Cost vs Value of Borrowing
I read this week about the tax American athletes have to pay when winning an Olympic medal. The athletes have to pay tax on their Olympic winnings and on the value of the medal they have won. Given the tax brackets in the US each athlete pays 43% of the value of their medal in tax.
I looked into things a bit further. A gold medal is made of silver and plated in gold, silver medals are mostly silver and bronze medals are a basic plated alloy. A bronze medal in raw form has a value of around £3. That’s is something worth £3 for a lifetime of effort. To the athlete though, it is valued so much more and I get that completely.
This is where I got thinking about the cost of borrowing and the value it offers.
Borrowing is about cost
I get this all the time. Borrowers look at the cost of lending in terms of the interest payable, without any advice around the bigger picture it is the cost that borrowers base their decision on.
It is only when something happens that the cost of borrowing starts to get less important.
The phrase ‘have your cake and eat it’ applies to borrowing as much as it applies to anything else you buy. Sometimes the lowest rates look the best option but if you don’t consider the long term then it can cause you real problems. A case recently demonstrated this.
A client had a great deal on a commercial mortgage. The client had approached the same lender to advance a further £150k which was declined. They then approached another lender who wanted to take some additional security from the client, this security required the consent of the mortgage lender. No prizes for guessing, the mortgage lender declined as agreeing to the additional security would (in their opinion, not necessarily my own) have worsened their position.
The client had always had plans to borrow more as they were expanding but had not considered this when they first took their mortgage out.
It was this series of events that lead to them being referred to me.
Long term, not just cost
In the case of this client we negotiated with the new lender to change their requirements which mean the mortgage lender agreed to things. The negative was that the new loan was at a higher rate of interest and the first mortgage had to increase slightly also. What it did cost the client was about 6 months of wasted effort.
Had the client considered their long term goals at the outset then we would have done things differently from the outset.
As a guide, if you are borrowing for your business then don’t just look at the cost, find out a few more details from the lender, such as;
- If you are giving a charge over property, ask the lender what they would do if you wanted to borrow again in the future using the same security. Would they consent, what would they want. Try and get as much of this as possible in writing. Remember that if you are signing a loan form then there is normally some white space somewhere, add a small note to the lender’s copy
- Be clear what security is being taken by the lender. Be especially careful about providing a ‘Debenture‘ or ‘Fixed & Floating Charge’. If two lenders want the same piece of security it always causes a
- With unsecured loans then check the paperwork for any additional borrowing clauses. There are some lenders who require you to obtain their permission before borrowing elsewhere. Ask the lender the question
There are a number of other questions to ask which I will do for you. Don’t get distracted by rate alone when it comes to business borrowing, it is about the value to you over and above the cost. A bronze medal isn’t worth £3 to the holder, it is so much more. Your business and the dependency on finance is exactly the same.
By Dave Farmer
Lime Consultancy are a fully authorised commercial finance broker, we specialise in lending to businesses and property specialists. Any questions about this post please get in touch or add your comments below.