One of the factors that entrepreneurs consider when starting a business is financing. Having enough funds is necessary to establish a company without a hitch. A good option to finance a business venture is to borrow money. However, many startups wonder whether starting using 100% borrowed money is the right thing to do.
Advantages of Borrowing Money
Having sufficient capital is a must in order to maintain company operations. It is all the more important when starting a business.
A company will have a lot of expenses, like needing to buy equipment and furnishing, manufacture products, hire employees, and maintain an office or a shop. That is why most businesses borrow money from various lending establishments. Those include credit institutions, banks, and other similar organizations. For a lot of startups, borrowing money also helps make sure that the company has the financial capacity to open its doors and stay afloat until it finally becomes profitable.
In fact, borrowing money is among the common funding sources for startups and small businesses. That is because it allows new entrepreneurs to not rely on their personal credit or savings to fund the business venture. Additionally, borrowing funds can eliminate personal financial risks when starting a new company.
Other advantages include the following:
- Repayment – When it comes to repaying loans, businesses are allowed more flexibility compared to individuals. Lenders often allow startups to structure payments in a way wherein the cost is lower in the beginning while the business is not yet profitable. Then, it can gradually increase the amount once it realizes a profit.
- Building Credit – A startup can benefit from a good business credit profile. That helps in building credibility and establishing its ability to attract other creditors in the future. Since the credit is under the name of the company, timely payments for the borrowed money can help create a good credit history for the business entity.
- Deductions – The Internal Revenue Service (IRS) allows company owners to make deductions for reasonable expenses related to the operations of the business. For instance, it is possible to deduct the interest paid from one’s federal income tax return. Doing this can help startups reinvest all of its profits back into the company.
- Cheaper Option – In the long run, getting a loan may be less expensive than giving up equity. That is because equity can cost a company a portion of the business for good. For instance, having investors can help raise capital to take care of various expenses. However, it may require the company to sacrifice future profits indefinitely.
Meanwhile, debt can incur interest costs, but it is only temporary and often capped. So once the company finishes paying it back, the equity will remain intact.
- Discipline – A lot of business owners fail to realize how having business debt helps develop discipline when it comes to investing and spending. This characteristic is especially necessary during the formative years of a company.
While developing discipline should not be a reason to borrow money, it can be a positive result that can help in the long run. So how does this work? The idea is that having cash on hand makes it easier to spend. However, knowing that there is a loan that needs to be paid can help ensure smart decisions and justifiable expenses. Additionally, it helps build a culture of thriftiness and smart spending in the company. Employees will be more mindful of where to spend the company’s money.
There are many instances when borrowing money does not make sense. But it can be a good option if you understand how debt works and know how to handle it properly.
Once the company figures out how to go about it the right way, it does not have to be afraid of getting a loan. In fact, it can even use it as a strategic tool to get the business started and as a more cost-efficient financing option to pursue growth.
Starting a Business
Raising capital is only one of the responsibilities that come with forming a business entity. Once there is enough funding, the company will have to register with the state to ensure the legality of its operations. That means the completion of a business formation process, which includes the filing of formal paperwork and payment of the corresponding fees. To learn more about forming a business entity, contact our team of experts at DoMyLLC. We can handle the preparation and filing of paperwork for you. Our team is also experienced in ensuring compliance with various state obligations.