August 1, 2022 | Last Updated on: July 6, 2023
Whether you’re an entrepreneur seeking startup funding or an experienced business owner looking for cash to grow an existing company, there are many small business financing options available for a wide range of needs. This guide will explain what you need to know to get the right financing for your small business.
If you need funding for a new business venture or a small business in operation for a long time, you must pick your battles. Decide which things you absolutely need to get financing for, and which could wait. Here are some common business needs and what you need to consider before getting funding for them.
How many employees do you have now, what are you paying them, and how many will you have in the next six months or year?
All small businesses want to grow and become more profitable. It can be wise to get financing for payroll if the money is going to be used to hire new people that could take your business to the next level and make it more profitable. In this case, the financing can be viewed as an investment in your future. If you find yourself in a position where you’re getting a loan to meet your current payroll, it’s a sign your business is in trouble and that taking out a loan to pay current workers could leave you even more vulnerable in the future.
Getting adequate insurance protection is critical for small businesses. A single unexpected incident like a fire, theft, or weather event could cost enough to put most small companies out of operation. Some types of insurance, like workers’ compensation and property coverage, may be required to operate.
Offering health insurance and other coverage may also be necessary for small business owners to attract top talent to work for them.
Securing the right insurance protection is a critical part of running a small business. You need to weigh the costs of getting financing to pay for it with the risks of not purchasing adequate coverage.
Similar to securing core insurance coverage, getting required business licenses and permits and paying taxes are table stakes when doing business. Not being able to run a business legally puts it at significant risk of fines, penalties, and closure.
If you’re finding it challenging to cover these expenses, it could be a sign of severe business issues. It may be an excellent time to go back to your business plan and figure out why you cannot cover these core costs. It only makes sense to seek funding for these types of essential expenses if you’re business is at significant risk of closure. It might make sense to use money from a business line of credit or business credit card to cover them, then pay the borrowed funds back as quickly as possible.
If you’re purchasing a business location, it could make sense to get real estate financing. Most businesses cannot afford the high cost of buying real estate. The good news is that business real estate financing is relatively easy to qualify for and interest rates and terms are generally favorable because the business property collateralizes the loans.
However, think twice about securing funding for basic property expenses like rent and utilities. These are a fundamental part of running an operation and should be a part of your regular cash flow.
If you need to purchase computers, phone systems, machinery, and other equipment to run your business, it could make sense to get equipment financing. Most companies that sell business equipment offer it. It’s typically easy to qualify and it comes with reasonable interest rates and terms because the equipment backs the loans.
Having adequate inventory on hand is central to running a successful small business. However, now and then, you may experience a rush period or surge in orders. If this happens to you, it might make sense to secure inventory financing through a business line of credit or low-interest credit card and pay the money back as soon as you sell the merchandise and receive payment. Double-check that your merchandise costs can cover any financing fees or interest payments. You don’t want to lose money when you borrow to cover inventory costs.
Costs to promote your business, such as advertising, buying signage, and building a website, are a basic part of doing business and should be considered a regular operating cost that should be paid with everyday working capital. However, now and then, a unique promotional opportunity may come up. Do the math to determine whether it makes sense to get a short-term loan or other funding to pay for it. See if an increase in sales and the resulting profits will cover your borrowing costs. If you feel confident things will pay off, it could make sense to get financing for a one-time marketing opportunity.
Do you need advice on running your business? Perhaps you have to travel to meet with a new client. Maybe you must get legal help. These could all be good reasons to apply for a term loan or other business financing. Just make sure you can pay the money back comfortably before you borrow it.
Now that you better understand why you may need small business funding let’s look at some of the funding sources available to you.
Traditional loans are secured through banks, credit unions, and other financial institutions. Term loans provide a lump sum of cash that you pay back with interest over a defined period. Money from traditional bank loans can be used for almost any business purpose.
The application and underwriting process for these loans is challenging and time-consuming. Traditional lenders are cautious about who they loan money to. They’ll check your credit score and complete credit history, tax returns and other financial paperwork, business plan, and more to determine eligibility. Collateral is typically required to back traditional loans.
