affect your credit score?
Businesses consider loan refinancing to save costs and improve their future viability. Such transactions also impact the credit score and you have to make sure it does so positively.
A refinancing request involves a hard inquiry on your credit report and failure to get approval for refinancing negatively impacts your credit score. If refinancing is approved, you need to carefully evaluate the terms and conditions and whether it aligns with your current financial situation.
When should you refinance a business loan?
You can opt to refinance your business loan in the following scenarios:
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When the current interest rate is lower as compared to the interest rate charged on your existing loan. The difference should be greater than 1% to get real benefits.
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When you want to extend the repayment period as well as lower the monthly payment amount of your existing loan.
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The value of your mortgaged property has appreciated significantly, therefore you want to refinance with a larger principal amount and better terms.
When should you avoid refinancing a business loan?
Refinancing a business loan seems attractive for businesses, but should be avoided under the following circumstances:
Conclusion
Refinancing is a great tool for lowering the overall cost of debt and an effective way to manage business finances. The benefits of refinancing are not just limited to cost benefits, but it also helps to reduce risks businesses face due to multiple loans and provides opportunities to improve future growth.
