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Why cancelling your overdraft makes perfect business sense

07/09/2016 / Comments 0

Why cancelling your overdraft makes perfect business sense

Overdrafts have long been a popular choice for SMEs when it comes to external sources of funding.

They’re often easy to set up, quick to arrange and can provide an effective way to manage short-term cash flow dips as they allow you to pay for something when you would otherwise have no money in your bank account.

But, with overdrafts appearing to be slowly dying out, we look at six reasons why cancelling your overdraft makes perfect business sense.

1. It might not be around forever

Banks have been significantly reducing lending via business overdrafts since the recession, leading to concerns that overdrafts may be dying out for small businesses.

According to figures from Funding Options, over the past five years the value of bank overdrafts to small businesses has fallen 42%, down from £20.9 billion in April 2011.

With banks still seemingly reluctant to lend in this way it may be beneficial to look for alternative options now, before the decision is potentially taken out of your hands. Particularly for smaller businesses who may rely on their overdraft to make ends meet, it may be difficult to pay it back at short notice.

2. It won’t support your long-term ambitions

When cash flow is tight, overdrafts give businesses important breathing space. But, in the longer term, relying on an overdraft for your business’s needs can be extremely unsupportive.

For instance, if you want to buy new assets without tying up cash flow or improve access to working capital, funding options exist which are specifically targeted to reaching these goals.

In contrast, the inflexible nature of overdrafts and the charges it carries can make reaching your goals more challenging.

3. It’s inflexible

Whilst having an overdraft in place can offer peace of mind to businesses who may need access to more money at short notice, if you are close to exceeding your limit an overdraft may not give you the flexibility you need.

This is particularly true in growing businesses who may find they need to quick access to working capital in order to meet increased demand.

When you need to extend your overdraft this must be agreed by the bank or you could face fines for exceeding your limit without authorisation. This process often takes time and comes with an arrangement fee, further increasing the cost of borrowing.

4. Long-term use can be expensive

Overdrafts often come with lots of charges. For example, you could be charged for arranging the overdraft, renewing the facility and increasing your limit. You will also be charged interest on the overdraft itself and could face extra fees if you exceed your limit.

As well as this, the interest rate on an overdraft is commonly variable which can make it difficult to accurately calculate borrowing costs.

It’s important to remember that costs for different funding solutions will vary greatly and the cheapest option isn’t necessarily the best. What’s more important is the value it brings to your business, so bear this in mind when deciding how to finance your business.  

5. Even accidentally dipping into your overdraft can be costly

Some businesses have an overdraft simply for emergencies when they unexpectedly need a cash flow boost. For example, when a bill comes out early, or a customer pays late.

But, even when you only dip into your overdraft occasionally or by accident, it can still be expensive.

The interest you’ll pay and any one-off charges for exceeding your limit may not seem excessive when it happens once, but when it becomes a regular occurrence the costs can quickly add up.

6. More suitable options are available

Cancelling your overdraft doesn’t have to mean cancelling your funding. Part of the reason behind the dramatic recent drop in the value of small business overdrafts is that many are instead being converted into other products, such as invoice finance facilities, which offer greater flexibility and customisation.

Similarly, it’s obvious that the days are gone where your bank was the only option for business finance. Now, with a large number of funding options and lenders available, businesses have more choice than ever.

As a result, it’s likely that a more suitable option for your requirements is available.

This free guide to business funding products explores some of the options available to help you get a better understanding of what will work best for your business.

Alternatively, if you’d prefer to talk through your options with one of our expert funding consultants you can contact us on 0800 9774833 or info@hiltonbaird.co.uk.

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