Refinancing Your Small Business Loan

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Is it time to refinance?

Refinancing a small business loan can help you save time and money, but knowing when it’s time to refinance a business loan can be a difficult decision to make. Business financing is a great tool to help you buy real estate, purchase equipment or inventory, hire a staff, get a startup off the ground, and more. With many loan options, though, there comes a time when refinancing the loan may also create exciting opportunities for your business to grow. So how do you know when it’s time to refinance your existing loans?

Your qualifying conditions have changed

Improved credit score

When applying for a loan, one of the factors that lenders use to make an approval decision is a credit score. Small business owners are evaluated on their personal credit score, the business’ credit score, or a combination of the two. Like all things, credit scores change with time. An improved credit score may qualify a small business for a loan with better loan terms.

Check your current credit score to see if there has been a material change since qualifying for your current loans. You can review your personal credit report once every year for free online (and sometimes more frequently). Business credit history also improves over time, especially when you are making loan payments on time. Business credit scores are available through a business credit bureau, like Dun and Bradstreet or Experian.

Length of time in business

Another factor used to analyze the creditworthiness of a loan applicant is the length of time the business has been operating. Lenders determine the start time of a business based on when the business bank account was opened or when the business was registered.

Businesses that have been in business for more than two years may be eligible for new funding options. Some appealing refinancing options to established businesses include a bank loan with a traditional lender, one of many SBA loans backed by the Small Business Administration (SBA), or a low-interest term loan with an alternative lender.

Increased revenues

Revenues that increase month after month raise the net income of the business, which can open doors for loan options with lower rates. Lenders may determine the creditworthiness of a small business by calculating the Debt Service Coverage Ratio (DSCR). The ratio is calculated by dividing the Earnings Before Interest, Taxes, Depreciation, and Amortization (EBITDA) by the total debt service. Since increased revenues will affect EBITDA, the debt service coverage ratio will also increase. A better DSCR may open your business up to more attractive financing options.

The market conditions have changed

Improved interest rates

Interest rates are primarily determined by the creditworthiness of the borrower, but market conditions also affect interest rates. Depending on the economy, lenders may be able to offer lower interest rates than were available at earlier dates. Online lenders, like Biz2Credit, may also have varying interest rates or promotional rates available through financial institutions they are working with.

Better approval rates

Just like interest rates, approval rates change from time to time. The loan approval rate is calculated by analyzing small business financing requests at Big Banks, local and regional banks, non-bank lenders (CDFI), micro-lenders, and other lending options. The lending index is influenced by economic factors and the industry of your small business. To know whether the approval rates have changed since securing your existing loan, check out a recent business lending index report.

Benefits of refinancing?

Improved cash flow

Refinancing existing debt can mean a lower interest rate and better repayment terms. Lower monthly payments equate to more available cash each month for your small business to invest back into the company. Having more cash on hand each month can be used to ramp up marketing efforts, hire or promote key staff members, purchase new equipment, or be put towards expansion goals.

Simplified accounting

Having more than one loan payment each month complicates bookkeeping. Recording principal and interest for a commercial real estate (CRE) loan, equipment financing, and a short-term business loan can leave accountants frustrated and confused. Consolidating multiple loan payments into one loan is a popular reason business owners refinance.

Future creditworthiness

Not all loans are created equally when it comes to the impact they have on the credit score of your business. Merchant cash advances (MCA), for example, are great loans for new business owners or entrepreneurs with bad credit. These loans allow the borrower to receive a lump sum of cash that can be paid back using future credit card sales. However, too many high-interest, short-term loans over an extended period can cause future lenders to be concerned about the financial health of your organization.

Types of loans to refinance

Just about any type of loan can be refinanced, although it can be difficult with certain loans like CRE loans and SBA 7(a) loans. You’ll want to know what types of loans you have before searching for a loan program with better terms. Some types of small business loans that may qualify to be refinanced include:

  • Short-term loans – Term loans are often used to make large purchases or supplement cash flow. They allow the borrower to receive a lump sum of money upfront with fixed repayment terms.
  • Equipment financing – An equipment loan is used by a business to purchase equipment, like commercial kitchen appliances or a forklift. The term of the loan corresponds to the useful life of the asset.
  • Business lines of credit – A line of credit is a type of revolving credit where the borrower can withdraw funds up to their pre-approved limit at any time. Payments on a line of credit are made only on the amount of funds drawn.
  • Working capital loans– Working capital loans are used for ordinary expenses, like payroll, inventory, and rent. They are paid off with regular payments of interest and principal.
  • Business credit cards– Credit cards are another type of revolving credit that many small business owners rely on, however, the interest rates can add up fast and cards that carry balances near the limit can have a negative impact on a business’s credit score.

