Using Circular Business Loans with Bad Credit

Business loans are loans made to business by banks and other financial institutions. Circular business loans are loans that a business makes to its subsidiaries. While the money is transferred, it doesn't actually leave the larger corporate structure. Circular loans are often used to infuse capital into subsidiary companies that need it, but they are just as often used for fraudulent purposes.

Reasons to Use Circular Loans

There are a number of reasons why businesses use circular loans, some of which are more legitimate than others. The legitimate and illegitimate purposes can and often do overlap. They include:

Transferring extra assets - Loans made when a parent company wants to either use some of its extra assets to help one of its subsidiaries, or transfer funds from one subsidiary to another. The subsidiary that needs the funds applies for the loan, and the parent company or another subsidiary grants it.

Investing personal assets - Loans made when an owner wants to invest some of his or her personal money in one of the subsidiary. As with a transferring extra assets, the subsidiary applies for the loan and the owner grants it.

Money Laundering  - The act of hiding money obtained through legally questionable means by transferring it. In this case, the parent company or the owner may loan portions of the money to the subsidiaries, sometimes more then once.

Generating False Asset Value - The act of inflating or deflating the company's worth by infusing or withdrawing capital. The parent company may give money to one of its subsidiaries in order to create an illusion that they are generating more profit then they would otherwise. This, in turn, can cause it's stock values to rise, attracting investors and reinforcing the parent company's financial security.

Tax Evasion - The company or it's owner can try to use the loans made to their subsidiaries to claim tax deductions. Since the money remains within the larger corporate structure, such claims are illegitimate - it would be akin to claiming a tax deduction when donating to a charity, which then donated the same amount of money right back.

Circular Loans and Bad Credit

When giving out loans, lending institutions usually take pains to ensure that the borrower has the credit history and the background that would justify their trust in his or her ability to repay it. After all, if the borrower doesn't repay it, the lender loses money. But with circular loans, the entire process stays inside the same corporate structure. The parent company and its owner have no reason to question its subsidiaries' trustworthiness. When it comes to circular loans, the subsidiary's credit history is irrelevant.

That said, the same is not true when it comes to outside financial institutions. If the parent company or one of its subsidiaries wants to get a loan from a bank that is not part of their corporate structure, they may run into problems. To most banks, circular loans are red flags, even if they are made for perfectly legitimate reasons. So while circular loans may be useful inside the corporate structure, they are a hindrance when dealing with the rest of the business world.