REVEALING THE MYTHS & TRUTH OF APPLYING FOR A BANK LOAN
Prudence advises that the entrepreneur start a new business with a savings account sufficient to pay one yearís worth of expenses. Prudence may have been endowed with a large trust fund, the rest of us apply for bank loans.
There are two common forms of business credit available to small law firms. A business installment loan provides a lump sum up front with set monthly repayments made over a set period of time, usually 5 years. The business installment loan is best for big purchases of the physical things you need to run the firm. The other form of credit is the business line of credit, which is just a giant credit card, best for easing the strains of uneven cash flow. The interest on a business loan is tax deductible. Both forms of credit have origination fees, which range from 1 Ė 2 percent of the loan, as well as application fees. The line of credit also has an annual fee of about one percent of the total credit available, whether or not you are actually using that credit at the time. Part or all of the application fees may be waived. Be sure to discuss this with the loan salesperson.
Your bank determines how much credit it will extend you, but often there is great flexibility as to which form of credit it will extend. A combination of both kinds of credit is the best solution to your firmís needs.
As you enter the alluring, but sometimes disorienting, world of the lending institution, awareness of certain myths will help keep you facing forward and standing upright:
The first myth is that banks loan money to people who need money. Actually, banks prefer to loan money to people who have money. The more you need the money, the harder it is to convince a bank to lend you money and the more expensive the loan will be. Banks evaluate your loan application based on your firmís revenue, cash on hand, assets, and history of well-managed credit, weighed against your current debt, expenses, and past credit indiscretions. With this knowledge, apply for the loan when you are flush, right after you deposit that sweet fat fee that you worked so hard to bring home.
The very reason you organized the firm as a PC or an LLP was to protect your personal assets against availability to satisfy judgments against the firm for either malpractice or unpaid debt. This works in large firms with scores of attorneys organized into complicated schemes of partners and junior partners, equity members and non-equity members of the firm. It will not work for the solo practitioner or the small firm practitioner.
It is guaranteed that the bank will require your personal guarantee of the loan. That is, you will agree to be personally responsible to pay back the loan, even though you are organized as an LLP or PC and the money is to be used solely for business purposes. In a small firm, the bank will probably require the guarantee from all of the principals of the firm.
In addition, the bank may also require you to secure the loan with collateral. The most common form of collateral is real property. Resist a bank request for collateral. Every bank that offers small business loans offers some unsecured business loans; advocate for an unsecured loan.
On the question of a judgment of a malpractice verdict, remember that you are never insulated from liability for your own mistakes. Thus, you are always individually liable for your own malpractice. If your firm has strict areas of exclusive practice for each partner into which another partner never strays, there may be some insulation. As a practical matter, that is difficult to achieve in a small practice, indeed the reason you took on a partner to begin with was to help you cover your caseload and to add expertise. In a small practice, the principals have their hand in most of the work and have touched almost all of the cases at one point or another. The way to insulate your personal assets from a malpractice claim is to maintain sufficient insurance.
At various times, some banks are aggressively marketing small business loans while others are not. The consequence is a real variation in the criteria for acceptance of your loan application. One large bank had an active small business program for years that sought out loan applicants and made special efforts to offer loans to non-traditional business people. After a merger and a constriction in that bankís lending policy, the small business program became window dressing. Credit lines were not renewed, phone calls were no longer eagerly returned. But as one bank phases out its program another is developing one. Ask around and read the papers; you will find the lending institutions that are currently targeting your niche.
You can, indeed you must, sell yourself to the bank. Lenders exercise discretion. The same paper application may result in a loan offer to one firm and a rejection to another. The individual who meets with you and helps you with the application is a salesman who wants you to buy his product, the loan. The individuals who approve your loan are numbers crunchers who are separated from the sales process. But the sales person can push your loan if you convince her that your practice is growing, and that the sales person will benefit from association with you as you expand your firm.
The bank will probably send a friendly delegation to your office. This is the time to lay the carpet you have been considering, put some pictures on the wall, and make sure your office looks and acts like an office. While the delegation is meeting with you at the office, be sure your telephone is ringing regularly, even if you have to tell your secretary to call herself every 10 minutes. The delegation will be watching for indications that you have an active, vibrant practice. Do not disappoint.
Prepare for this meeting as you would prepare for a trial. Know your agenda, plan your vocabulary and phrasing. Know how to use words like income statement in a sentence. Consider how you will introduce certain topics that cast your practice in a favorable light. Prepare and organize visual aids, including all the articles written by you, or about you and the firm. Prepare a spreadsheet of your cases showing profitable cases to date, as well as pending cases, which project your future revenues. Because the lender probably is more familiar with businesses that sell things or make things, you will have to educate the bank about how your inventory of cases is your assets. Be prepared to teach your lender how your business makes money.
The financial data you provide the bank can be presented, organized and defined to your advantage. You do not have to create offshore partnerships to hide debt, leave the shenanigans to the folks at Enron. There is plenty of room for advocacy and persuasiveness even in the dry data you submit to the bank. Work with your accountant to identify all of your current and future income. Find the best way to honestly report the weakness in your application, but present your firm in its best financial light. This can make the difference between a loan offer and a rejection.
Credit is a tool. Consider carefully how you will use this tool. It ought to make more money or you will have added to your monthly expenses without creating better ways to pay those expenses. Some loan applications require the development and submission of a formal business plan, but many do not. As a matter of proper management, whether or not you prepare a full business plan, it is critical that you run the figures so that you understand thoroughly how the cost of the credit that you buy will result in increased revenue.
While credit is a tool to be treated with respect, it is not one you need to fear. A healthy growing business requires credit. The need for credit is not a sign of weakness or impending disaster; it probably is a sign that you are successful. Your caseload is growing and you need the resources to manage the work and develop these financial assets. If you know how you will manage the credit and how it will benefit your firm, you need not hesitate to accept a loan offer.
With a good understanding of how the credit process works, and a willingness to advocate for you, the loan offers will come, the practice will flourish. And you look marvelous.