Opening a Business Bank Account
Opening a business bank account is the simplest way to achieve accountability and good degree of transparency in your business dealings. A business account will also help give you credibility as the bank has to a degree assessed and accepted your business proposal.
One of the most important factors when selecting a bank is to find a bank you feel comfortable dealing with, as relationships are crucial. Seek advice and recommendations from professionals such as your lawyer or accountant
Aim to develop a good working relationship with your bank manager. The relationship between you and your bank is like any other partnership. The better the match, the smoother it runs.
If you are setting up as a limited company, you need to have set up the limited company before your visit to the bank.
The following banking services are offered by most banks to their business customers:
A. Current account services -
Paying in cash
Cheques and drafts
Automated payments
Deposits
Night safe
Status Enquiry
Audit letter / certificate of balance
Making and receiving foreign currency payments
Direct debits and standing orders
Company payment cards
Company credit cards
B. Borrowing -
Overdraft and loan facilities
Factoring and invoice discounting
Leasing and hire purchase
Your basic requirement is a business current account. It provides you with the payment systems to ensure that the money passing through your business is exactly where you want it.
A business chequebook will be supplied, together with a paying-in book printed with your business name and account number with up to two counterfoils.
Bank Account Charges and Tariffs
There is usually a fixed charge that covers the daily costs of operating your business current account. In addition, there is usually a charge for every credit entry and debit.
Charges and interest will usually be charged on a quarterly basis. Most banks will advise customers of changes prior to deduction from the account.
Alternatively, banks will offer a fixed tariff where charges and interest are calculated and deducted from your account on a monthly basis.
Account Opening Formalities
In order to comply with it’s requirements under UK Money Laundering and Data protection legislation, the Bank will request detailed information for proper verification purposes concerning the identity and status of the account holding entity and the individuals who will operate the account.
Raising Finance
Once you have drawn up your business plan, you will have a good idea of the capital expenditure and working capital needed to meet your set-up, or business expansion costs.
If you have all the funds you need to get going that's great. But, even if you don't, there can be other solutions. Over and above your own funds, any extra finance may be available from your bank and other organisations.
Banks offer a number of borrowing schemes, each tailored to suit the varying needs of business. You will need to carefully examine the charging structure, terms and conditions that surround any offer.
Your negotiations are more likely to succeed if you have a good credit score, or have built a good bank relationship. If you are in any doubt about any of the terms and conditions, ask your accountant or other business advisors for their opinions.
It is a good idea to let your bank manager see your business plan before you meet up, as this will give him or her time to consider your plan in more detail.
Interest Rates and Security
Interest rates
Banks will set the interest rate for your overdraft facility or loan when they have looked at factors such as:
Their overall evaluation of the risk involved;
Your stake in the business; and
Whether you have provided security.
Security
Banks take security to ensure you are committed to your business plan, and they are repaid if things go wrong. The most common types of security banks seek are:
A mortgage over business premises; and
A debenture. This can only be applied to a limited liability entity. It gives the bank a mortgage over all the assets of the business, including the book debts.
If you cannot offer sufficient security from the assets of your business, the bank may ask for personal security such as:
Personal guarantees by directors of limited companies;
A mortgage over private property; or
Life insurance policies, shares, and other investments.
It is recommended you seek independent advice from your solicitor before providing security.
This section outlines the main sources of bank funding you may wish to investigate when financing your business:
Overdraft Facility
An overdraft facility is the most flexible and simplest form of borrowing. This provides a business with short-term finance, but shouldn't be used for long-term borrowing, or to purchase fixed assets. Typically, an overdraft is ideal for covering the day-to-day costs of running your business. It also helps you cope with difficulties arising if your customers are late in settling their debts.
The advantages of an overdraft facility includes:
• An overdraft is a simple and flexible way of financing changing cashflow requirements
• You only pay interest on the amount you are overdrawn each day
The disadvantages of an overdraft facility includes:
• In principle, the bank can demand repayment at any time, although some banks do offer 'committed' facilities. Committed overdrafts provide more peace of mind over the standard overdraft as they are overdrafts the bank cannot demand back at any time.
• The overdraft facility has to be renegotiated every 6-12 months.
The interest rate charged is either a monthly rate, or at a rate which is linked to the Bank Base Rate, and should be agreed at the outset. There may also be an arrangement fee.
Discuss the interest rate and fees with your bank.
Always speak to your bank to arrange an overdraft rather than risking an unauthorised overdraft - arranged overdrafts are much cheaper than an unauthorised one, and if you speak to your bank it shows you are in control.
It is important to be aware of the charges connected with exceeding the agreed overdraft level. Charges may be levied at a set amount per occasion, or per day, the overdraft is exceeded. Additional interest will be charged, and banks usually charge for informing you of this (by letter, telephone, or additional statement). There are also charges for returned cheques.
Loans
A loan is a suitable form of finance for longer term purchases, such as fixed assets including vehicles or essential business equipment. The loan term will be linked to the expected working life of the asset, or the source of repayment.
The advantages of loans include:
• Once you have arranged a loan, the financing is secure for the life of the loan (unless you fail to make payments or breach any ‘covenants');
• You can match the term of the loan to the life of an asset you want to purchase;
• You may be able to tailor the loan to match the cashflow of the project you are using the loan to finance; and
• If your business is seasonal, you may be able to take a break in loan repayments.
The disadvantages of loans include:
• You pay interest on the full amount of the outstanding loan;
• The bank often imposes legally binding covenants before agreeing to a loan. If you breach these conditions, the bank will be entitled to immediate repayment; and
• The bank usually requires a fixed charge or some other form of security.
The interest rates may be fixed, remaining the same throughout the loan period. This assists accurate budgeting and protects your cash flow in times of rising interest rates.
