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This article is for educational purposes and does not constitute legal, financial, or tax advice. For specific advice applicable to your business, please contact a professional.
Many businesses take on debt in order to grow and reinvest in themselves. If you are a business owner currently managing your business debt and considering consolidation, here are a few things to consider as you get started. Whether you are considering a loan, refinancing, or consolidation, take the time to consider your plan for managing debt. As with many business decisions, all of these strategies have risks associated with them.
Let’s dig into what debt consolidation is, how it differs from refinancing, and why some businesses opt in to consolidation rather than managing multiple types of debt.
What is debt consolidation?
When a business owner has an outstanding debt, they may consider a debt consolidation loan in order to pay it off. Rather than paying off debt on multiple credit cards, for example, the business owner can combine the debt in order to simplify the repayment. These loans come in secured or unsecured forms and can be applied for through a bank, an online lender, the Small Business Administration, or a peer-to-peer lender, among other options. Debt consolidation is not unique to businesses; individuals also take out debt consolidation loans for personal use, such as with student loan consolidation.
Debt consolidation does not always guarantee a lower rate, can affect your business credit score, and can impact the collateral you put up if you use an unsecured loan for consolidation. Taking on a debt consolidation loan means that you will continue to have debt to repay; it will not take debt management off the table.
Why do businesses consolidate debt?
Debt consolidation can help business owners streamline payments and set new terms for repayment, such as speeding up payments or lowering interest rates. If you are considering debt consolidation for your business, think about how much debt you have and the amount of loan you may be eligible for relative to it. Debt consolidation can also impact your business credit score.
The Consumer Financial Protection bureau suggests taking the following steps before you take out a consolidation loan:
- Consider support from a nonprofit credit counselor.
- Take a close look at your finances. Review reasons why you have taken on debt, how you will pay back a consolidation loan, and whether this is the right next step for your business.
- Create a budget.
- Reach out to several creditors to get a better understanding of the fees, interest rates, monthly due dates, and other terms of payment.
Debt consolidation versus refinancing
While both debt consolidation and refinancing are tools to manage debt, there are a few differences between them. According to the National Foundation for Credit Counseling, all consolidation involves refinancing, but not all refinancing involves consolidation.
Refinancing a loan means that you replace an existing loan with a new one and revise or replace the terms associated with it. A business owner may refinance a loan for a more favorable rate or to help manage cash flow. When someone consolidates debt, the original loans are not always replaced, and you may consolidate multiple loans rather than one loan.
If you’re considering debt consolidation to manage your current debt, consider some of the pros and cons above before taking the next step.