Understanding Traditional Bank Loans
In the world of business, funding is the lifeblood that fuels growth and drives success. For entrepreneurs and business owners, whether you are starting a new business venture or expanding an existing business, securing the right funding option is paramount to realizing your vision.
We have recently covered in previous blogs various business structures like Sole Proprietorship, Partnership and Corporation and learned how to Prepare a Budget and Forecast. We’re going to continue on our journey by learning about the different types of financing available, the unique features of each, potential drawbacks and considerations associated with them.
Let’s get started!
Types of Business Financing in Canada
There are a variety of business financing available in Canada and they can generally be categorized into 3 distinct types:
Traditional Bank Loans (we will cover this one in this blog)
Traditional Bank Loans
Among the various business funding options available, loans stand out as a tried and tested method of obtaining capital. Loans have long been a cornerstone of business financing which offers a direct infusion of funds that can be utilized for a variety of purposes.
Traditional bank loans are widely recognized and are an accessible funding option for Canadian businesses. Different banks offer various types of loans that are tailored to meet your financing needs.
Here are some examples:
Term Loan – you receive lump sum amount up front for a fixed date of repayment
Credit Card
Line of Credit – you gain access to a pre-determined credit limit that you can use as you need it
Asset Based Lending – lending that is secured by an asset
Equipment Leasing – renting of equipment rather than purchasing
Letter of Credit – the lender guarantees that a buyer’s payment to a seller will be made or else the lender will be required to cover it
👍Features of Traditional Bank Loans 👍
There are several key features when it comes to traditional bank loans:
#1: Established Financial Institutions
These types of bank loans are usually provided by well-established financial institutions like banks or credit unions.
#2: Competitive Interest Rates
Banks typically offer competitive interest rates on the financing since they are well-established and are highly reputable.
#3: Variety of Loan Types
As seen above, banks offer a wide range of loan types to cater to different business needs.
#4: Flexible Repayment Terms
Banks typically offer flexible repayment terms that are aligned to the borrower’s cash flow and financial capabilities.
#5: Secured Financing
Bank loans are often secured by collateral or some form of security so you can potentially borrow a larger loan amount with lower interest rates compared to unsecured lending.
👎Potential Drawbacks of Traditional Bank Loans 👎
After going through the features, there are also some potential drawbacks to consider as well:
#1: Stringent Eligibility Criteria
Banks typically require strong credit history, collateral requirements, solid financials and a well- thought-out business plan in order for you to be eligible for these loans.
#2: Lengthy Application and Approval Process
The application and approval process of these loans can be time-consuming and complex due to the amount of documentation required, credit checks and review of all documents.
#3: Limited Flexibility
These loans often come with specific terms and conditions that may not necessarily be aligned with your business, but rather protect the banks’ interest.
#4: Risk of Collateral Requirement
Businesses may need to put valuable assets as collateral in order to secure the loan. If the loan is defaulted, the banks may seize control of the collateral. Other than assets, banks may require personal guarantees from business owners where they will hold them personally liable for the loan.
#5: Potential Impact on Cash Flow
Loan and interest payments can put a strain on a business’ cash flow especially when the business isn’t performing well.
#6: Limited Accessibility for Small or High-Risk Businesses
Banks often prioritize established businesses with a strong track record compared with small or high-risk businesses so it might be more challenging for them to secure financing via this route.
Other Considerations
We went through the features and drawbacks of traditional bank loans but there are still some additional considerations to think about that will allow you to make an informed decision about whether to pursue these loans.
Interest Rates and Fees
Although these types of loans generally offer competitive interest rates, it’s crucial to thoroughly understand the terms and associated fees. There may be financing fees, application fees or even prepayment penalties that may impact the cost of borrowing.
Relationship with the Bank
If you have an existing relationship with a bank or have a strong banking history, it may improve the chances of getting your loan approved or even able to negotiate better terms. It may be worth it to work with a bank that knows and understands your industry.
Loan Size and Purpose
The loan size and purpose are really dependent on your funding needs. Banks may have minimum or maximum loan amounts that may impact the desired amount you are looking for. Make sure to have a business plan to support your request.
Repayment Capacity
Do you have the ability to comfortably repay the loan and interest? This is where a cash flow and sales forecast will come in handy. Consider your other financial obligations too to determine whether you can service the debt.
Your Turn
We covered a lot of ground on traditional bank loans which is necessary if you want to pursue this type of financing. We went into the features and drawbacks of these loans and I provided you with some additional considerations so that you can make an informed decision. Do you have a better understanding of these loans and how it can help you reach your business goals?
If you’re not sure, it will be worth it to go through this blog again. If you still have questions, make sure to contact us to see how this type of financing can help you reach your business goals!
If you found value from this article, make sure to sign up for our newsletter to get notified of a new blog!
At JTL CPA, we are Ontario’s virtual accounting firm. Our goal is to automate your accounting and bookkeeping processes in a way that increases financial visibility. Pair that with our value-added approach and tailored advisory solutions gives you the ability to make sound decisions from good data. Check out our website here: https://www.jtlaccounting.com.
Thank you for making it to the end of the blog post. If there are topics that you would like to learn more about in the future, please let us know down in the comments.
Automation drives success!
Make sure to follow us here:
Until then, see you next time!
#accounting #business #entrepreneurship #success