If your credit score is below 680 and you’ve only been in business a short time, you may not qualify for a traditional loan. If your company has a long and solid track record and you have a stellar credit score, a bank may be able to provide you with a term loan with a relatively low annual percentage rate (APR) and favorable repayment terms.
Online lenders offer a full range of financing options, including term loans and small business lines of credit. The application process for them is relatively fast and easy, and qualification requirements for them are easier than for loans from traditional providers. Startups, companies with limited track records, and small business owners with bad credit scores often qualify for them.
The speed of doing business and relative ease of getting approved for financing comes at a cost. Loans from online lenders usually have higher interest rates than those from traditional loan providers and typically must be paid back quickly. Similar to traditional loans, you’ll likely have to put up personal or business assets as collateral to back the loan.
SBA loans, like the popular SBA 7(a) loan program, are offered through a range of approved lenders, both traditional and online. These loans are backed up to a certain percentage by the SBA. This backing makes it possible for lenders to offer relatively low-interest rates and longer loan terms. The issue is that the application and vetting process for SBA loans is a long one, and it can be challenging to qualify for them. Businesses must be in operation for a significant amount of time, and owners must have top credit scores to qualify. If you have a good credit history and solid business track record — and you don’t need cash fast — an SBA loan could be an ideal option.
If your business is a startup, but your personal credit score is high, you might consider taking out a personal loan for funding. Be aware, though, that if your business fails, it could significantly impact your personal and family finances for a long time to come.
A microloan is typically very small. Loan amounts typically top out at $50,000. These loans are usually offered through community-based business development organizations or the Small Business Administration. These loans are often reserved for minority small business owners or for businesses located in disadvantaged areas. Qualification standards are typically relatively easy. If you only need a limited amount of money, a microloan could be a good option.
Many small business owners can fund their operations independently from their savings. This can provide a solid foundation for a business because the owner doesn’t go into debt. However, if the company fails, it could jeopardize the owner’s financial future.
Are you involved in a local or online entrepreneurial community? It can be an excellent way to find angel investors open to providing venture capital for your business. Diligently research any investors and venture capitalists you are considering getting funding from. Work with your lawyer to ensure all aspects of your investor relationships, including ownership, stock, profit payments, and more, are in writing.
Crowdfunding will require you to pitch your business idea online through sites like Kickstarter. The goal is to get pledges to fund your business. If you’re good at marketing and promoting yourself and your company, crowdfunding could be a good possibility.
Getting money from friends and family members can be a risky way to fund a business. However, if you set things up professionally, it could work out. Anyone helping to fund your business should earn interest or equity in the company and be given monthly payments. Ensure all aspects of your business relationship with friends and family are covered by a contract to help prevent harming your relationships if anything goes wrong.
Invoice factoring is when a business sells its outstanding invoices (accounts receivable) to a factoring company. An invoice factoring company repays the business a percentage of what the invoices are worth, typically between 70 and 90 percent. Once the invoice is paid in full, the factoring company pays your business the remainder of the invoice, minus its factoring charge and fees.
Invoice factoring isn’t a type of loan, but it can help organizations with cash flow issues. Because it isn’t a loan, whether a factoring company will work with your small business or not is not as dependent on your credit score but rather on the credit scores of the companies that owe you money.
Be aware that invoice factoring could harm the reputation of your business. The companies that owe you money may not appreciate being pressured by a factoring company.
Many government entities, corporations, and nonprofits offer money for people to launch or grow small businesses. Some small business grants are available to any owner to apply for, while others are targeted to specific demographics, like businesses owned by veterans, minorities, women, or people in disadvantaged areas. It can be challenging to apply and qualify for grants, but they’re attractive because the money from them doesn’t have to be paid back.
Here are some things you can do to qualify for the small business funding you need:
Knowing why you need small business financing and matching your need to the right funding solution will help you get the money required to take your small business to the next level.
