How to Finance Your BusinessLinda Jenkins, April 30 2014
Most successful businesses, from Microsoft to the corner bakery, began as a business owner in need of financing. Many institutions exist for the sole purpose of helping you and other budding entrepreneurs find the financing needed to realize your dreams. Here is an overview of some options for funding your business:
Read on to discover other ways to get enough capital to start or grow your company.
Social Lending and Crowdfunding
There's no need to confine yourself to funding from traditional sources like banks. Innovative social lending websites, like Prosper.com in the United States and Zopa.com in the United Kingdom, provide entrepreneurs with a unique and important source of potential funding. GoFundMe.com and Crowdfunder.com also offer "crowdfunding", allowing individuals to receive funds from people around the world who believe in their entrepreneurial vision. Further details on sources like these and others are available in the ebook "Creative Financing". This ebook explains why you cannot afford to overlook social lending networks, and prepares you to submit a better request for funding whether you decide to pursue debt financing, equity financing, or a combination of the two.
Many online lending networks, such as Kabbage, make the process of getting loans much easier. Applications can often be completed in minutes and successful requests are usually filled at rates much lower than through traditional banks. Learn more about loans and online lending networks.
Friends and Family
Even with today's modern financing methods, many cutting-edge entrepreneurs still turn to friends and family for financing. For example, Isaac Raichyk, the founder of the wildly popular website Keek, received an initial injection of cash from friends and family. Many people prefer to borrow money from people they know rather than a bank. After all, the bank doesn't know you personally, so it can't adequately weigh intangibles such as your personal character, your skills, or your large network of potential customers. However, your friends and your family are able to weigh these factors and may prove willing to provide financing even when other lenders will not.
Of course, you will want to exercise caution when soliciting loans from friends and family. An unpaid loan can strain personal relationships. You will want to ensure that nobody loans money they cannot afford to lose, and you will probably want to formalize the terms of the loan using an attorney. If the cost of an attorney is too steep, you will want to purchase personal loan documents at an office supply store, download a free loan agreement template online, or use ZimpleMoney to simplify the process of borrowing from family. This ensures that everybody understands exactly the amount to be loaned, the amount to be repaid, and the timing of payments.
You might be surprised to learn that many entrepreneurs fund their business simply by reinvesting their own business profits, thereby avoiding external funding. Many successful businesses are funded in this manner, in part because the process allows a business to expand product and/or service offerings quickly, fine-tune its offerings over time and avoid debt.
Banks have provided small businesses with capital for generations and are perhaps the most traditional means of obtaining outside financing. Many banks focus heavily on serving small businesses and almost all have a department dedicated exclusively to business customers.
Banks offer a variety of specific loans tailored to the needs of small businesses. Many such loans are "secured loans", meaning that the amount owed is personally guaranteed by the signatories to the loan. Often a bank requires that 80 percent of the ownership of a business secure a loan with their personal assets. In other words, if there were five partners, and each owned an equal 20 percent share, the bank would require four of the five to personally guarantee the loan before releasing funds. This requirement, though seemingly burdensome, ensures favorable rates and ongoing access to funds.
Some loans are secured directly by the assets that are the subject of the loan. For example, a car may serve as security for an automobile loan. If the borrowers fail to pay off the loan, the bank can repossess the property. This provides security for the bank, allowing it to loan money with confidence at reasonable rates.
Banks also provide small businesses with real estate loans, cash-secured loans, and even loans earmarked for agricultural purposes. Many banks are willing to customize loans for small business owners that its records indicate have a track record of meeting their obligations; however, applicants with previous credit issues, or first-time business owners may have more difficulty getting a loan from a bank.
Credit unions offer the same essential services as a bank, but unlike banks, they do not exist to profit from their members. Instead, credit unions are run for the benefit of their members and are legally characterized as not-for-profit institutions. They offer more favorable terms than a bank, and their terms are often more straightforward and contain fewer hidden fees.
You will need some sort of affiliation with the union's existing membership in order to join. Some credit unions exist to serve people who work for a particular employer, while others serve those who live in a particular area. Your university, church, or labor union may also have given rise to an affiliated credit union. Most people are able to find a credit union to join with a little effort.
Once you join, you can request a loan from the union's Board of Directors, who are elected by the union's membership. The Board is often sympathetic to individuals' personal circumstances and will take the time to get to know you personally as it considers extending credit.
Venture Capitalists & Angel Investors
Venture capital firms provide money to companies in innovative industries such as information technology and biotechnology. Typically, venture capitalists are highly sophisticated investors with a deep understanding of their target industry. Their deep grasp of the marketplace allows them to identify wise investments that others might overlook. Venture capitalists are known for their willingness to take risks on companies that are speculative in nature.
If you have a small scale startup, it is more likely that you would seek funding from an Angel Investor. In reality, this could be any wealthy individual that is willing to exchange his or her funds for equity in your business. A great place to start your search for an angel investor is through professionals you already know, such as your local Certified Public Accountant or Business Attorney. Generally speaking, these individuals are well-connected to the community and can introduce you to individuals that may want to invest in your startup. You can also research accredited Angel Groups through the Angel Capital Association.
The Small Business Administration
The Small Business Administration (SBA.gov) provides billions of dollars in funding for Americans who want to start a business. Interestingly, the SBA doesn't usually provide direct funding for small businesses. Instead, it guarantees loans made by traditional small business lenders such as banks, which allows these lenders to offer loans at a much lower rate than would otherwise be possible. Loans obtained through the SBA are usually offered at unusually low rates and allow for repayment terms of up to 25 years.
SBA loans come in several different flavors. SBA Express Loans are widely available and will often work for those seeking loans of up to $500,000. SBA7(a) loans and 504 loans are used for loans of between $250,000 and $5 million, though more money is available for those seeking to purchase real estate.
Veterans and their relatives will find the SBA particularly eager to lend. Loans can be used to purchase equipment, real estate, or even for debt refinancing. In keeping with its model of offering financing through private banks, hopeful business owners usually apply for a SBA loan at a private bank, rather than at the SBA's offices.
A microlender is a fund that offers very small loans to individuals to help them start small businesses. Microlenders extend loans of only a few thousand dollars. Originating in the third world as a way to lift the desperately poor from poverty, they have since spread to the United States and other industrialized nations. Many focus on offering loans in underserved communities. Microlenders extend loans to small restaurants, food trucks, landscaping businesses, small retailers, and the like. Most are not-for-profit institutions. Examples include California's "Opportunity Fund", a microlender that offers loans as low as $2,500 to hopeful California entrepreneurs. Learn more about microlenders.
Other Government Entities
The Small Business Administration isn't the only governmental body that offers loans to aspiring small business owners. In fact, many organizations, at the federal, state, and local level, offer funding for small businesses. One example is the "Mom and Pop Small Business Grant Program" offered by Miami-Dade County, in Florida. This program offers funding and technical help to small businesses, and also helps to create valuable ties with local officials. Many other government entities offer similar programs. A great place to start researching is through your State's official government website (ie., Michigan.gov).