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Resources Business Advice How To Refinance Your Debt

How To Refinance Your Debt

What is debt refinance?

Debt refinance is where you seek to replace an existing debt with a new debt. Usually this is done to repay the original debt in full and transfer the whole outstanding balance to the new lender, and is often undertaken to secure more favourable repayment terms, reduced interest payments, or indeed other terms which are more favourable to the borrower than those in their existing facility.

How does debt refinance work?

Debt refinance works similarly to normal borrowing. As the borrower, you would identify the purpose for the borrowing, which in this case is to repay an existing debt as opposed to obtaining fresh finance for an acquisition or similar. It may be that you are unable to obtain further credit with your current lender, and are seeking to obtain a larger overall loan, part of which would repay your existing lender, and the fresh capital would be utilised by you as required.

As with any finance facility, you would review the products that are available – it may be that you are seeking to exchange an invoice facility for another invoice facility, or you may simply wish to swap a loan from one provider to another who offers lower interest rates, thereby reducing the overall amount you will have to repay. If your cash flow is tight, you may not be seeking better interest rates, but a longer term and therefore smaller periodic payment commitments.

As with any finance facility, you would submit your application to the lender, would undertake the due diligence deemed necessary for the type, amount and nature of the lending you are seeking. Once you have been through this process, the lender will make a formal offer and, if the offer is accepted, will put the facility in place.

Who is debt refinancing for?

Debt refinancing is available to both companies and individuals and should be considered periodically by both when reviewing the borrowing they have already taken. As with all products, finance companies compete with each other and will offer new products to the market. It is therefore worth periodically checking to establish if a better deal – such as lower interest rates – is available.

For example you may have an invoice finance facility which advances payments to you of 40% of your invoiced value and charges a 10% commission. You may find an alternate provider who again offers 40% of your invoices value, but for an 8% commission, thereby saving you 2% on each transaction. Alternatively, you may find a provider who offers 75% of your invoices value at a commission of 10% and whilst the commission is higher, the increase in the upfront cash payment assists with cash flow.

It is worth considering when exploring refinance whether the overall administrative cost of obtaining a new facility may outweigh the ultimate benefit if the savings you can obtain are only modest.

When should I refinance my debt?

It is good practice to periodically consider the finance that you have in place as part of an overall exercise to monitor your cash flow. Key points to consider are if better terms, repayment periods, repayments amounts and interest levels are available, or if a more suitable facility should be sought.

Other aspects to consider when only modest savings or conveniences can be achieved, are the benefits of the existing relationship with your lender. If you have had a facility for a long time, you may have a good working relationship with your lender, and it may be that a new provider will not deliver the same levels of customer service. Equally, it may be that that provider is prepared to match an alternate proposition or make an improved offer to you in order to maintain your business and that relationship.

Beyond pro-active reviews, another trigger may be your cash flow levels. If cash flow has become tighter, it may be that borrowing over longer periods with lower repayment instalments, although possibly more expensive overall, will ease immediate cash flow pressures.

Alternatively, you may find that changes in your existing lender’s management or staffing levels lead to a reduction in customer service levels, with the result that you wish to move a new provider. It is also not uncommon for companies to work with preferred intermediaries – asset finance brokers – who will source finance products, and they may from time to time recommend a new product that offers better terms.

If you are utilising a bridging loan, particularly in the property market, it is not uncommon to refinance these facilities once renovation work and similar is completed and move to a more traditional mortgage loan.

How do I know if it makes sense to refinance?

This ultimately depends on your objectives. If you desire is simply to ensure that you are paying the minimum in interest and facility fees, periodic refinance – after considering any applicable termination or exit fees – will potentially lead to a lowering of overall costs. You may place more priority on quality of service, in which case without other pressures refinance may not be suitable due to established working relationships with your lender.

Refinance should be considered if you are facing cash flow issues, as by easing cash flow pressures a company may avoid defaults across its creditors which can in turn lead to insolvency. If the company is distressed, an Insolvency Practitioner may recommend refinance as part of an overall cost cutting exercise.

Individuals are most likely to look to seek refinance for their mortgage when more favourable rates enter the market. They are also likely to refinance unsecured lending, and it is common, for example, for individuals to take advantage of credit card balance transfers and interest free periods to minimise their interest repayments.

What is the process of refinancing debt?

The process of refinancing a debt is seeking a new lending facility, be it the same type – converting a loan to a new loan – or a change from one type to be another, be it a credit card, mortgage, secured loan, invoice finance facility, overdraft and so forth.

The first step is to identify the benefit you are seeking, be it reduced interest rates, longer payment terms, or better customer service, and the second step is to research the market and identify the products that are available to you. Individuals may use a mortgage broker to review mortgages available on the market, and companies often use asset finance brokers to research and source facilities. Equally, this is something you or your company can undertake in house.

The primary advantage to a broker is if you have an urgent need to refinance, as brokers have direct access to a variety of products – although notably not all brokers have access to the whole of the market and will work with select partners, ultimately limiting your options. Brokers will understand the criteria of each lender and will help you eliminate any lenders that they know will not offer funding due to your circumstances. Some lenders are happy to engage with distressed companies as part of a turnaround process, even if the company is facing insolvency, whereas others are very cautious and will not offer lending even if there is a sound commercial rationale to do so.

Once the appropriate facility has been identified, it is the normal process of seeking lending, with the lender undertaking their due diligence, formalising their facility offer and the terms available, before ultimately agreeing and entering into the facility.

What is the difference between debt refinancing and debt restructuring?

Debt restructuring is an aspect of debt refinancing. Specifically, it refers to working with the existing borrower to agree new terms in respect of the existing facility. This can include increases to the duration of repayments, thereby reducing periodic repayments, reductions to the level of interest paid, or exchanging the existing facility with a new facility – such as converting an overdraft to a loan.

Dependant on the circumstances the lender may also seek security / additional security, including personal guarantees, prior to offering new terms. This process can be initiated by the borrower, but it could also be initiated by the lender, particularly if they have concerns regarding their level of exposure, or the suitability of the facility currently in place.

Does refinancing harm your credit rating?

Refinancing does not harm your credit rating and, as it is often utilised to repay one debt in exchange for another, it can have a favourable impact on your credit rating. Lenders are keen to work with clients who regularly borrow money and repay these loans in full, as ultimately these are the clients through which they derive a profit.

However, if you have defaulted on your existing lending prior to refinance, your existing lender may have noted these defaults on your credit file and, whilst this is separate to the refinancing process, it is worth bearing in mind. If you perceive possible repayment issues arising with a facility, it is often a good idea to explore alternative options early before defaults arise, particularly as this can affect your ability to pass future due diligence checks and secure a refinance.

How much does it cost to refinance?

This will depend largely on the circumstances. Each facility will likely have exit or termination fees, which will need to be settled. Equally, many finance providers will have an administration or similar charge to cover the cost of setting up the facility.

There is also the cost in terms of your time spent seeking refinance to consider, as this is time that could be utilised in other areas of your life or business.

If you chose to use a broker, many brokers will be paid by the lender at an agreed rate for the facility and usually without cost to you. However, some brokers may charge a fee.

Each cost will be different from case to case, but should be considered as part of the exercise.

If you have personal debts which are no longer manageable Chamberlain & Co can advise you on your options:

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