What funding sources are the best for my business?
A common question that I hear from small business CEOs is “What funding sources are the best for my business?” I have written about funding sources in recent columns. In those I have discussed the vital importance of adequate funding for a small business and also addressed the understanding of debt vs. equity financing, Now I will devote some attention to the various types of financing that are available, explain how they work, how much money they can provide, what situations they are suited for, and the pros and cons of each. By choosing the financing sources that are most likely to fund your business, you will improve your chances of getting the money you need.
This information is covered in depth in one of SCORE’s projects that was developed with the help of and in partnership with FedEx. This project is called “Startup Roadmap” and outlines every step in starting a business. I will focus on this column topic and build on and incorporate content from the Startup Roadmap project. I encourage CEOs to ask their SCORE mentor how to access this free course. In this and the following three columns, I will present a closer look at the various types of financing a small business can use.
- Description: A bank lends your businesses a specific amount of money for a specific period of time. Short-term loans generally must be paid back within six to 24 months; long-term loans can have terms ranging from three years to 25 years or more. Both short-term and long-term loans come in two flavors: secured or unsecured. Secured loans are easier to get but require you to put up collateral such as real estate or other assets. Unsecured loans don’t require collateral but are more difficult to get and have higher interest rates. Banks typically prefer to lend amounts of at least $100,000; the average bank loan is $500,000. Loan matching sites and your SCORE mentor can help match you with potential lenders that fit your needs.
- Advantages: Term loans that have fixed interest rates and payments can help you budget for your business more effectively.
- Disadvantages: It’s difficult to get a bank loan for a startup. Lenders may require you to sign a personal guarantee so that if your business doesn’t repay the loan, they can try to collect from your personal income or assets.
- When used: Best for businesses that need a substantial amount of capital and have a strong business plan.
- Examples: An experienced businessperson with a strong management team who needs $500,000 to start up, has an excellent credit score and has assets to pledge as collateral
SBA Guaranteed Loans
- Description: SBA guaranteed loans are a specific type of bank loan made through SBA-approved lenders. The SBA doesn’t lend money directly to small business owners. Instead, it works with partnering lenders, setting guidelines for loans the lenders provide and guaranteeing a percentage of the loan. This reduces risk for the lenders and makes them more willing to provide loans to small businesses. SBA guaranteed lenders may include banks, credit unions, community development organizations and micro-lending institutions.
- Advantages: The SBA’s wide range of loan programs enables its preferred lenders to make smaller loans than banks typically offer. Some SBA microloans are as low as $50,000; the average SBA loan is $350,000.
- Disadvantages: Lenders may require you to sign a personal guarantee, which means they can try to collect from your personal income or assets if the business doesn’t repay the debt.
- When used: If you need less money than a traditional bank loan or are in a risky industry, an SBA guaranteed loan can be an alternative.
- Examples: A business that needs $50,000 in startup capital may have difficulty getting a bank loan of that size but could qualify for an SBA microloan.
- Description: Nonprofit lenders look for businesses whose missions coincide with theirs and offer them small business loans or microloans (generally from $5,000 to $10,000). Some nonprofits are also SBA guaranteed lenders that make SBA microloans, which go up to $50,000.
- Advantages: Depending on the lender, you may pay low interest rates and fees or no interest at all. Since microloans are designed for people with limited access to credit, having little or no credit history generally isn’t a problem. In addition to capital, nonprofit lenders sometimes offer free mentoring, business classes or other business guidance.
- Disadvantages: The loans are small. If you have prior business or management experience, you may chafe if a nonprofit lender requires you to attend classes to learn business skills or demonstrate your progress.
- When used: Best for members of groups that have difficulty getting traditional loans (such as military veterans, women, immigrants, people with disabilities and members of minority groups), those starting businesses in underserved communities, or those starting community-minded businesses.
- Examples: An entrepreneur who lives in a low-income community gets a $10,000 microloan to start a crafts business employing local residents.
In my next Column, I will discuss other sources for funding your business.