Advantages vs. Disadvantages of Debt Financing
- Retain control. When you agree to debt financing from a lending institution, the lender has no say in how you manage your company. You make all the decisions. The business relationship ends once you have repaid the loan in full.
- Tax advantage. The amount you pay in interest is tax deductible, effectively reducing your net obligation.
- Easier planning. You know well in advance exactly how much principal and interest you will pay back each month. This makes it easier to budget and make financial plans.
Debt financing has its limitations and drawbacks.
- Qualification requirements. You need to have a good enough credit rating to receive financing.
- Discipline. You’ll need to have the financial discipline to make repayments on time. Exercise restraint and use good financial judgment when you use debt. A business that is overly dependent on debt could be seen as ‘high risk’ by potential investors, and that could limit access to equity financing at some point.
- Collateral. By agreeing to provide collateral to the lender, you could put some business assets at potential risk. You might also be asked to personally guarantee the loan, potentially putting your own assets at risk.
- How important is it for you to retain full control of the business?
- How important is it to know precisely what you’ll owe in monthly payments?
- Are you comfortable with making regular monthly payments?
- Are you able to qualify for debt financing? How is your credit history? Do you have a good credit rating?
- Do you have collateral you can use? Are you comfortable with using it?