Step Three of the Six Steps to digging out of debt might surprise you. In earlier posts I covered the first two steps:
STEP ONE: Be sure to know your debt situation
STEP TWO: Be cautious as revenue improves.
If you have been anxious about the increasing debt level of your business, you might want to pay that debt down as soon as you possibly can. Especially if you are frugal by nature, the debt load may be wearing on you.
How to decide whether to pay debt early:
- When is the debt due?
If you followed my recommendation in the first post in this series, you know just what your debt situation is. If you have the cash available to pay debt early check the due dates, create some cashflow forecasts and consider how you’ll pay it off later if you do not pay it now.
- What are the competing needs? (Here is help to make your list)
While paying the debt down early may feel good, is it really the best thing to do to position yourself for the recovery or growth you have planned?
- Is your debt level making it difficult to meet your debt covenants?
Are you up against debt levels that make it difficult to meet the debt coverage ratio or other promises made to your lenders? While lenders are inclined to be flexible if they think you can pay, missing debt covenants makes it more difficult for them to do so.
- What is the danger that if you pay off debt early, you may not be able to access that credit source again when needed?
I know of some businesses that have fully drawn their available line of credit and put the funds in the bank, even though it costs them interest on the loan. They figure if they already have it (and it is not due yet) it is more difficult for the lender to unilaterally restrict the credit.
Paying off debt early may feel good. It might even impress the lender. But be sure it is the most important use of your available funds.
Next post is Step Four: If you are behind (or in danger of missing a payment), call your lender before your lender calls you.