It is no secret that funding a new business is difficult. In fact, it’s easy to make the case that a lack of funding is the biggest obstacle to succeeding as an entrepreneur. From initial funding to the continued funding necessary to keep a business on track, the start-up entrepreneur is constantly walking around with his or her hand out. Perhaps business credit cards are a good solution. Or are they? That depends on how they are used.
Let us assume you have managed to arrange start-up loans to get your business off the ground. Everything has been humming along fine for the last eight months or so. Now you find yourself needing more money to keep things on track. What do you do? One person might recommend you take out additional loans to keep your business afloat. Someone else might suggest you use business credit cards.
A couple of business credit cards might actually be the best solution for you. But then again, they might not be. Credit cards have their pros and cons that have to be looked at carefully. Remember that credit cards are just a different kind of borrowing. A credit card is a piece of plastic that says you have access to an unsecured loan that acts like a revolving line of credit.
How Credit Cards Can Help
There’s no doubt that credit cards can be a great source of funding for start-ups that find themselves facing a cash crunch. Anything that can be financed by way of credit cards frees up cash to address things that cannot be charged on credit. For example, a restaurant owner could use a credit card to purchase kitchen supplies. The cash he/she saves could go toward payroll, an expense that cannot be covered by credit.
Another helpful benefit of business credit cards is that they can be used to cover emergencies. In the same way consumers use their credit cards to handle the unexpected, a business owner can address emergencies on credit rather than having to drain the bank account. If the delivery van goes down, he can use a credit card to pay for repairs. If he needs some additional inventory to get through an unexpected rush, he can leave the bank account alone and put it on credit instead.
As long as the business owner understands that credit cards represent unsecured loans, those credit cards can be a very valuable resource. But they have to be used responsibly. Any form of unsecured credit that is not controlled can become a source of mounting debt that might eventually take the new start-up under.
How Credit Cards Can Hurt
We have all heard horror stories of people overextending themselves with credit cards. Those stories do not apply just to retail consumers. There are plenty of business owners who have done the same thing. The reality is that business credit cards used improperly can hurt more than they help.
Interest is the biggest concern. Cards with high rates can end up costing the business owner more money than it is worth to borrow on credit. Hand-in-hand with high interest rates is the temptation to charge up a credit card and then only pay the minimum amount due at the end of the billing cycle. This is a good way to get caught in a never-ending cycle of credit card payments.
Lastly, there is always the temptation of using credit cards to keep a struggling business afloat rather than addressing the fundamental reasons the business is in trouble. At that point, credit cards become an inviable solution to much more serious problems.
Shopping Around for Credit Cards
Any business owner hoping to use credit cards in lieu of start-up loans would do well to shop around. There are both good and bad credit cards, just as there are good and bad loans. As such, credit cards are only a better option if they offer better rates and terms.
Always bear in mind the annual percentage rate (APR) when looking for new credit cards. The APR represents, as a percentage of the principal, how much interest is paid over the course of a year. So an APR 12% on a £1,000 loan would mean repaying £120 over 12 monthly payments. The interest charged each month is 1%.
Why does this matter? Because credit cards often come with interest rates that are higher than standard loans. They are unsecured loans, after all. The entrepreneur is ideally looking for a credit card with a rate comparable to that of a standard loan. It is okay to accept one with a slightly higher rate if the chances are good that the card’s balance will be paid off quickly enough to keep the total amount of interest paid in check.
A slightly higher interest rate could also be offset by a credit card that allows the business owner to earn rewards. As far as rewards go, cash back is really in the best interests of the entrepreneur. Cash-back rewards can be used to offset future business expenses – including paying down the credit card bill.
Wrapping It All Up
To wrap this all up, credit cards can be a very good option to start-up loans under certain circumstances. But there is no form of business financing perfect for every situation. Entrepreneurs have to assess every financial need on its own merits. Sometimes start-up loans will be the best way to go. Other times, credit cards will suffice.
The key with credit cards is to understand that they are short term, secured loans represented by plastic cards. If a business owner treats them more as an unending line of revolving credit, it becomes very easy to get locked in a cycle of debt that ends up costing the business more money than its worth.
Credit cards for business expenses should be used with the utmost care and respect. They should only be used out of necessity, and balances should be paid off in as short time as possible.