The world of business financing can be confusing to small business owners. With dozens of options out there, it can be difficult to decide how to finance a small business, or even if financing makes sense for you at all. Here, we’ll look at five of the available options and discuss the benefits and risks involved in financing a small business.
1. SBA Loans
Small Business Administration loans are a common place for merchants to start looking for funding. They’re backed by the government and administered by independent lenders. They can be somewhat restrictive, however. Because the government has certain goals for the SBA loan program, it expects businesses taking these loans to put the funds to use in a way that supports those goals. If your reason for needing funds doesn’t align with the aims of the SBA, your loan application will likely be declined. SBA loans also aren’t always available immediately; SBA funds might not actually arrive for as much as a year after a merchantt starts working on an application. The SBA Express program was designed to alleviate this concern, but this program isn’t perfect either–for more information on that, you can check out our previous post here.
2. Small Business Focused Financing Companies
Loanability is one example of a company that specifically works on small business finance. Like the SBA, our focus is on creating programs to help small businesses across the United States. Unlike the SBA, our programs aren’t backed by the government, so we don’t place restrictions on how funds can be used. These are generally more flexible than any other funding option; SBA loans are essentially one-size-fits-all, but companies like Loanability have numerous programs to ensure that there’s something available for everyone. Small business-focused financing companies like Loanability are also one of the best ways for businesses that have been declined elsewhere to find funding, as this sector has significantly higher approval rates.
Banks can offer loans with good rates, but the problem is that it’s very difficult to get this sort of funding. A 2013 study found that over half of small businesses seeking funding had attempted to get a bank loan, but only 34% of those were approved. Bank loans are generally accessible for larger businesses grossing many millions of dollars per year, but for small businesses, it’s just not that likely that they’ll be able to get a loan through a bank. While banks can offer attractive rates, none of that helps a merchant who can’t get approved in the first place. Credit unions are even stricter–just 15% of businesses who sought funding from credit unions in 2013 were successful. Unlike companies like Loanability, banks will also require collateral. Even if a business has something it can use as collateral, this means that the risk of taking the loan increases dramatically, because just a few missed payments can mean serious consequences.
4. Personal Funding–Remortgage/Credit Cards
There are ways of raising funding personally, but these are generally very risky. Remortgaging your home is one way to raise money, but if your business fails (or simply underperforms), you’ll be left in default and likely lose your home. You can put expenses on credit cards, but this backfires if the business doesn’t take off quickly enough to pay them off. Credit card debt is a great way to ruin your credit score, and once that’s happened, that hurts your ability to obtain funding any other way. The interest rate on this debt is also extremely high, so you’re essentially overpaying at the same time as you make it impossible for you to obtain any other financing. In general, it’s best to fund your business without risking your personal assets in the process.
5. Family and Friends
Businesses that have trouble getting funding from traditional sources will often turn to friends and family for help. The main advantage of this is that it can be easier to convince people close to you that your business is worth the investment. This shows in the numbers, as over 70% of businesses that tried this route were successful in 2013. However, it’s easy to overlook the potential pitfalls. First and foremost, you’re risking your friendships and relationships if things don’t work out. Friends and family might also want equity if they’re giving you money, which means that you no longer have full control over your own business. In some cases, this can even lead to legal disputes. In one recent case, a mother sued her own son over a dispute relating to their Rhode Island winery–their case is set to reach federal court shortly. No one expects their friends or family to escalate disagreements to this level, but as that story shows, even immediate family members can end up in protracted legal disputes when money’s involved.