What Type of Debt Are You Using?

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Posted by Sharon Perry on November 04, 2014 in Accounting, Blog, Small Business

Type of Debt

I may be a Chartered Accountant but I am no different than you. All businesses have ups and downs, seasonal fluctuations and cash flow shortages at various times of the year. So I find it amusing when clients are surprised to hear that I have a line of credit, a loan, an equipment lease and a credit card for my business.

And yes, I do use ALL of the above. Knowing what type of debt to use on different types of purchases for your business is extremely important. The interest rates vary with each as do the monthly payments.

Here are a few things I like to consider when making purchases for my own business.

  1. Line of Credit – This is used similar to an overdraft. It is useful when there are cash flow shortages like waiting for clients to pay (which I recommend a retainer in advance wherever possible) and/or during seasonal fluctuations. Interest is charged monthly and generally no principal payment as the balance will go up and down as you use your bank account.
  2. Loan – Buying a piece of equipment can be costly. Knowing your goal is to use a piece of equipment long term, it only makes sense to spread the payment out over a longer period of time. This allows you to match the income earned from the equipment with the monthly loan payments (interest and principal). Unless of course you have liquid cash to burn.
  3. Lease – You may or may not want to own the equipment after a few years or it may need to be upgraded every few years so using a lease can be an alternative option to a loan. A photocopier, for example, will last for a few years and with our ever changing technology which makes these machines faster, better and more efficient, a new machine every few years may be the better option.  Upon the term of the lease, you generally have a choice to buy it out or not. A lease can often include the maintenance too.
  4. Credit Card – Online purchases…need I say more? When I order supplies or pay local vendors (I support LOCAL) and they are delivering the service or goods but require payment in advance, the credit card is fast and easy. With this option, I NEVER carry a balance as the interest rate is not generally as good as a line of credit. Although the option of email money transfers is quickly becoming a favourite of mine.

Having credit and using the right type of credit is important to the cash flow and success of your business. It is always advised to put credit in place when the business is doing well. As a small business owner, this generally means that time is not on your side when you need to gather the paperwork and meet with your Advisor however when you need the cash and you have too much time on your hands, you may not be in a position to qualify.

I work with many professionals so if you need some advice on the type of debt you should be using, I would be happy to give you a referral.

And remember, always ask your Professional Accountant as they know you and your business the best!

**This blog is for information only and not to be used as tax advice or planning without first seeking professional advice. Information is subject to change without notice.