If you’ve thought of a great business idea and have decided to take the plunge and start your own business, then the biggest hurdle of entrepreneurship—daring to try—is behind you. Sure, you still have to work out the many logistics, like obtaining funding, but fortunately there are many different ways to fund your startup.
Here are five:
Grants aren’t for everyone, as after all the entire purpose of the grant system is to provide a helping hand to select individuals or groups that are deemed to be more deserving or in need than most. However, if you do meet the criteria, obtaining a grant can be a great way to supplement financing your business. The U.S. Small Business Administration (SBA) has created a search tool to help identify potential grants at https://www.sba.gov/content/find-grants.
Many entrepreneurs begin narrowing down their business plan by bouncing their ideas off of family and friends, and this provides a natural segue to personal lending—the practice of lending between people like family members, rather than commercial entities like banks and credit unions. If you do decide to go this route, make sure to treat the agreement just as you would with a bank loan. Writing the details down in a formal contract helps avoid miscommunications and strained relationships, and paying interest helps avoid running afoul of the regulations for loans made with little or no interest. The IRS requires that most loans charge, at a minimum, the current applicable federal rate (AFR). This regulation prevents people from incorrectly claiming that gifts are loans, so if you have an interest-free loan, you need to calculate the hypothetical, or “imputed” interest that you will pay taxes on.
“You’re not required to charge interest if the loan is for less than $10,000, or up to $100,000 if the borrower’s investment income for the year is less than $1,000,” says Kiplinger Senior Associate Editor Sandra Block.
Now that shows like Shark Tank have been around for many years, which tell dramatic stories of would-be entrepreneurs making bold pitches to high profile venture capitalists, some of the initial enthusiasm they created around the idea of venture capital has faded. That isn’t to say that it has completely fallen out of favor, as it is still a common source of business financing for a select group of businesses. Typically, businesses that seek venture capital funding are those that are unable to find funding through traditional avenues like financial institutions. This could be because they have no established credit or equity to secure a loan, lack enough assets to use as collateral or because they are seeking a very large sum.
“These investors seek to add value, in addition to capital, to the companies in which they invest in an effort to help them grow and achieve a greater return on the investment,” states the U.S. Small Business Administration. “This requires active involvement and almost all venture capitalists will, at a minimum, want a seat on the board of directors.”
Therefore, if you don’t want to give up a share of your business or aren’t willing to take input from your investors on the direction of your business, traditional lending may be a better option.
Many startups rely on funds from a credit card in the initial phases. It is much quicker to apply for a credit card than to obtain a loan, and the perks that come from opening new cards can be very attractive. The limits on credit cards are lower than a typical business loan, however, and the interest is higher, so credit cards are not a sustainable method of funding a business. Combining a business credit card with a business loan is a great way to get funding quickly and start building strong credit history while you go through the process of finalizing the loan.
Financial Institution Lending
There is a reason why, despite the many options, entrepreneurs generally swing back around to financial institution lending. Not only does it help save their personal relationships from the complications of mixing financial business with pleasure, it lets them keep full ownership of their business because it is a form of debt lending and not equity lending. Furthermore, a loan from a bank or credit union can provide far more funds than they could get from a credit card alone.
If you want to know more about the process of applying for a loan to start a small business or simply want to know which types of loans are available, then now is the perfect time to reach out to your local financial institution. After all, small, community-based financial institutions have been surpassing big banks in their friendliness to small businesses for years.