Oftentimes, a franchise business needs to secure a loan to purchase the equipment necessary for its ongoing success. However, traditional lenders typically require individuals to demonstrate their creditworthiness before approving a loan.
Creditworthiness is a measure of how likely you will default on your debt obligations according to a lender’s assessment, or how worthy you are to receive new credit (Investopedia).
A credit score is a number that rates an individual or business’s creditworthiness. Bad credit equipment financing is designed to help a business with poor credit history acquire the necessary equipment for its operations.
Understanding Bad Credit in Canada
In Canada, credit scores range from 300-900. Generally, “credit scores that fall below 560 are considered bad credit” and a good credit score will be 660+ (Loan Canada).
A bad credit score can significantly impact a business’s ability to obtain financing for needed equipment. This is because someone with bad credit hasn’t proven they are trustworthy to pay back their loan on time. It’s fair to say that people with bad credit are more likely to default on their loan than people with good credit. As a result, traditional lenders won’t lend to businesses with a poor credit history.
The reason a franchise owner has bad credit isn’t always because they were irresponsible or just bad with money. Some common reasons businesses face credit issues include: start-up costs, operating expenses, economic downturn, inadequate cash flow, failure of a previous business, unexpected business expenses, personal tragedy, and more.
7 Key Characteristics of Bad Credit Equipment Financing in Canada
1 – Credit Challenges
A business will have a low credit score due to past financial difficulties, late payments, or defaults on loans and/or credit cards. As mentioned already, having bad credit makes it challenging to secure equipment financing through traditional means.
2 – Specialized Lenders
That’s where lenders that specialize in bad credit equipment financing come in. Financial institutions in Canada such as Greenbox Capital and BHM Financial use a different set of criteria for approving a loan. Because of this, they are willing to provide equipment financing options to businesses with bad credit.
3 – Higher Costs
Bad credit financing will typically include higher interest rates and fees as lenders attempt to mitigate the perceived risk of lending to someone with bad credit. This is not necessarily an issue if the business taking the loan determines that the profit generated from the purchased equipment provides enough margin to cover the higher rates for the loan. Nevertheless, the higher costs will be an additional financial burden that businesses should be prepared for.
4 – Asset-Based Financing
You might be asking how a financial institution is able to provide a loan to individuals with bad credit when that is not the norm with traditional lenders. How do they reduce their risk? In many cases, the equipment itself will serve as collateral for the loan. If the borrower defaults on the loan, then the lender can repossess the equipment and liquidate it to cover their costs.
5 – Alternative Financing Structure
In many cases, a bad credit equipment loan has a lower amount and the repayment terms are shorter. This is another way the lender mitigates their risk of loss. A few examples of what these loans might look like include: lease-to-own agreements, equipment leasing, or equipment financing with structured repayment plans.
6 – Documentation and Qualifications
While bad credit equipment financing might be more accessible than a traditional loan, lenders still need to determine whether or not a business is a good candidate to receive financing. They will evaluate documentation such as business plans, financial statements, and proof of income.
They will also assess the equity of the equipment being used as collateral. If it has good equity and a resale market, they are more likely to approve the financing.
7 – Improving Credit
Not only does bad credit financing allow a business to obtain the funding they need to keep its doors open, but it also gives them the opportunity to improve their credit. Overtime, more favorable financing options might become available.
Start With a Winning Business Strategy
Of course, the most ideal situation for a franchise owner is to never need an option like bad credit equipment financing, but it’s good to know it’s there. Having a solid business plan from the start is key to the long-term success of a franchise.
FranNet can help you get started on the right foot. We have a brand directory with hundreds of verified brands, and our expert franchise consultants will evaluate your goals and skills in order to match you with the right franchise. All of our services are free to you. Schedule your free consultation today to learn more!