Bank overdrafts and invoice finance are two funding options that are similar in some ways however fundamentally different in others.
When you’re a looking for an overdraft there are a few key things you need to think about first:
- Am I comfortable using my house as security, tying it to my business?
- How much equity do I have available?
- What happens if I eventually outgrow my credit limit?
- Can I obtain further funding once the bank has taken security?
Overdrafts are a great option when starting out in business, they’re easy to understand and can be convenient however, they come with a few caveats to consider if you plan on growing or looking to diversify sources of funding to manage risk from one lender having complete control over your business and personal assets.
How are they similar?
Both overdrafts and invoice finance operate as a line of credit. You are granted a credit limit based on the assets provided (overdrafts being real estate and invoice finance being invoices) and are able to draw down on this credit line and repay funds on a regular basis.
There are no set or fixed terms or fixed daily, weekly or monthly repayments required. Credit lines such as these work best as on-going working capital most often used to pay for inventory, wages and advertising etc.
At any time the business owners wants to reduce the cost of finance they simply make a payment and then re-draw on the funds as they need. (see: Why Revolving Lines Of Credit Suit Growing SMB’s)
Some facts about overdrafts
- Real estate assets required
- Credit limit is directly related to your equity
- Security is taken over the business and personal assets
- Lender will prevent any other outside lender from providing funding
- Must bank, including existing mortgage with lender to obtain overdraft
Some facts about invoice finance
- Invoice finance doesn’t need any property security
- It grows as you grow, the more sales you make the bigger your credit line grows
- It separates your personal assets from the business
- It’s a revolving line of credit tied to your sales
- You’re using money owed to you instead of adding more liabilities
As soon as you make a sale you can access that money and pay suppliers and wages, there’s no need to re-apply for a larger limit if you run out of credit. The more you sell the more you have access to.
Which is better then?
The best option depends on the amount of money your business needs, the size of your company, the fluctuations of your cash flow and the security you have to offer.
If your business is only growing at a steady pace and the equity in your real estate is sufficient enough to cover your cash needs then it may suit you however, if your assets are limited or your business outgrows your overdraft limit you should think about switching to a credit line that grows in line with your sales.
What security is taken?
Overdraft facilities are secured specifically by real estate, often your personal property. To qualify for this type of financing you or your company must own real estate and have enough equity to cover the approved credit limit.
Invoice financing is secured against your invoices from reliable commercial customers (debtors). The size of the funding approved is usually determined by the spread or “concentration” of customers you sell to.
Funding limits are not tied the equity in your property, limits grow as your business grows. The more invoicing you create the more funding you can access without needing to re-apply for increases.
Say goodbye to 30, 60 or 90-day invoice payments
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