Should you take on credit card debt to pay for a new employee?
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Dear Your Business Credit,
I started a women's clothing shop in my town about a year ago. I am thinking about bringing on a part-time salesperson to help me so I don't have to spend so many hours at the store and can work on marketing my business. To free some cash to do this, I'm thinking about putting some other expenses, like my inventory, on a credit card. Is this is a good idea? -- Nancy
Congratulations on recognizing early that you should be working on the business, not in it. Many small-business owners get so caught up in day-to-day operations that they never build a strong growth strategy. To build healthy sales, you'll need to carve out some time to experiment with different marketing and advertising strategies to see what works best for you.
While there's nothing wrong with putting an occasional short-term purchase on a credit card, many experts recommend against using cards for ongoing business expenses, unless you can pay off the balance every month.
A 2009 study by the Kauffman Foundation, which promotes entrepreneurship, found that a racking up credit card debt reduces business survival odds. For every $1,000 in credit card debt a business takes on, its likelihood of failure rises by 2.2 percent.
For businesses that are in debt, getting out of debt quickly is paramount. The study found that among successful businesses, debt tends to stabilize at a manageable level within the first few years.
Given that you are thinking of taking on debt to free money for an employee's paycheck, it's important to do a cost-benefit analysis. You may find that hiring someone is not a good investment.
To keep things simple, let's assume you want to hire a local student to help at the store for 15 hours per week at the national average minimum wage (as calculated by Townhall Finance) of $7.49 per hour (without a commission). If you are paying your employee $112.35 a week, you'll need enough cash to cover $5,842.20 in wages over the course of a year.
Many business owners borrow on personal cards, so I'm going to assume that you'd do that, too, at the current average credit card interest rate. In mid-2013, that's 14.96 percent. For the sake of simplicity, let's say you finance one inventory order of $5,842.20 to free the cash you need to pay the salesperson. If you want to pay off your balance in two years, it'll take a $284 payment each month. You'll pay a total of $954 in interest costs by the time you're done, bringing the cost of hiring the sales person to $6.796.20. (If you will be using a credit card with a different interest rate, you can do your own calculations using CreditCards.com's debt payoff calculator.)
This calculation does not include any fees you may pay to use the card. There are also administrative costs that come with hiring an employee -- your time training and managing them, as well as setting up the paperwork for withholding taxes, Social Security and workers' compensation insurance. To get set up properly, you'll probably need help from your accountant, which is not free.
Once you have a handle on these additional costs, you'll be able to balance them against the revenue the salesperson might bring in, plus the additional revenue you'll bring in with additional marketing efforts, and see if it's worth it.
Weigh your alternatives. One potential way to do free up your time is to build your work schedule around the times that customers are most likely to visit and spend money. Keep a spreadsheet for a month or two in which you log your total sales by the hour for every day you are in the store. It will help you to identify slow times when it might not be worthwhile to start your day early or stay late.
Also look at the hours of the most successful local shops like yours in your area for clues as to when you could cut back your hours. If, say, most boutiques are closed on Mondays, it's likely this is the slowest shopping day and it might be worth closing the store and working on your marketing efforts on that day. Or you could bring your laptop that day and work on your marketing campaign when customers aren't in the store.
You may find it's better to take a fresh look at freeing up the time you need to work on marketing -- without racking up credit card debt.
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