MSME sector has suddenly witnessed a boom in its expansion. Now, it has become the first choice of the common man of India. In the times of unpredictability, these enterprises are working as the support stick for the faltering state of the Indian economy. Today, it is contributing approximately 30 percent to the GDP because it has become straightforward to operate an MSME in terms of legal paperwork, risk, and especially funding. Arrangement of funds has become much easier as several banks are providing business loans at a cheaper interest rate.
Moreover, numerous government schemes have been launched to help budding enterprises. However, this is not the full picture; there is the other side to this cheap funding as well. There are disadvantages also associated with the loans provided to such businesses or industries. These demerits are raising a question as to the usefulness of the loans provided by different organizations. To conclude, let us evaluate both sides and then decide whether the loans should be granted or not.
Pros of MSME loans
1. Easy Arrangement of funds
The first and foremost advantage of loans is the easy Arrangement of loans. Easy it is because MSME enterprises effortlessly satisfy the eligibility criteria for the same. Banks are also happy to provide loans because they are generally willing to associate themselves with the new ventures. Also, the recovery of the loan amount is assured as the ventures usually are less risky and profitable compared to the other types of businesses.
2. Low-interest rates
These types of loans are not preferred because of guarantee and convenience only. They are also preferred because they are cheap. The interest rate associated with these loans is generally in the range of 10 to 15 percent, which makes it quite affordable and easy to repay.
Another advantage associated with it is flexibility. It allows one to borrow and repay on flexible terms. Part payments can be made without paying the penalty.
4. Tax Benefits
MSME loan provides an extra tax benefit as well. It reduces the taxable income of the enterprises, which eventually leads to low taxes.
5. Different types of loans available
Different kinds of MSME loans are available in the market today. One can choose as per one’s capital requirement, risk appetite, tenure. Loans are also provided on the basis that if one is trying to start an enterprise or looking for an expansion. In any case, it gives freedom to choose for the amount and other specifications instead of going for the single package which is designed as per general needs.
6. Sustaining at the perilous times
A business never always runs on profit. At some period of time, gains are made whereas, at some points of time, massive losses are incurred. Then, these loans help a business to sustain in the market, especially in the initial years of the business. These funds boost confidence by providing a sense of security to the entrepreneur.
7. Total control
There is no sharing of control like in the cases when funds are arranged from venture capitalists and other such sources. All the decisions are made solely by the entrepreneur only, and the owner exercises total control. This leads to fast decision making and clear roles & lines of responsibility.
8. Increase in the number of registrations
To avail the facility of a bank loan, one needs to register the enterprise with the government under the law. It leads to a decrease in the number of unregulated enterprises and hence helps the government in keeping a tab on the number of regulated ones.
Despite many advantages, this is not always considered a viable option for the funding because of the demerits associated with it, which are explained below.
Cons of MSME Loans
1. Piling of interest
The first demerit is the interest amount to be paid. Interest to be paid is piled up fast in case of loans. Even though the rate of interest is much less as compared to the other types of loans, the interest accumulates rapidly and takes away a significant amount of money when paid. Such liability does not occur in the case of angel investment or bootstrapping.
2. Tedious procedure while applying of loans
Although the percentage of approval of the loan is high, the procedure for sanctioning is tedious. A lot of documents have been asked while applying for the loan, which makes the whole process cumbersome and tiring. Documents such as income tax returns, profit and loss statements, bank account details, bills of receipt and payment, and several other papers are asked to prove the credibility of the lender.
3. No collateral requirement
Though this is an advantage for the lenders, this may become problematic to the banks. When collateral is asked for the loan becomes secured. It is secured in the sense that if a bad debt occurs, the lending institution does not suffer any loss. However, most of the MSME loans are provided without collateral, and this makes them insecure and unstable for banks. It leads to an increased probability of bad money.
4. Processing fees
Loans processing requires a fee to be paid by the borrower, which bears an extra expense for the entrepreneur. This is not required to be paid in the case of options such as crowdfunding or angel investment.
5. The whole amount is not provided
The full loan amount is not always provided. Generally, a 50 to 60 percent loan is sanctioned. Therefore, the procurement of loans does not guarantee that everything will go as per the plans. In case of a case, one has to look for other investment options as well, which in itself is a tiring task.
6. High credit score
As discussed above, most of the loans do not require collateral. This leads to a requirement of verification of the credit score of the applicant by the banks and other lenders. Therefore, an individual whose credit score is not good enough cannot apply for a loan at all.
After having a thorough evaluation of the advantages and disadvantages, it can be seen that the advantages weigh more than the disadvantages. Easy procurement of funds is more important than the procurement of a partial amount. Similarly, a low-interest rate is more advantageous than the piling of interest. Here, what can be noticed is that most of the disadvantages are about lack of planning. Interest accumulation and detailed documentation can be eradicated with the means of proper planning and discipline by planning for each installment in advance.
A high credit score can be maintained with the help of adequate consultation with the personal finance expert. This will not be useful for not only availing of loans but also increase the trust of the other business parties as well.
Therefore, we can conclude that the loans may not be the best option but an optimum choice for small business owners. As nothing comes for free, the cons mentioned above must be considered just like the cost for which one needs to take certain precautions. Following expert advice in this regard will prove to be helpful. Indifi is a market leader in this space. In case of any problem, feel free to reach out to us.