Why Using a Loan to Hire Employees is Risky

Caution is needed if you're considering lending to recruit new staff.

By Kate Josselyn

Hiring employees is a crucial part of growing any business. Businesses either take a proactive or a reactive approach to hiring.

Proactive hiring involves bringing in staff to cope with anticipated demand, to ensure the company has enough resource to cope as the business grows.

Reactive hiring involves ‘hiring when it hurts’, bringing in staff when demand is beginning to take its toll on the existing workforce or even having a detrimental effect on the end product.

When you think about using a business loan for hiring, it’s crucial to understand how it works and if it’s the right move for your business. This guide will walk you through what you need to know about loans for employees, including the risks and alternatives.

Why consider a loan for hiring?

Hiring staff is an important part of growing your business. But sometimes, businesses need extra money to cover the costs of new employees. This is where a business loan for hiring comes in handy.

When you get a loan to hire employees, you borrow money to pay for things like salaries and benefits. This can help you manage your finances while you expand your team. However, there are essential things to think about before making this decision.

Types of loans for hiring employees

There are different types of loans for employees that you might consider:

Short-term loans need to be paid back quickly, usually within a year. They can help cover immediate hiring costs but can have higher interest rates.
Long-term loans are paid back over several years. They might have lower interest rates but require a longer commitment.
A line of credit is a flexible loan where you can borrow money as needed, up to a certain limit. It’s useful if your hiring needs might change.

Understanding the impact of a loan for hiring

Taking out a business loan for hiring can have a significant impact on your business. It’s essential to understand both the short-term and long-term effects.

In the short term, a loan can help you quickly bring in new employees and manage your cash flow. This can help address immediate staffing needs and support business growth.

Over time, you’ll need to manage loan repayments along with the added costs of new hires. This can affect your overall financial health, so it’s important to monitor your business performance and adjust your plan as needed.

Lending is a risk

Whichever approach you take, hiring an employee should only be funded by a bank loan if you have significant cash flow issues and are confident that these will be resolved once the candidate is in their role.

Borrowing from a bank to fund a new employee on the assumption that this hire will stimulate enough growth to be self-sustaining is a risky strategy. Of course, it may pay off, but understand that you could be left with the cost of paying off the loan as well as paying a salary without seeing a consequent uptick in revenues.

Alternatives to staff loans

If you're having problems keeping up with demand but can't afford new employees yet, you could always put up your prices.

It’s great that demand is so high, but it isn’t great (for both you and your customers) that you can’t keep up. Think about your current situation. By raising your prices, you may lose some customers, but it could make your business model more sustainable and scalable, as you can meet demand without exhausting yourself and make a similar amount of money. It would also mean you’ve more time to focus on satisfying your customers to ensure they return.

If this option isn’t viable, consider hiring someone on a part-time basis. This will cost you a lot less and take some of the workload off your shoulders. Similarly, you could hire an apprentice or intern.

You should also consider your whole business plan. You’re so busy that you can’t keep up with demand, yet you don't have enough money to hire a new employee; ask yourself where you’re going wrong and make some changes. It may seem like a good problem to have – being too busy – but really, the last thing you want as an SME owner is to be turning business away.

How to use a loan for hiring wisely

If you decide to use a loan for hiring employees, here are some tips to help you use it wisely:

Create a clear plan

Before you take out a loan, make a detailed plan for how you will use the money. This should include what roles you need to fill, how hiring will benefit your business, and how you will manage the added costs.

Calculate costs

Make sure you know exactly how much money you need and how much you can afford to borrow. Include all costs related to hiring, such as salaries, recruiter fees, benefits, and any training expenses.

Check your cash flow

Review your current cash flow to ensure you can handle the loan repayments along with your regular expenses. This will help you avoid financial strain.

Weighing the pros and cons

Using a business loan to hire new employees does come with some risks. You might not see quick results, and it can add extra financial pressure.

However, the benefits can be much greater. A loan can give you the money you need to hire more staff, which can help you handle more work and grow your business.

With careful planning, business loans can be a smart way to boost your business. Investing in your team can help make your business stronger. Even though there are risks, the chance to grow and improve often makes it worthwhile.

Your common questions answered

What is a business loan for hiring?

A business loan for hiring is money borrowed to pay for new employees, including salaries and benefits.

Is it a good idea to use a loan for hiring employees?

Using a loan for hiring employees can be helpful but risky. Make sure you have a solid plan and understand the costs before borrowing.

What are alternatives to using a staff loan?

Instead of a staff loan, you can raise prices, hire part-time or temporary staff, use freelancers, or seek grants.

How can I manage hiring without taking a loan?

Manage hiring by optimising your current staff, investing in training, and planning for future growth.

What should I consider before taking a loan to hire an employee?

Before taking a loan for hiring employees, consider your business’s current financial situation, the impact of loan repayments, and whether hiring will lead to growth.