A regular flow of funds is essential for the smooth functioning of any business. Without adequate capital, you cannot run a business. Both permanent and working capital is essential for a successful business, no matter what size and scale it is. If you’ve tried arranging funds for your startup, then you probably realize that traditional business loans are not easy to get, which is why small business owners prefer cash, asset, and jewelry to procure funds for their business.
Rather than applying for a traditional loan, it is preferable to understand other means of sourcing funds such as Home Equity Loans, also known as a line of credit. It is a feasible option if you have equity, a good credit score, and a sustainable income for repayment. It may not be suitable for every businessman; hence all the factors must be considered before applying for it.
Home Equity Loans Explained
A Home Equity Loan or Home Equity Line Of Credit (HELOC) both sound like the same. But they are different in major respects. A home equity loan, also called a second mortgage, has a fixed rate of interest and a fixed repayment schedule. The installments are paid monthly just like a regular mortgage loan. Under a home equity loan, you have to pay both principal and interest.
HELOC is more like a credit card. The borrower has a predetermined amount of money that can be withdrawn whenever he/she needs cash. The benefit of HELOC is that you would be charged interest only when you withdraw funds. When you apply for HELOC, the mortgage interest rates are variable*. The interest rates change as it depends on the prime rate.
In HELOC, there is a draw period and repayment period. During the draw period, you can withdraw as much money as you want within the credit limit which lasts for 5-10 years. Then, comes the repayment period, where you pay the interest charge for the draw period. Hence, you are only paying for the interest and not the principal.
Who needs Home Equity Loans?
Home equity loans are the best bet for small business owners who need money in a lump sum for purchasing land, equipment, or any other asset. It is ideal for one-time expenses. There are other businessmen needing funds for their working capital management. They want to reserve cash for immediate needs or short term liabilities. To manage the current need for funds, HELOC serves the best.
When you’re in immediate need of funds, it is practically not feasible to avail a personal loan or other forms of credit owing to the high interests charged. Hence, HELOC allows the businessmen to use the available funds within the prescribed limit and pay the interest charges later.
If you want to purchase a restaurant or a retail business, then HELOC or home equity loan may not be a good idea. Buying inventory with the funds is also not a good idea, as the value of inventory would reduce over time.
This form of second mortgage loan is ideal for service industries such as consulting, legal services, social services, and health services. As they offer services, cash earnings are high. The businesses can easily make interest repayments. If the businessman is confident about their ability to pay the installments or interest payments, home equity loans offer several benefits.
4 Benefits of Home Equity Loans
1. A quick source of funding– Home equity loans require less paperwork and scrutiny. It is the fastest and painless way of small business financing. With home equity loans, small business owners can handle the immediate requirements of funds easily.
Traditional business loans require a lot of paperwork. Generally, sole proprietors do not get a business loan** from banks due to low income, and incomplete paperwork. The smaller the business, the lower are the chances of getting a business loan. Hence, home equity loans are ideal for small businessmen.
2. Flexibility in use– The amount received can be utilized for various business needs. Generally, traditional forms of finance prescribe the methods of using funds. With home equity loans, small business owners are free to use the funds as they want. You have the freedom to utilize the money to pay off your debts and bills and replenish the inventory.
HELOC is the best way to manage your working capital deficit. For short term needs, short term financing methods provide ease of business and manage your immediate liabilities.
3. Funds with low-interest rates– Home equity loans are provided at lower interest rates in comparison to traditional business loans. Generally, a home equity loan is sanctioned at around 6% whereas a traditional business loan ranges between 7%-30%. As the loan is secured with equity, you can take advantage of lower interest rates for ease in business.
If we compare home equity loans with HELOC, the latter is cheaper. If the average rate of interest for a home equity loan is 6% for $30,000, HELOC is available at 4.78%.
4. Tax benefits– You can avail of tax benefits for both home equity loans and HELOC. If you are using the money, interest is deductible on mortgage and home equity, and the deductible interest can go up to $750,000 for residential loans.