If promoters can run the business with their own funds without bank finance, is it still good / correct to avail bank finance ? What are the advantages and disadvantages ?

Bank loans are available to finance the purchase of inventory and equipment as well as to obtain operating capital and funds for business expansion. These loans are a time-honored and reliable method of financing a small business, but banks often only finance firms with substantial collateral and a long track record, and the terms they offer are often very strict. Business owners should weigh the advantages and disadvantages of bank loans against other means of finance.

 

Basic Advantages of Bank Loans

A bank loans money to a business based on the value of the business and its perceived ability to service the loan by making payments on time and in full. Banks do not take any ownership position in businesses. Bank personnel also do not get involved in any aspect of running a business to which a bank grants a loan. Once a business borrower has paid off a loan, there is no more obligation to or involvement with the bank lender unless the borrower wishes to take out a subsequent loan.

Tax and Financial Planning Advantages

The interest on business bank loans is tax-deductible. In addition, especially with fixed-rate loans, in which the interest rate does not change during the course of a loan, loan servicing payments remain the same throughout the life of the loan. This makes it easy for businesses to budget and plan for monthly loan payments. Even if the loan is an adjustable-rate loan, business owners can use a simple spreadsheet to compute future payments in the event of a change in rates.

Difficulties in Obtaining Loans

One of the greatest disadvantages to bank loans is that they are very difficult to obtain unless a small business has a substantial track record or valuable collateral such as real estate. Banks are careful to lend only to businesses that can clearly repay their loans, and they also make sure that they are able to cover losses in the event of default. Business borrowers can be required to provide personal guarantees, which means the borrower's personal assets can be seized in the event the business fails and is unable to repay all or part of a loan.

Cost of Bank Loans

Interest rates for small-business loans from banks can be quite high, and the amount of bank funding for which a business qualifies is often not sufficient to completely meet its needs. The high interest rate for the funding a business does receive often stunts its expansion, because the business needs to not only service the loan but also deal with additional funding to cover funds not provided by the bank. Loans guaranteed by the U.S. Small Business Administration offer better terms than other loans, but the requirements to qualify for these subsidized bank loans are very strict.

Advantages

Convenient and accessible– Banks are always accessible since they are used regularly for depositing savings or withdrawing them. After being bank customers for years, the bank becomes convenient and familiar, and personalized service makes it the first place to consider for a loan

Multiple Loan options– All banks advertise various types of schemes to woo entrepreneurs setting up or running a business. The real earnings for a bank come from the interest they charge on these loans. Options like term loans, standard business loans and others are available for the entrepreneur

Non profit sharing– Venture capitalists and angel investors agree to provide a loan in exchange for part ownership, the right to influence decision making and a share of the profits. Banks do not ask for any of these. If they do sanction a loan, they are only interested in getting their interest and partial loan payment installments

Lower rates of interest-Though tough to get, banks provide loans at lower rates of interest than other lending agencies and instruments like credit cards

Bank loans offer tax benefits– Small businesses taking loans from banks enjoy some relief from tax, since the percentage of profits used to repay the loan is exempted from tax

It is these advantages that prompt entrepreneurs to approach banks for one of the various loans offered

Disadvantages

Lengthy application process– banks need to verify all the credentials and details about the business before sanctioning a loan. Therefore its application process is very long and its review etc. takes a long time

Cumbersome– The prospect of getting into the detailing that banks require is really cumbersome, and from the entrepreneur’s point of view, totally unnecessary

Preference given to existing, running businesses– banks prefer running businesses because they can gauge its profitability and credit history before sanctioning the loan

Long list of prerequisites to qualify for the loan– banks have long list of conditions that a business should fulfill before they clear the loan. It is sometimes not possible to meet all of them

Risk of losing Collateral– bank loans are generally sanctioned against some collateral, often the entrepreneur’s house and property. This stands the risk of being lost to the bank should the business fail to take off

Entire amount not granted– banks are known to not agree to grant the whole amount requested for a loan. They may grant 70 or 80 % of the sum applied for. This makes it difficult for the entrepreneur to begin since he has to scout around for the remaining balance and find agencies to funs that before he can start

 

When it comes to finance to be used in business, majority of companies uses bank facility for its operation. The main benefit is it can use its fund for some other purpose and cash flow could be handled effectively.

 

Own fund is used only when they wish to start a firm, but when the firm is well established and bank is ready to fund, i think most of the firm use bank facility for its operation.

 

The disadvantage what I see is interest on the funds, but since it is adjusted in books of accounts in balance sheet owners do not have problem in using bank facility.

I think experts have given answers at length.

agree with the answers ..................................................

full agree with mr. vinood on his answer