How to Consolidate Your Business Debt
What is business debt consolidation?
If you’re dealing with too many debts or carry debts at varying interest rates, debt consolidation can be a smart next step. Generally speaking, debt consolidation is a term used to describe what happens when you roll all of your existing debts into a new loan with one monthly payment. The benefits of debt consolidation vary but can include a lower interest rate, lower monthly payment, shorter repayment timeline or more than one of these perks.
Debt consolidation is popular for individual consumers, but many businesses also turn to debt consolidation to help with cash flow issues or to reduce their monthly bills. If you’re wondering how to get your business out of debt with a debt consolidation loan, keep reading to learn more.
Benefits of consolidating business debt
While many of the benefits of debt consolidation are similar for businesses and families, the fact that businesses have a profit motive means there are additional perks to consider. Where an individual consolidating debt with a personal loan may do so to save money, a business may have additional incentives to consolidate, such as coming up with the money to buy new equipment or cover payroll.
The main benefits of consolidating business debt can vary, but they can include:
Improving business cash flow: Businesses often have unpredictable cash flow, says Rick Miller, CPA and mentor for the Nashville chapter of SCORE Association, a nonprofit dedicated to helping businesses grow through mentorship and education. Debt consolidation can help businesses improve their cash flow if they are able to negotiate a lower interest rate and lower their monthly payment.
Get a low, fixed interest rate: If a business has several different debts at different interest rates or variable rates, debt consolidation can be an attractive proposition. “Consolidating can mean going from several loans with varying rates to one loan with a low fixed rate,” said Miller.
Imagine a business owes four different debts with four different lenders, each at a different interest rate. Their debt load could look like this:
- Debt #1: $51,000 at 19% APR ($952.03 per month)
- Debt #2: $2,000 at 11% APR ($27.55 per month)
- Debt #3: $11,000 at 11% APR ($151.53 per month)
- Debt #4: $1,500 at 18% APR ($27.03 per month)
Total Debt: $65,500
Total Monthly Payment: $1,158.14
Average Interest Rate: 14.75% APR
By consolidating these debts with an SBA 7(a) loan, they may score an interest rate as low as 5.75% APR. In one fell swoop, this business owner would go from managing several high-interest debts every month to paying a single loan payment of $718.99 per month for ten years. In this scenario, the business owner would lower their monthly payment and save a ton on interest, too.
Convenience: Consolidating debt can be convenient since it allows businesses to trade multiple monthly debts and bills for a single new loan with one monthly payment. “Consolidation organizes all your debts into a more predictable payment each month they can prepare for,” said Miller.
Save time: Many small businesses don’t have a team of accountants to manage their bills, and having different debts with different terms, payments and interest rates can be difficult to handle. For these reasons and others, “borrowers can sometimes find themselves lost in their debts, resulting in missing payments, paying more interest over time due to higher interest rates, and having another thing to worry about,” said Steve Allocca, president of peer-to-peer lending firm LendingClub.
“Consolidation can save you time and money and that peace of mind is one the best benefits consolidating can offer.”
Risks of consolidating business debt
While consolidating debt comes with its own share of benefits, there are risks to consider whenever you borrow money. Some of these risks depend on the borrower, while others could affect or hurt anyone who borrows more money to get out of debt.
“Consolidation is not for everyone,” said Allocca. Some of the risks you should be aware of before you consolidate business debt include:
False sense of security: When you use a loan to pay off your debt, your debt doesn’t go away; it’s just been combined into one loan with a more competitive rate. Still, “eliminating debt and having just one loan can give some people a false sense of security,” said Allocca. “It’s important to keep yourself focused on repaying your debt and making all of your payments on time.”
Freedom to borrow more money: While having the ability to borrow money to keep your business afloat can be important, continually borrowing isn’t always a good thing. “The temptation to take on more debt is one of the biggest downsides of consolidation,” said Miller. “Any time you open up cash flow for people, they are tempted to borrow more.”
Let’s use the example above where the business owner owes $65,500 across multiple debts once again. If they took out a consolidation loan and lowered their monthly payment to $718.99 from $1,158.14, the sudden surge of additional cash flow may make them feel as if they can afford to take on more debt.
This is one mistake business owners should try to avoid since more debt can mean more cash flow problems later on.
“You need to remain disciplined and have a plan to manage your debt load and not just borrow on a whim,” said Miller.
When should you avoid consolidating business debt?
While consolidating business debt makes sense if you need a lower interest rate or monthly payment, there are definitely situations where consolidation doesn’t make sense. If your debt is almost paid off, for example, you may just want to stay the course, says Miller.
Also, if your interest rates are extremely low, you may not benefit from consolidating. Of course, you should never assume you can’t get a better interest rate with a debt consolidation loan.
