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Reasons small businesses take out a loan

graphpresentation16486405.jpgThe reality of business means that at some point, if you own a small business, you will need to take out a loan. However, before you take out a loan it is imperative to take the time to determine the real reason for the loan, and the true validity. Studies show that there are a variety of reasons that small businesses take out loans, but sometimes the borrowing is not justified. Understanding why you are borrowing,and being able to show the true need for the loan, will also show the bank that you have taken the time to careful research. This is crucial since borrowing money is expensive, for a business, and raises its risk. You should also keep in mind that in addition, to the risk of whatever business you are undertaking, borrowing money introduces another level of risk to your personal financial state. Because of this all of the ramifications must be considered seriously. Savvy small business owners will have a clear and concise understanding, of what they are taking on the risk of a small business loan.If you are a small business owner considering taking out a loan, here are some reasons that companies often use debt financing.

  • To gain more working capital-Working capital is the money that small businesses use to manage their day-to-day operations. Small businesses sometimes must take a loan to meet their daily operations needs. This is done until their earning assets, are sufficient to cover their working capital needs. Banks will sometimes loan short-term money, to small businesses to enable them to get started and grow. However, it is important to understand that working capital loans may have higher interest rates.
  • To purchase needed equipment- Businesses usually have a couple of choices in regards to purchasing equipment, they can buy it, or they can lease it. Financial experts advise that you should keep in mind that there are good reasons, to take out a loan to buy your equipment. One of the major reasons is that you can take a tax write-off, and depreciate the rest of the equipment, over its economic life. In addition, you can also use the equipment for its life, and sell it for a salvage value, if you have bought it.You should do a cost-benefit analysis, before you make the decision. Keep in mind that when a bank makes a loan for equipment, it is usually is done as an intermediate term loan. Intermediate term loans are generally 10-15 year term loans.
  • To purchase real estate and/or expand operations- If a firm is being able to expand, then the bank assumes that the firm is successful. This makes it far more likely that the bank will lend money, to the business. It is important to understand that bank loans, for real estate, are usually in the form of a mortgage. Long-term bank loans are usually 25-30 year term loans, and the real estate is used as collateral.
  • To purchase needed inventory-Banks will sometimes make loans to small businesses, in order to purchase inventory. This is especially helpful if a business makes most of its sales during the holiday season and they want to purchase most of their inventory prior to the holiday season. Because of this they may need a bank loan prior to the holiday season, to purchase a large amount of inventory to gear up for that time. It is important to take into account that bank loans to purchase inventory, are generally short-term in nature. Also, businesses will generally have to pay them off after the season is over, with the proceeds of sales from their seasonal sales.
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