What do the local coffee shop, an Etsy store and Apple all have in common? They all needed start-up cash to get where they are today.
Recent estimates on the price of launching a new business are hard to find, but a 2009 study from the Kauffmann Foundation pegged the average cost at $30,000. Even online businesses, which can have relatively low costs, require capital for web design, product development and marketing.
While you could cash out your 401(k) or dip into personal savings to fund your business venture, here are other, potentially less risky options to consider.
[Read: 11 Tips for Starting a Business in Retirement.]
Family and friends. Turning to family and friends for money can have dual advantages. First, these loans may not be subject to the same extensive vetting process required for commercial loans. In addition, by tapping a person with prior business experience, you may find you have a ready-made mentor who has a vested interest in helping you succeed.
“I’ve had a few folks go that route,” says Osama Albibi, a senior financial advisor with Merrill Lynch in Panama City, Florida. “Obviously, it’s not available to everyone.” When borrowing from family and friends, it’s crucial to put the terms of the loan in writing. Then, pay it back with the same diligence you would if it were a bank loan.
Credit cards and lines of credit. For those without generous and well-off family or friends, using credit cards and other lines of credit may be the most accessible way to find money for a business start-up. “That’s frequently the only initial source of money,” says David Kelsay, senior vice president of lending for Sierra Central Credit Union. However, he warns, “you never want to use a line of credit for a depreciating asset.”
Part of the risk in using revolving credit is that borrowers may find themselves endlessly paying back debt. Rates may be higher, and there is no strict timetable for paying off the entire amount. Once a line of credit is granted, borrowers can withdraw money at will, a feature that is convenient but could also lead to excessive borrowing.
Still, a line of credit can be key to business success. Albibi relates the story of one of his clients, Sohail Masood, who founded the infusion therapy firm KabaFusion. Masood is a finalist for the Ernst & Young Entrepreneur of the Year Award for the Greater Los Angeles Region in 2016, but his company’s success wasn’t always a sure thing.
“He was within two to three months of filing bankruptcy,” Albibi notes. However, Masood took out a home equity line of credit which helped sustain the business while Albibi worked to help him secure a $5 million loan from the Small Business Administration. The line of credit was a last resort, but one Albibi credits as helping the company turn into a successful venture that is on track to pull in $100 million in revenue this year.
[Read: 5 Tips for Starting a Small Business in College.]
Personal and commercial loans. Loans from a credit union or bank are a traditional way to start a business. Personal loans are typically for smaller amounts and rely on a person’s own creditworthiness for approval. Meanwhile, commercial loans may be appropriate for larger amounts or businesses that will have large inventory and infrastructure costs.
However, it may be hard for start-ups to get commercial funding without a proven track record of revenue or a compelling business plan. As a result, some financial institutions may offer start-ups a combination of personal and business products. “[We’re] trying to get them into a loan that’s good for them, not the bank,” says Samantha Paxson, chief marketing officer for CO-OP Financial Services.
Paxson says credit unions, in particular, tend to fill a niche for business start-ups. They may offer more flexible lending options and be willing to work with borrowers who have lower credit scores. When it comes to commercial lending, Kelsay cautions there is little oversight and terms can vary widely by institution. “It’s not the wild west, but it’s pretty much whatever the market will bear,” he says. Before applying for a commercial loan, be sure to carefully review the repayment terms, interest rate and fee schedule.
Online funding options. The 2015 Small Business Credit Survey, conducted by the Federal Reserve Banks, found half of small business applicants were either denied funding or received less than the requested amount. Kathryn Petralia, co-founder of online lender Kabbage, says her company is trying to meet the needs of the businesses that find themselves locked out of traditional lending sources. “As long as a business is generating more than a few thousand a month, there’s a good chance they’ll be approved,” she says. Kabbage offers a simplified application process and lines of credit of up to $100,000.
While Kabbage offers money that needs to be repaid, other online funding sources may provide start-up cash that comes as a gift, rather than a loan. Crowdfunding sites like Kickstarter and Indiegogo let start-ups raise capital that doesn’t have to be repaid. Creative projects that generate social buzz tend to do best on these platforms, and many people contribute to a cause in exchange for promised rewards such as access to an early product release.
Before using a crowdfunding site, business owners need to understand the terms of service for their chosen site. While some platforms let people raise money without any strings attached, others may give funders equity in the business.
[Read: The Hidden Costs of Starting Your Own Business.]
Government programs. Despite what you might hear on late night television commercials or read on the internet, there are no government grants for small business start-ups. However, the government does offer a number of low-interest loan programs, including some specifically targeting women or minority owners. GovLoans.gov provides an online directory of all loan programs.
Entrepreneurs can also visit a local Small Business Administration office for personal help in reviewing funding options. This agency also provides a number of other free services that can help you get your business idea off the ground. “[They offer] tons and tons of counseling,” Kelsay says. “They’ll help you prepare a business plan.”
Successfully starting a small business requires innovation, perseverance and a healthy influx of cash. While you’ll need to come up with those first two things yourself, money can be found with the help of one of these five funding options.
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Where to Get Money for Your Business Idea originally appeared on usnews.com
