The real cost of high interest business lending: Here’s how to regain control

Startup and SME finance has made it into The Times once again this week. Commission-based incentives are encouraging some brokers to push costly short-term business loans which ultimately aren’t in their clients’ best interests. As a result, business owners are stuck stacking debt on top of debt just to keep on top of repayments.

Helping people escape this trap is a huge focus of our work. Part of the solution involves educating borrowers. We encourage them to think about what each loan will mean for their business in six, 12, or 24 months.

But we also appeal to brokers themselves. If winning some commission today means locking someone into that spiral of debt, sooner or later you’re losing that client. Recommending the right loan is more important than spotting the fastest one.

A lender who provides this kind of loan typically has a higher appetite for risk than traditional banks. They prioritise speed and convenience over thoroughness. The knock-on effects quickly stack up:

• Short-term lenders have a shorter window in which to secure ROI. That means borrowers pay higher rates of interest, and often make repayments weekly (or even daily) instead of monthly
• Skipping the extensive underwriting of traditional banks and waiving the need for security means a higher default risk. That risk is priced into the cost of a loan; responsible borrowers end up paying to cover irresponsible ones

So you end up paying more per repayment, compressed into a shorter timeframe. And despite that focus on speed, you’d still typically expect early repayment fees if you pay a loan off too fast.

As a result, repayments put serious strain on a business’ cashflow. Some can tighten their belts and struggle through until the loan is repaid, but this isn’t always an option. Many are forced to take out a second short-term loan to cover the first, and so on and so forth. This destructive spiral is known as debt stacking. If you're not comfortable managing business debt, it can make a serious impact.

Look beyond the headline rate, speed, and convenience of a short-term business loan. As a business owner, ask yourself:

• How often will you have to make repayments, and how much will they be? Can your business afford to lose that kind of working capital?
• What facilities are already drawing from your cashflow? Can you afford another one?
• What’s your typical investment in business growth? Can you still make these investments while repaying a loan?
• How likely is it that you could end up needing to repeatedly refinance the same kind of loan?

Depending on your answers to those questions, a fast loan from someone like a fintech might not be for you. Listen to what our CEO, Steve Waud, has to say about the impact of this kind of finance. You can listen here, or on Spotify, Amazon Music or Apple Podcasts

The good news is that this trap is escapable. If you’re struggling to repay a short-term loan, don’t cover it with another short-term loan. Refinance over a longer period, anywhere up to five years. That’s going to give you three big benefits:

• A longer repayment period means smaller individual payments; some businesses can save thousands of pounds each month
• The cashflow you’ve freed up can be invested back into your business again, letting you recapture stability and growth
• Multiple debts can be consolidated into one simple, streamlined monthly repayment that’s easier to plan around

We’ve helped hundreds of businesses find a way out of their debt-stacking nightmare. Our loan managers champion fair, relationship-led finance. A transparent environment where brokers and lenders act in SME owners’ interests, giving them the information to make better choices.

Refinancing comes with its own pros and cons. For example, lower individual repayments don't necessarily mean lower overall borrowing costs. A longer repayment term can mean you pay interest for longer.

Consider both the monthly repayment and the total amount repayable before deciding whether refinancing is right for you. Instead of just covering up one loan with another, ask yourself if changing the way your debt is structured will fundamentally make your business more financially manageable. 

If your business is consistently spending more than it's generating, a new loan isn't going to solve your underlying problem. When deciding if refinancing is the right option, think about:

• How much you currently owe
• Any early repayment charges or fees on existing finance
• The interest rate on the new borrowing
• The new repayment amount
• The length of the new repayment term
• The total amount you will repay
• Whether the new finance is secured or unsecured
• Any guarantees or other obligations attached to the new borrowing

Only refinance if it's the most responsible way of restoring your business' long-term sustainability.

Use our finance finder tool to weigh up your options. Identify the right opportunity to put your business back on the path to growth.

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