Financial Technology (FinTech) lenders such as Kabbage and Mogo Finance Technology are changing the world of small business lending and startup financing by using new risk metrics that don’t put as much weight on credit history, thereby speeding up the application process. Business owners who qualify can receive access to up to $100,000 or even more in some cases, and they often receive the funds in as few as two business days. Unfortunately, while these lenders offer key advantages to many business owners, their services also can also come with disadvantages.
Since the FinTech lending industry is relatively new, it is not subject to the same oversight as traditional banks. These companies are not legally required to meet online or financial security requirements, and this can put borrowers information or money at risk. In contrast, the Office of the Superintendent of Financial Institutions (OSFI) regulates banks to ensure they are safe for consumers to use, but this agency has no oversight for the fintech industry.
Potentially High Interest Rates
In exchange for speed and comparatively high approval rates, borrowers often face high interest rates. As of November 2016, Mogo quotes annual percentage rates (APR) ranging from 5.9% to 45.9% on its one to five-year term loans, and it reports 299.8% APR on its very short term 14-day loans. In contrast, a government sponsored Canada Small Business Financing loan offers an introductory APR of 5.73% on variable rate loans and a 7.64% APR on fixed rate loans.
As indicated above, interest rates on loans from FinTech companies can be high. However, in some cases, they are actually lower than rates on traditional loans. To effectively compare different loans, you need their interest rates expressed in the same format. Unfortunately, this can be confusing as some FinTech lenders quote fees or monthly interest rates. Before choosing a loan, always convert all advertised rates into APR to make sure that you are comparing apples with apples.
During tax time, the Canada Revenue Agency (CRA) allows business owners or self-employed individuals to write off the interest on business loans as a business expense. If you pay service fees or related costs, you may write them off the year you incur them. However, you must write off interest fees incrementally over a period of five years. Many FinTech lenders specialize in relatively short-term loans, and if you take out a loan with a 12-month term, you will pay all of the interest in that year. Unfortunately, you won’t be able to claim the tax deduction until a future year.
Generally, FinTech lenders don’t take your credit score into account but instead assess your creditworthiness using a vast range of data points including sales information from websites such as Amazon, Etsy, and Ebay, accounting details from QuickBooks Online, online reviews on social media, or other information. However, on the flip side, these lenders generally do not update your credit report. With traditional loans, the lender updates your credit report every time you submit a payment, and timely repayments can help improve your credit score. Unfortunately, even if you repay a FinTech lender in a timely fashion, it won’t help to boost your credit score.