Debt financing is a process that involves generating funds for investments or any commercial venture, wherein the money required is sourced from external sources. How the cash availed is being used, depends on the perspective of the borrower. However, in most cases, the funding is more often used for investment portfolios, start –ups and even for expansion plans for those organisations who are planning to expand in their respective domains. But then, there are certain conditions which must be met. As a matter of fact, the prospective borrower has to provide some sort of collateral, while trying to secure the loans. Moreover, the principal sum along with the rate of interest payable has to be repaid in convenient instalments. These are some of the conditions that you must fulfil, prior to the availing of the loans.
But what are the main advantages of having such a financial agreement? Is there any reason to have some amount of caution, while trying to lay the foundation of your business or investment portfolio with such a long term loan alternative?
The Advantages of Debt Financing
- Absolute control without any compromises – You are all set to retain the ownership of your venture, without having to give away any equity stake in lieu of the capital.
- Maximum profits at your disposal – In this form of financing option, you are not quite required to commit any of your future profits to the concerned lender. This clearly means you get to keep all the profits.
- Funds without any obligation – This type of loan agreement are made available for a fixed term, after which you are free from all the obligations. When you have repaid the funds in full, your organisation is no longer liable to any third party.
- Exemption from Tax – The interest that you stand to pay on the funds sourced is tax deductible, which in turn limits the liabilities.
- Offers More Leverage to Plan out the Expenses – With this method of financing, you will get a clear picture of your spending, which in turn gives you more leverage and enables you to deal with the financial needs more appropriately.
- Simple and Straightforward Application – In most cases, the paperwork along with the documentation involved in equity financing arrangements can be quite complicated. On the contrary, financing through debt is a simplified process. Moreover, you are only required to make monthly payments, which is always beneficial.
The Disadvantages of Debt Financing
- An Expensive Option – As compared to other modes of financing, when you opt for debt financing, it will then increase the break- even point of your concerned business.
- Collateral is an Important Aspect – The creditors on their part will demand for some sort of collateral in lieu of the loans, wherein you might have to part away with your precious asset.
- No Payment Holidays – It does not matter if your venture is churning out the profits or not. But it is important for you to keep up with the repayments on the debt, irrespective of the circumstances. On the other hand, with equity financing, you are required to make the repayments only after earning a sizeable profit.
- Devoid of any Flexibility – In this type of agreement, you are not offered much of a respite. In case your venture is not in a position to generate the revenues, you are still liable to pay the same amount to your lenders each month, which to a large extent could push you out of the comfort zone.
- Restrictions on Various Fronts – If you are opting for the debt financing mode, then it does hamper your decision making capabilities. For instant, you are restricted from locating alternative financial arrangements, if you owe a large sum to the existing creditor.
Based on the nature of your commercial venture or investment portfolio, the debt financing mode of arrangement has its own pros and cons. However, if you consult with the financial experts and consider all the options made available to you, it might then help you choose the ideal alternatives that fit into your circumstances.