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Advantages and Disadvantages of Taking Small Business Loans from Banks

Every business needs a certain amount of money to start. The entrepreneur on the threshold of starting a new venture, has to work out where and how he will get access to sufficient funds.

The first organization that he thinks of is his bank. Yes banks are almost always one of the first organizations to be approached for funds in the form of a loan. It is here that harsh realities hit the entrepreneur who soon learns how difficult it is to get a bank loan to finance his small business venture. A select fortunate few, do manage to fulfill all the pre-requisites for a bank loan, and are successful in procuring them. But for every successful loan application there are many that get rejected. The tough regulations linked to bank loans are gradually undergoing a change with banks realizing the phenomenal potential of small businesses. This explains the special programs and additional services launched by big banks to woo small businesses.

Bank loans are just one of the various options available for small businesses to raise funds. The final decision about where to secure funds depends on the balance between the pros and cons of the source. Like all other funding sources, bank loans also come with their share of advantages and disadvantages.

Advantages of Bank Loans for Small Business

  • Convenient and accessible- Banks are always accessible since they are used regularly for depositing savings or withdrawing them. After being bank customers for years, the bank becomes convenient and familiar, and personalized service makes it the first place to consider for a loan.
  • Multiple Loan options- All banks advertise various types of schemes to woo entrepreneurs setting up or running a business. The real earnings for a bank come from the interest they charge on these loans. Options like term loans, standard business loans and others are available for the entrepreneur.
  • Non profit sharing- Venture capitalists and angel investors agree to provide a loan in exchange for part ownership, the right to influence decision making and a share of the profits. Banks do not ask for any of these. If they do sanction a loan, they are only interested in getting their interest and partial loan payment installments.
  • Lower rates of interest-Though tough to get, banks provide loans at lower rates of interest than other lending agencies and instruments like credit cards.
  • Bank loans offer tax benefits- Small businesses taking loans from banks enjoy some relief from tax, since the percentage of profits used to repay the loan is exempted from tax.

It is these advantages that prompt entrepreneurs to approach banks for one of the various loans offered.

Disadvantages

However, as mentioned before, getting a bank loan is not easy, and its disadvantages include:

  • Lengthy application process- banks need to verify all the credentials and details about the business before sanctioning a loan. Therefore its application process is very long and its review etc. takes a long time.
  • Cumbersome- The prospect of getting into the detailing that banks require is really cumbersome, and from the entrepreneur’s point of view, totally unnecessary.
  • Preference given to existing, running businesses- banks prefer running businesses because they can gauge its profitability and credit history before sanctioning the loan.
  • Long list of prerequisites to qualify for the loan- banks have long list of conditions that a business should fulfill before they clear the loan. It is sometimes not possible to meet all of them.
  • Risk of losing Collateral- bank loans are generally sanctioned against some collateral, often the entrepreneur’s house and property. This stands the risk of being lost to the bank should the business fail to take off.
  • Entire amount not granted- banks are known to not agree to grant the whole amount requested for a loan. They may grant 70 or 80 % of the sum applied for. This makes it difficult for the entrepreneur to begin since he has to scout around for the remaining balance and find agencies to funs that before he can start.

Thus it is the balance between these advantages and disadvantages that prompt people to approach banks for small business loans.

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  • schesnutt

    Don't forget the personal guarantee. The bottom line is that a reputable lender is going to perform due diligence. So will a VC or PE firm. And so should you before you invest your own capital in the business. Sandra Chesnutt @FTRANS_smb