Payday loans are one of the most insidious business practices, and their customers seem to end up with a payday ball and chain around their neck that never seems to go away. This is because the interest and fees associated with these loans are so high that many people get trapped into taking one after the other over and over again. Rarely do payday loans end up being the short-term solution they claim. On the business front, there are working capital loans. Do you think that these are a good idea and a valid solution to help manage working capital, or do you think that these are the business equivalent of payday loans?
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I look at payday loan and working capital loans differently because of how the debt to income or net working capital is calculated. Funding circle talks about businesses looking at their capacity to repay a loan before taking a working capital loan. “Capacity, in this context, is your business’ ability to repay the loan” (DeNicola, 2021). I would use the formula for net working capital to determine what I am able to pay off. A business also needs to look at their historical records to determine if they would be able to cover the loan with profit or if they would need to dig into their cash before taking the loan. In this case I don’t consider it a payday loan because the company has assets to cover the loan they are just looking to capitalize on the time between payments to make as much money as possible. When individuals get payday loans they normally get them to cover bills because they have overextended themselves without a real plan in place to make up the money and the loan for not only the payday loan but the other loans they have in place that continue to build interest. Working capital loans are used for many reasons outside of paying off debt. Some of the different reasons for these loans could be to meet seasonal demands for employees, supplies expansion of a business, and can even be used to refinance existing debt with higher interest rates (DeNicola, 2021). Being able to efficiently and effectively manage your assets and liabilities is critical to becoming a successful business (Adelman & Marks, 2014). Truly understanding your financial statements and where you can find efficiencies so you don’t have excess money just laying around will allow you to execute a working capital loan to benefit your business and not put you into a cycle of more and more loans.