How to refinance your small business loan

Business financing is not something that should be taken lightly. Whether you are applying for your first small business loan or a refinance loan, it is best to do some research and prepare as well as possible for the loan application process. Qualifying for refinancing your small business loan can be a rewarding process if you follow these four steps.

Calculate your costs

If you are considering refinancing your existing small business loan or loans, you’ll first want a clear picture of your current debt. Refinancing business loans is a great financial tool, but it only makes sense if your business’s financial health will improve as a result. Take note of the following information to help you decide if it is a good time for you to refinance one or more of your existing loans.

  • The total balance of existing business loans – You’ll want to know exactly how much money you owe on your current loans. This number will help you determine if it is a good idea to refinance that debt and how much of a credit limit you will be seeking. To effectively refinance old debt, you’ll want to be approved for a loan that can eliminate current loans. You can find the current balance of loans on the monthly statement or on an online portal.
  • Prepayment penalties – Some loans have prepayment penalties written into the loan agreement. These penalties are fees for paying a loan off early. Prepayment penalties protect the lender from the loss of paid interest arising from prepayment or early payment. To find out if your existing loans have a prepayment penalty, check your original loan documents.
  • The current interest rate – Take note of the interest rate you are currently paying on all loans. You’ll want to know the percentage and if the rate is fixed or variable. A variable interest rate changes over time depending on the current market rate. When shopping for refinancing options, you’ll want to look for funding that offers lower annual percentage rates (APR).

Prepare documents

Once you’ve taken a detailed look through your current debt, you should start preparing for the loan application process. Every type of loan and lender has different requirements, but here is a list of some paperwork you can gather ahead of time, in addition to the details of your current debt, to expedite the approval process.

  • Identification information – Driver’s license or passport, proof of address
  • Credit reports – Business credit history and personal credit score
  • Income Tax returns – 2 years of personal and/or business
  • Financial statements – Income statements, balance sheets, budget
  • Bank statements – business checking account
  • Business plan and occupational licenses
  • List of business assets
  • Paperwork regarding any liens or other legal proceedings
  • Proof of business insurance

Find the right lender

Choosing a business lender for your business needs can seem overwhelming, but it doesn’t have to be. You can refinance a loan through your current lender, or with a new lender. The decision should be based on the customer service and financing options that you are comfortable with. There are two main types of business lenders when shopping for a new loan.

  • Traditional lender – Banks, credit unions
  • Alternative lender – Online lenders and marketplaces

Since the purpose of refinancing is to secure better terms, you’ll want to compare information from at least two different lenders. Some of the details about your loan, like interest rates and down payment requirements, may not be available until you’ve applied or been pre-qualified with a lender. However, there is some preliminary information you can request including:

  • Customer reviews of the lender
  • Types of financing available
  • Interest rates, additional fees, closing costs
  • Collateral and personal guarantee requirements
  • Application and approval processes
  • Available loan amounts

Complete an application

Once you’ve decided that you want to refinance an existing loan and you’ve narrowed your search down to one or two lenders, it is time to apply for a loan. The application process will vary depending on the lender and type of loan. Alternative lenders, like Biz2Credit, offer an easy, online application process and can offer funding options in as little as 2-3 business days. Traditional lenders may also offer online applications, or request that you visit a branch to get the loan process started.

Bottom line

It may be time to refinance your existing business debt if your credit score has increased, you’ve established significant time in business, increased revenues, or the market conditions have improved. Properly refinancing business debt can improve cash flow, build better credit, and simplify accounting with consolidation. To get started with the refinancing process, look at your current costs, inquire about available loan options, and apply. If you’re not convinced that refinancing can benefit your business, check out TJ Shah’s story. Biz2Credit was able to help Mr. Shah refinance his current rental properties, so he could focus on his vision of growth.

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