5 Tips for Avoiding a Cycle of Debt with Small Business Loans
While small business loans can be a ticket to business growth and development for many organizations that otherwise couldn’t get ahead, if not handled carefully, they can lead to an inhibiting cycle of debt that can be difficult shake.
A cycle of debt begins when business spending exceeds profits. While this can be OK if you’ve carefully planned and forecasted (after all, it sometimes takes money to make money), it can easily get out of hand if you are constantly working to pay off new debts, or even taking on more debt to pay those that you already have (e.g., financing payables to pay a credit card bill). Below are five tips to help you avoid the debt cycle when taking out small business loans.
How to Avoid the Debt Cycle with Small Business Loans
Stick to Your Plan
When you have successfully attained a loan, make sure you stick to your business plan when deciding how to spend it. Too often, businesses are overwhelmed by the sudden influx of money that comes from a loan and become less rigid when it comes to sticking to a budget. Instead of only purchasing “must-haves,” they also start to purchase “nice-to-haves.” This results in a constant run to catch up on payments, and might even cause a business to take out more debt to keep up. Stay with the strategies you outlined in your business plan, and remember that while it might feel like a huge win for your business, receiving a loan is not like a lottery jackpot you need to pay it back!
Make sure that the things on which you are spending your loan money are things that will help your business bring in even more revenue. For instance, new machinery that cuts production times can help you fulfill more orders at a faster pace, education and training for employees can help improve service and customer retention, and advertising can help bring in more sales. To avoid a cycle of debt, it is important that you use your debt to help build revenue opportunities.
If you have a number of debts, perhaps small business loans and a few credit cards, for example, try to work with your lender to consolidate debts to make things easier to track and pay off. Additionally, consolidating debts could help improve the interest rate you are paying, especially if you have a lot of credit card debt, thus saving you money. Tackling all of your debts together can help end the cycle of taking out new debt to pay for existing ones.
Track your finances regularly so your bills don’t come as a surprise each month. Tracking spending can also help you identify negative patterns that need to be broken. Keep receipts and write down all expenses each day. Tracking expenses can also help you stick to your business plan and avoid over-spending, as the activity holds you accountable for all purchases.
To help break the debt cycle, make sure you keep an emergency fund so that unexpected expenses or a dip in revenue don’t cripple the business and cause you to take out additional debt. Include the emergency fund in your budgeting so you can slowly start putting money aside to fill it. The amount of money you keep in your emergency fund will vary based on your needs, but a popular rule of thumb is to have enough cash to cover three to six months’ worth of mandatory expenses, such as rent and employee salaries.
By planning, tracking and staying on task with your goals, you will be able to make wise financial choices that will keep your business out of the debt cycle.