If you’re on the fence about consolidating, it makes sense to get a free quote online and compare available interest rates with the rate you have now. Once you have that information, you can decide whether to stay the course with your current loan or consolidate debt to score a better deal.
How do I consolidate business debt?
As you consider weighing the pros and cons of business debt consolidation, you need to know your best next steps. Consider this how-to list as you prepare to handle your business debt — once and for all:
Step 1: Figure out what you owe.
According to Miller, your very first step should be figuring out how much you owe and to whom. “Look at the total amount of outstanding debt you have and make a list of each debt and their balances,” he said.
You’ll also want to compare loan terms to see how long you have left to pay on your current loans.
Step 2: Calculate your blended interest rate.
Since a debt consolidation loan will take all your loans at different interest rates and combine them with a new loan, you need to know the average interest rate you’re paying across your debts right now.
“Calculate your blended interest rate across all your debts and compare that to your interest rate on a business consolidation loan,” said Miller. By finding out your blended rate, you have a basis for comparison once you compare rates for new business debt consolidation loans.
Step 3: Have a clear purpose.
Allocca says lenders will want a clear sense of how you intend to use the funds you want to borrow. For that reason, you need to decide how to use your loan before you borrow money.
“Having a specific plan helps communicate to lenders that you will put the money to good use,” said Allocca. “Be prepared to explain what the funds will be used for — for instance, to upgrade equipment, to shore up working capital or to refinance existing debt — along with how much money you need.”
If your sole purpose for borrowing money is business debt consolidation, that’s fine, too. Make sure you are clear on your purpose so your new loan doesn’t lead to more problems than it solves.
Some lenders may also want to know how the borrowed funds will strengthen your business as well as your ability to repay, says Allocca. “Providing realistic financial projections can help you better understand and communicate to lenders how financing will benefit your company.”
Step 4: Gather required documentation to get a loan.
Lenders will ask for information that demonstrates your ability to repay a loan or line of credit, such as your yearly sales, monthly expenses and personal financial details. Providing this can help assure lenders that your business generates the cash flow required to keep up with your new loan payments.
If you’re consolidating existing debt, then having a proven history of repayment on your current loans will help your case.
Step 5: Compare business loans across multiple lenders.
Once you have a clear sense of purpose, a list of your existing debts and interest rates and the documentation required to apply for a new loan, it’s time to compare loan offers across multiple lenders. Use LendingTree’s business loan page to get a free quote and find out how low your interest rate on a business loan could go.
In addition to interest rates, you’ll also want to compare loan terms, repayment timelines, and fees. Playing around with a business loan calculator can help you gauge what your new payment might be as well, taking into account your current debt balances and potential new interest rate.
Last but not least, make sure you’re comparing apples to apples and considering both secured and unsecured business loans. Where secured business loans require collateral, unsecured loans don’t require any collateral. Secured loans may come with lower interest rates, but their collateral requirements vary. Compare both types of loans and consider their requirements to make sure you’re getting the best deal.
Other ways to help with business debt
If you’re trying to figure out how to get your business out of debt but aren’t sure another loan is the answer, there are other options to consider as well — each with their own list of benefits and drawbacks. Some potential options to consider in place of business debt consolidation include:
Filing Chapter 11 bankruptcy: Chapter 11 bankruptcy is a type of bankruptcy that allows businesses to reorganize their debts and follow a rehabilitation plan. Miller says that some businesses can survive bankruptcy, but that the process can take a huge toll on your business finances. If you can avoid Chapter 11 bankruptcy during your journey out of debt, you should try.
Sell business assets: If your business has equipment or property you could sell to free up cash for debt repayment, this strategy is a smart one to consider. This is especially true if you’re able to sell assets you don’t really need and won’t have to buy again in the future.
Sell off your receivables: Miller says many businesses in financial trouble are struggling due to cash flow issues caused by slow payment of their clients and customers. In that case, they have the option of “selling off their receivables” (monies owed to them) at a discount. “Sell off the amount of money people owe you for less, then take that money and pay off debt,” said Miller.
Look for new investors: It’s possible you could find new investors for your company who want to buy their way into your business. They may want to make a one-time investment into your company or buy a percentage of your business.
Downsize: Last but not least, Miller says that letting go of employees to save money on payroll is a common move for businesses in trouble. If you can remain in business but lower your payroll expenses, you could solve your cash flow problems for the short term.
Consolidating business debt comes with myriad benefits other than lowering your interest rate. In some cases, you can lower your monthly payment drastically as well, and you will likely simplify your life when you go from multiple debt payments to a single loan payment each month.
Still, it’s important to compare loan offers and interest rates to make sure you’re getting the best deal. Business debt consolidation can be a boon for your finances and may even help your business keep its doors open, but the best loans available will leave you a lot better off.