Everybody needs money, be it for personal needs or business purposes. Borrowing loan is considered as one of the key ways to finance such needs. People generally take a personal loan to meet their immediate expenses like medical emergency, home renovation, wedding expenses, etc. As the business grows and expands, borrowing loan becomes inevitable to maintain the pace of expansion, pay the day-to-day expenses, etc. Since loan comes to our rescue during the tough financial times, getting the same from the bank and other lending institutions becomes in itself a critical exercise.
Inapt or insufficient financing is one of the most prominent reasons for the failure of a business. At an individual level, such ill-timed borrowing can eat up the entire savings. This is because loan holders tend to make mistakes or errors in getting the required loan. Factors like ignorance regarding the proper procedure of applying for a loan, market conditions, hasty application for a loan, lack of expert financial advice, or being in the shoes of the first-time borrower, etc., might lead to committing the mistakes in borrowing money.
Today, as the frauds and scams cloud the banking industry of the country, lenders consider various factors while evaluating the eligibility of the loan applicant for sanction of the loan (e.g. credit score, repayment capacity, income level). In such a scenario, getting the loan becomes tough if the loan holder commits errors in applying for the same.
Let’s understand some common mistakes that loan holders make:
- Lack of a concrete business plan: Many business houses, especially start-ups, lack a well-designed business plan that intends to tell the lender about the goals of the business, the growth prospects, current and desired financial position. Not properly explaining the purpose for which loan is required may not arouse the interest of the lender to invest in the business.
- Inability to estimate the funds’ requirement: Knowing the exact amount of money required is a pre-requisite for borrowing. Giving a range like Rs.5 lakh to Rs.10 lakh while applying for a loan might lead the lender to suspect the borrower’s repayment ability since he is not sure about how much he needs.
- Not maintaining a good credit history: Lenders analyze the financial history of the prospective borrower before sanctioning any loan to know his repayment ability and the risk associated with such lending. However, people sometimes fail to maintain a good financial track record by not paying attention to certain errors like mistakes while filling the loan application form, a frequent number of bounced cheques, applying for too many credit cards, and missing out on card or loan repayment among others.
- Not exploring other options: The most common mistake that people make is to borrow from the same lender that they frequently transact with. It might be the easiest option, but not the wisest one. Not exploring options of taking a loan from different lenders puts the borrower in a disadvantageous position as he misses out on specific offers that an individual lender might be ready to offer.
- Hiding the existing loans: Taking a new loan without disclosing about existing loans increases the risk of non-payment. It leads the person into a vicious circle of debt due to over-leverage. Highly levered firms have a high debt to equity ratio, increasing the risk for the lenders. This reduces the chances of such businesses to get loan easily, thus they tempt into hiding the debt-ridden position of the firm.
- Failing to keep proper financial records: Many business houses, as well as individuals, fail to maintain proper financial documents and statements that may prove to be a hindrance in getting the loan. Good record-keeping reflects the performance of the business. Improper documentation casts doubt upon the management of the business and hence banks feel hesitant to lend to such businesses.
- Treating interest rate as the deciding factor: Though interest on the loan is the actual cost to the loan holder, treating it as the only factor in deciding the loan to be taken might not be correct every time. The quality of the loan agreement is often ignored.
Apart from those mentioned above, other common mistakes in taking the loan include not properly going through the terms and conditions of loan, leaving less cash in hand by paying loan too early, opting for a wrong type of financing (e.g. paying salaries by taking loan), not having enough cash flow and lack of understanding of the risks of collateral.
The failure to avoid such mistakes may lead to failure in borrowing loans. And if not able to get the required loan, businesses may resort to other options like not to expand the operations, laying off of employees or might force an ordinary man to cut back on important expenditure.
Thus to overcome these mistakes and save yourself from disapproval of loan application, the following are certain suggestions:
- Having a well-written business plan: Such a plan helps to identify the capital needs of the business by enabling the business houses to project future cash flows. Clarity about the purpose and quantum of funds required: while approaching the lender for a loan, be sure about the purpose for which loan is taken and the amount of loan leads to proper usage of funds later on.
- Maintaining a good credit score: Being financially responsible and having a good credit history improves the credit score. An impressive credit score (700 and above) eases the loan approval process and can provide you with reasonable interest rates and repayment schedules.
- Comparing various options: In this technologically advanced age, loan holders can visit online financial websites to compare various loan offerings and select the best one. Proper research leads to more informed and better decisions.
- Disclosing existing loans: To avoid a situation of a debt trap, the potential borrower should disclose his/her existing loans. Any kind of false information supplied in the form will lead to rejection of it and may even begin the legal prosecution against the borrower.
- Considering other factors also: Factors like loan repayment period, flexibility in repayment, collateral required, fixed or reducing balance method and other terms and conditions of the loan agreement should be given due consideration.
To conclude, the loan is an essential source of finance. When taken responsibly, money availed through loans could go a long way in running any business or taking up any other personal activity. The process of sanctioning loans might take time involving numerous terms and conditions. However, being properly aware of such procedure and taking expert advice could get the loan holders the right kind of loan from the right source.
Contributed by https://www.indifi.com/