Need money for financing your small businesses? At first glance, business owners seem to have limited options but to borrow business loans. For those new to their industries, many may simply turn to personal credit cards that usually don’t require any business information.
In fact, HELOC, which stands for Home Equity Line of Credit, could be a powerful alternative and it's often ignored by borrowers. It works as easy as a credit card, has relatively cheaper interest payments and offers tax benefits in most countries. Certainly, the condition is that you (or your family) need ownership of real property beforehand.
When applying for credit cards or business loans, your personal credit and business situations are critically important. For HELOC, by contrast, the lender uses your home as a guarantee and puts more weight on the property’s market value (i.e. equity). You could be well qualified even if you already have a mortgage.
In addition, it’s a revolving credit which means you can borrow, pay back and borrow again. This brings significant flexibility and much faster approval turnaround to entrepreneurs in early, turbulent times. For fintech companies such as Blend and StoneBanc.com, a HELOC application takes merely 10-20 mins and can get approved as soon as in 24 hours.
HELOC also comes with affordable rates. While some government-sponsored small business loans may have competitive rates, HELOC products can be even cheaper--as low as 4.5%. As costs are often associated with credit history, HELOC can be particularly appealing to entrepreneurs working on brand new businesses.
In terms of tax benefits, it can be vastly different across jurisdictions. In Canada, for example, if the HELOC is not used for producing income the interest on the debt cannot be deducted. But in the US, it’s tax deductible. For this reason, you’d better consult a tax expert in your country before approaching a lender.
Of course, HELOC is not a silver bullet. The biggest downside is the potential risk of losing your pledged home. If you default on the payments, the lender will first try to provide remedies. In case the situation doesn’t get better, it may sell your home to repay the debt. It sounds a bit scary, right? Actually, you’ve probably heard many stories that startup founders sell their homes to raise funding. To them, HELOC can be a way smarter option.
Another issue borrowers need to consider is the changing interest rates. Many (but not all) HELOC products reset their rates frequently depending on market conditions. If they rise sharply, it may impact your ability to repay.
My advice to entrepreneurs is to see HELOC as a method of short-term bridge financing. You borrow it to obtain a business property or new assets in order to kick off your project or address a temporary liquidity problem. But make sure to switch to loans secured by your business assets once it’s eligible. Never use HELOC to finance day to day operations especially unnecessary purchases.
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