Variable interest loans are also available which are agreed at a rate over the Bank Base Rate which itself varies from time to time, or managed rates.
Capital repayment 'holidays' may be available. This would be especially helpful in the early months to give your business a chance to generate cash. However, interest is still charged during this period.
A pre-payment fee may be paid to cover administration costs if the loan is paid back early.
Factoring and Invoice Discounting
Factoring and invoice discounting are financial facilities designed to improve the cashflow of healthy, growing businesses. They provide businesses with finance secured against their unpaid invoices. Under a factoring or discounting arrangement, a business sells its invoices to the bank when they are issued.
The bank pays the business up to 80% of the invoice value in cash, normally within 24 hours of receiving it. The remaining balance - less charges - is paid to the client business after a set period, or when the debt has been collected. The services can also be applied to export as well as domestic trade debts.
In both factoring and invoice discounting arrangements, a client business will establish a close relationship with its bank. It will receive regular credit assessments about its customers from the bank. The bank will also want to keep a close eye on the client's sales accounting and credit management function to check that it is operating efficiently and professionally.
For both factoring and invoice discounting there is a service charge, normally a proportion of turnover, and a discount charge, based on the amount of finance provided. Charges will be agreed in advance and form part of the factoring or invoice discounting agreement. For factoring the service charge is normally between 0.75% and 2.5% of turnover, depending on the workload to be undertaken. The charge for invoice discounting will usually be less, as less work is required. The discount charge is calculated on day-to-day usage of funds. It is likely to be comparable with normal secured bank overdraft rates.
The cost of the service needs to be weighed against the costs of in-house debt collection and, for example, having sufficient cash to benefit from early payment discounts from suppliers.
Generally, debt finance providers are looking for 'clean' invoices where there is clear evidence of delivery of the goods or service and a low level of disputes or credit notes. It may not be available for some industries, for example contracting, where there is a high level of retentions and variation orders.
To terminate the factoring or invoice discounting agreement completely, however, and rely on alternative sources of finance for working capital, would require sufficient security for any potential borrowings.
Factoring and invoice discounting can provide a range of benefits for suitable small and medium sized companies. The main benefits include an increased flexibility, as finance is made available to your business in line with the level of its sales. This can help the client business to expand without exhausting its cashflow. This improved cashflow brought about by factoring and invoice discounting can lead to other benefits for a client business as follows:
• Takes advantage of early payment discounts or bulk buying from suppliers;
• Reduces the need to offer discounts to customers who pay early;
• Reduces management time to negotiate and re-negotiate finance and continually chase up late payers; and
• Can give a business greater confidence in planning its longer term capital investment.
Generally, invoice discounting is only available to businesses that already practice sound credit management and have the staff and accounting systems to generate reliable customer collections.
Leasing and Hire Purchase
Leasing and hire purchase are financial facilities that allow a business to use an asset over a fixed period, in return for regular payments. The business chooses the equipment it requires and the bank buys it on behalf of the business. Most business equipment may be obtained this way.
Hire Purchase
With hire purchase, after all the payments have been made, the business becomes the owner of the equipment, either automatically or on payment of an option to purchase fee. For tax purposes the business customer is treated as the owner of the equipment from the start of the agreement and so can claim capital allowances. The business customer will normally be responsible for the maintenance of the equipment.
Leasing
By comparison, the fundamental characteristic of a lease is that ownership never passes to the business. The bank claims the capital allowances and passes the benefit on by way of reduced rental charges. The business can generally deduct the full cost of lease rentals from taxable income, as a trading expense. As with hire purchase, the business will normally be responsible for the maintenance and insurance of the equipment.
Long term or finance leases - Generally have a term of three years or more and when the lease ends the leasing company will agree to a secondary lease period at a considerably reduced or nominal rent.
Short term or operating leases - Equipment can also be leased for shorter periods of time. The leasing company will expect to re-lease or sell the asset second hand at the end of the lease period and will therefore need to recover the full cost of the equipment through a single lease rental. This type of lease is common where there is an established second hand market, such as cars and small items of plant and equipment.
Contract-hire - A form of operating lease where the leasing contract also includes management and maintenance of the asset.
Leasing or Hire Purchase agreements are legal commitments and so cannot be withdrawn, providing the payments are made. However, it may not be possible, or may be costly to terminate agreements early. The regular payments allow businesses to budget their expenditure and easily compare the revenue and profit generated from an asset with its long-term cost. In most cases the agreements are at fixed rates of interest, although it may sometimes be possible to arrange variable rate interest on larger items.
Leasing or Hire Purchase can be a good way to finance an asset if your business lacks security, or there are tax reasons to do so. Remember however that banks will only enter into contracts with creditworthy businesses. A lease will normally cost you more than a bank loan or overdraft and involves a regular monthly commitment, but there may be tax advantages that make this a cheap way to finance an asset.
Standards of Service for Borrowing
UK banks have set out how they deal with their business customers, when they borrow from them, in their Statement of Principles. A summary of the Principles is listed below.
The Banks will:
• Confirm the terms of any facility (borrowing, guarantees, bonds, etc) in writing;
• Remind you to seek independent advice;
• Co-operate with your advisers to explain the nature of any facility and to clarify anything during the relationship;
• Agree with you at the outset of the facility what sort of monitoring information you should supply and how frequently. If circumstances change, they will agree any new monitoring with you; and
• Alert you in writing when they have concerns about your business and/or their relationship with you.
© The Royal Bank of Scotland plc, August 2003
The Royal Bank of Scotland plc
London City Commercial Centre
Business Development Team
7th Floor, 280 Bishopsgate,
London EC2M 4RB
Tel: +44 (0)20 7672 0156
Fax: +44 (0)20 7672 0182
www.rbs.co.uk