Finance for Small Businesses

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Choosing and Using Charge Cards for Alternative Financing

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Owners of small- and mid-sized businesses are increasingly turning to credit cards to finance operations, while the use of commercial banks loans for financing is on the decline, according to a recent study.

A survey of 953 business owners found that credit card financing for these companies has almost doubled since 1993, up from 17.3 to 33.5 percent in 1997. Meanwhile, loans from commercial banks aren't being used nearly as frequently as a financing option, with small business use decreasing from 49.4 percent in 1993 to 37.8 percent in 1997. The findings were compiled by Arthur Andersen's Enterprise Group and National Small Business United, an advocacy organization.

"The significant decline in commercial loans raises concerns about how effectively companies are matching long-term financing needs with long-term financing instruments," says Richard Robbins of the Enterprise Group. "It is important for small- and mid-sized businesses to build strong relationships with their bankers to establish credit history--something that can't be done with credit card companies."

Moreover, going through the loan application process forces owners to more clearly plan their business operations, asserts Susan M. Jacksack, a small business and tax expert for CCH Tax and Accounting, and editor of the new book, Business Plans that Work for Your Small Business. Since owners have to convince a neutral party, the banker, to loan the money, the soundness and profitability of the concept is impartially judged. Jacksack believes that proper feedback from your banker can make this professional one of your most important business consultants.

But clearly, the trend toward credit card use is growing, and not only for business financing. Through February 1998, the Federal Reserve reports that American consumers were $1.244 trillion in debt, exclusive of home mortgages. So, if you must use credit cards as a way of financing your small business, there are a number of things to consider when choosing and using your credit card.

First of all, you need to be smart and search for the best deals. There's a lot of competition out there looking to secure your credit business, assuming your credit is good, so don't be afraid to negotiate and play one company against the next in order to get the most favorable terms. If the customer service representative you are dealing with refuses to budge, ask to speak to a supervisor. You may have to do this more than once, but eventually you'll find the person with the power to work out a deal. The worst that can happen is they'll say no. At that point, try another credit issuer.

Second, to negotiate properly, you must understand the fine print of the terms and conditions being offered. Among the credit card companies, slight differences in terms can add up to big dollars in fees for you. Pay attention to these items:

  • Interest rates--These rates are somewhat negotiable, and you should always try for the lowest charges. The way in which interest is computed (which isn't negotiable) is usually done in one of three ways. The most common is the average daily balance. The issuer totals the beginning balance for each day in a billing cycle, subtracting payments and adding purchases as they are made. Then, an average of those totals is used to calculate the interest to be charged. The most advantageous method for the consumer is the adjusted balance, where payments are deducted from last month's balance to determine the new month's balance for interest purposes. New purchases during the billing cycle are usually not included. Another method is the previous balance, which uses the balance from the previous billing cycle to determine interest, regardless of purchases or payments made during the current billing period.
  • Annual fees--These, too, are often negotiable. If you pay off your balance in full every month, avoid cards with annual fees; if you carry a balance, go for the lowest interest rate, but don't pay exorbitant fees that offset your savings in interest. Shop around.
  • Credit lines--Small business owners will probably want a line of credit that is much greater than the average person would require on a personal-use credit card. This could limit your available options when searching for an issuer. But carrying a high monthly balance means more revenue for the card company in the forms of fees and interest paid. Be sure to emphasize this concept during your negotiations. You may have to bargain away one advantageous feature of a certain card in order to secure another. Evaluate the entire package before picking a card because of one specific feature.
  • Grace periods--Most card issuers offer a 25-day grace period in which to pay for new purchases without incurring finance charges, but some have shortened the period to 20 days. Once you start to carry over a monthly balance, the grace period on all additional purchases is eliminated; you are immediately charged interest upon a purchase until the entire account balance is paid in full. If you pay in full each month, no problem, but make sure you get all 25 days. Don't bother with any card that doesn't have a 25-day grace period.
  • Two-cycle billing--When you don't pay off in full each month, some issuers will charge two months of interest for that first carryover, thereby eliminating the grace period you had just enjoyed. Find a company that only charges interest from the moment you begin incurring a monthly balance.
  • Interest backdating--Once you start carrying a balance, some companies charge interest from the date of the purchase, despite the fact that they often don't pay the retailer for a couple of days (posting date). Avoid cards that charge interest from the purchase date instead of the posting date.
  • Monthly minimums--Some credit card companies may only require a monthly payment of 2 to 3 percent of the balance, but they really aren't doing you any favors. Ultimately, you end up repaying over a longer time period and the issuer collects more in fees and interest. Pay as much as you can each month.
  • Cash advances--With many issuers, this type of transaction often results in double charges: Not only does interest start mounting immediately (no grace period), but a transaction fee of up to 2.5 percent of the advance also applies. If you plan to use your credit for cash advances, make sure you understand all the terms involved and find the card that results in the least financial pain for you.
  • Setoff agreements--If you keep a deposit account at the same institution that supplies your credit account, you may be subject to an arrangement that allows the bank to use the deposit funds to cover delinquencies with your credit card. Try to use separate institutions for these accounts.

As you can see, there are many variables involved with credit card financing. Ultimately, this form of lending will end up costing the user more than other conventional options. Yet obtaining a credit card often can be easier than obtaining a bank loan. In addition, credit card debt is unsecured, unlike conventional loans requiring collateral that can be seized in case of default.

So, if you plan to finance your small business through credit card debt, be sure to explore all of your options. A good place to start is with the asQue Credit Card Rates Guide. There's quite a bit of competition for your credit dollars, so remember the first rule of business: "The customer is always right." Find an issuer that will work with you, the customer, to arrange the best deal for your particular situation.

Posted June 6, 1998.

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