As a small business owner, it is quite likely that you would have funded your business requirements by using your credit cards and taking on personal loans after running out of your savings. However, relying on credit cards and personal loans for too long a time can leave you deeply mired in debt and gasping to meet the minimum monthly repayments because typically, card balances carry extremely high rates of interest. When your business cash flow is insufficient to make the repayments and allow your business to grow, it can be a good idea to consolidate all your high-interest unsecured debts as this will make financial management easier and allow you to save substantially on the interest cost.
Understanding Debt Consolidation
Debt consolidation is the process whereby you aggregate all your unsecured debts like credit card balances and personal loans and pay off all of them by taking a new loan on more favorable terms. By substituting high-cost retail debts with a comparatively lower cost debt consolidation loan or any other mode of financing, you can substantially reduce the cost of the interest that was otherwise crippling your business finances. After consolidating your debts, you are left with only one debt equal to the sum of the individual debts but carrying a rate of interest that is far lower than the credit card APRs. Instead of having to make multiple monthly payments to several creditors, now you need to pay only once every month to just one lender.
The Advantages and Dangers of Consolidating Debt
The biggest benefit of consolidating debts is that it allows you to retire loans carrying very high rates of interest and substitute them with loans with a less rate of interest. Over the loan period, this can mean substantial savings for your business that you can put to use for growing your operation and revenues. The other big advantage of debt consolidation is that the typical monitoring required for multiple debts and credit card statements can be done away with because now there is only one loan to be repaid on a particular date every month. If the monthly amount is too large for you to service with comfort, you can also negotiate with the lender to allow the loan to be paid back over a longer time. However, you should fight the temptation of extending the loan period too much as it will mean an extra interest.
The hazards of debt consolidation are that with an easy solution of getting your debt under control, you will fail to address the real concerns that your business,like adequacy of cash flows and profits. Unless you take steps to ensure that the revenues are a surplus over your expenses, you will soon be back to swiping your credit cards to finance your business requirements and land up in a bigger financial mess than before.
Getting a Fix on the Rate of Interest
The problem with credit card debt is that not only is the rate of interest very high due to its unsecured nature and high default rates but also it is variable. A variable rate of interest means that the interest charged will keep on changing as per the economic environment. For a business owner, the problem of having balances carrying a variable rate of interest is that he can never quite know for certain what the next month’s minimum due payment will be because of the changing interest rates. As a result, financial planning can become very difficult. When you consolidate debts, typically the new loan will bear a fixed rate of interest so you know that the payout will not change from month to month allowing for easier budgeting and management of cash flows for faster debt elimination. When you are shopping for a debt consolidation loan, try to ensure that the new loan is from a trusted source like NationaldebtRelief.com that extends fixed-rate loans.
Check the APR Not the Simple Interest Rate
Most of the lenders try to grab the attention of prospects by advertising very low rates of interest. However, you should not be fooled as typically these are simple interest rates without factoring in the impact of fees that are normally tucked away in the fine print. You should insist on getting them to quote in writing the Annual Percentage Rate or APR as it is commonly referred to as this includes the rate of interest and all the other applicable charges and reflects the real cost of capital. The reason why getting to know the APR is vital is that the real saving over the cost of credit cards may be far less than what you expected. Some debt consolidation lenders may have an APR that is more than your average credit card APR hidden below a seemingly attractive rate of interest and may result in your debt crisis worsening instead of improving.
Credit Utilization Ratio
The credit utilization ratio is a key parameter for accessing more credit from lenders. You can use this strategically to get more leverage and create opportunities for accessing more credit. When you take on a new loan to get rid of your card balances and immediately close all your credit cards, you will have increased your credit utilization ratio and made things more difficult for your business as it will negatively impact your credit score. Rather, you should use a balance transfer to a new card and save not only on the interest cost but also reduce your credit utilization ratio with regular repayments while keeping all your other credit cards open but not using them. According to https://www.forbes.com, people who had paid off their credit cards using loans were able to improve their credit scores by 21 points in just three months.
For owners of small businesses caught in a debt trap, consolidation of debts can appear to be extremely lucrative. However, one should be aware of the many dimensions of the method and only choose it if it helps you to reduce your cost and boost your credit score over time.