Does Outstanding Debt Affect Your Ability to Borrow?

06 Jun 2016

Carl Faulds

Carl is a business recovery specialist. He started work in the business recovery profession in 1990 and has continued to pursue an ethos of working with distressed businesses to help them overcome their financial problems. As managing director of Cashsolv, he offers advice and support to overcome cash flow problems and addresses any other issues to ensure a positive future for your business. Carl was former president of the Insolvency Practitioners Association, and makes regular appearances on BBC documentaries related to business recovery.

Chances are you already know that having outstanding debt can affect your ability to secure additional borrowing. But are you aware that the type of debt can make a huge difference?

Here’s an overview of different types of borrowing and how they can affect your creditworthiness.

Business loans

If you already have a business loan, have you made every payment on time and in full? Equally importantly, did your lender report your performance to a credit bureau? If so, the loan you have will actually improve your chances of borrowing more, particularly if you’re looking to consolidate your debt. What’s more, a record of good borrowing behavior could reduce the level of interest you have to pay, making life even easier.

Mortgages

In contrast, if your business doesn’t have a proven credit history, lenders will start to look at your personal finances. For most people, a mortgage will represent their largest monthly debt payment. If your payments (and your outstanding balance) are high, lenders may be reluctant to advance further credit. However, if you have significant equity in your home – representing the difference between its value and your outstanding mortgage balance – you can use it as security for a business loan (though this obviously puts your home at risk).


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Personal loans

Whilst your business and personal credit histories are not normally linked, they certainly will be if you use your home or other personal collateral to secure a business debt. This is far from uncommon: Experian’s figures show that 50 percent of all small businesses use some form of personal credit for finance. If you have a personal or car loan, a business lender will examine your repayments to see whether you have made them on time, every time. This behavior will be used to predict your conduct if you take out business finance.

Student loans

If you still have significant student debts, this can seriously affect your chances of obtaining business finance. This is particularly true for very small businesses, which are likely to rely on personal credit information, so if you still have a large student loan, you might do better to talk to alternative lenders, which have different criteria from banks.

Credit cards

Unlike mortgages and student loans (which have fixed monthly repayments), credit cards are a flexible and revolving form of finance. When assessing your creditworthiness, banks are particularly interested in evaluating your revolving credit as this demonstrates whether or not you are a responsible borrower. Lenders will also wish to examine your total debt service ratio if you maxed out all your credit cards and lines of credit – even if you currently have zero balances. In this hypothetical scenario, the lender will consider what would happen if you exhausted all your lines of credit and also had the repayments on their loan to contend with.

Outstanding debt summary

As can be seen, some forms of outstanding finance can actually assist you in undertaking further borrowing, though most will restrict the options available to you. In general, banks apply more restrictive criteria than alternative lenders, who tend to be less concerned with your existing finances and past performance. In particular, you could benefit from asset-based finance, where you borrow against the value of your premises, plant or equipment, or invoice factoring and discounting, where you borrow the bulk of your invoices as soon as you raise them, with repayment being made when your customers pay you.

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