Good governance is all about understanding the options facing the organisation and their implications. In this guest blog, Peter Kelly, Business Development Director at Charity Bank, provides an introduction to loan finance for charity trustees.
Charity trustees and management need to understand what loan finance can offer to determine whether it is a suitable option for them.
Indeed loans are not right for all situations or organisations and careful consideration of the financial commitment should always be taken. In the right circumstances, however loans can be a valuable tool for a charity to further its charitable mission.
Should your charity consider a loan?
A loan can help organisations become more sustainable. For instance, it can allow you to buy a property rather than continuing to pay rent. This is one of the most common uses of Charity Bank loans.
Loans can help a charity to grow its income. Borrowing to invest in a new activity that increases income can be a fast track to growth, with the additional income helping to repay the loan. In this way, loans can reduce reliance on grants and donations, whilst allowing you to broaden your range of services.
Loans can help bring in grants. In Charity Bank’s latest social impact study 46 per cent of respondents from its existing borrowers reported that the loan helped them unlock funding they couldn’t have accessed otherwise.
Loans can be useful in the short-term. A loan can also be used to bridge the receipt of retrospective grants or payments under service delivery contracts. This can help smooth cashflow deficits and make it easier to plan and manage your finances.
In short, in the right circumstances a loan can empower charities to: seize opportunities, extend their reach, smooth cashflow, improve financial sustainability and leverage additional funds.
What do lenders look for?
Before applying for a loan, it’s useful to know what a lender will look for when considering a loan application. Some of the key factors considered in the due diligence process are as follows.
1. Can the charity afford a loan?
First and foremost, a lender will be looking for evidence that a borrower can afford to repay the loan. The charity will need to be sustainable and ideally have several streams of income so that repayment isn’t reliant on any one source. The charity will also need to demonstrate that it can continue to repay the borrowing following external events such as rises in the general level of interest rates.
As part of the loan process, a lender would expect to see a business plan including financial projections. Once overheads, expenses and any plans to generate future revenue are considered, will the charity have sufficient surplus income available to afford the loan repayments?
2. Skill set
The governance of a charity is important and will be taken into consideration: who are the management and trustees, how long have they been involved and do they collectively have the breadth of experience and skills to manage the organisation?
Reach Volunteering provides a template to allow you to perform a skills audit with your board. A skills audit will capture the current skills of the trustee board and highlight possible gaps in trustee skills or where professional guidance is required.
3. Legal powers to borrow
A lender will need to see evidence that a charity’s governing documents (this may be a Trust Deed or Articles of Association) give the legal powers to borrow and, if necessary, to pledge assets as security for the loan. This is not always clear, so you may need to take professional advice.
Unincorporated organisations have an implied power to borrow but may still require a specific power to charge assets. Changing your powers to allow borrowing or the giving of security is usually a relatively straightforward process and your legal advisers will be able to guide you through this.
4. Use of loan and impact
Social lenders, such as Charity Bank, will also wish to understand the social impact of a charity and of the proposed use of the loan. They will want you to provide evidence of the good work your organisation is doing with tangible examples that it delivers social benefit.
Loans will usually require security. Examples of security offered against a loan could be property, cash deposits or a guarantee from a trading subsidiary.
Whatever your situation or proposal, the best guidance we can give is to open a dialogue with potential lenders at an early stage. This will give you the best possible chance of finding a loan that’s suitable for you needs and of ensuring you have sufficient time to get it approved.
Peter Kelly is Business Development Director at Charity Bank, the ethical bank that lends solely to charities, social enterprises and other organisations where the loan is for social purpose. Charity Bank is run for the sector and owned by the sector, as all its shareholders are charitable trusts, foundations and social purpose organisations.