Because getting a bank loan to launch a start-up is never easy, entrepreneurs and future business owners have to consider other ways of making their dreams of launching a company come true. This is even more difficult after the 2008 financial crash. And while some may say that small business lending has seen somewhat of a rejuvenation, it is still almost impossible to obtain a bank loan for a start-up.
But why does this happen? Lenders will constantly be interested in checking your company’s financial track record, to assure themselves that you will be able to pay back the money they are lending you. And if you are not able to provide the history they are looking for, the lender will have no way to tell if your future company will be able to register enough success so that one day it is able to make good on its obligation. I honestly do not know why some business people believe that banks are investors. Actually, they are simply lenders that show no interest in consciously making equity investments in ventures.
So if you are not able to get a bank loan, what other options are out there for you? A lot of entrepreneurs launch their start-ups with their savings, they put their company’s startup costs on credit cards, or, in some cases, they even approach family and friends and ask them for a loan. It’s not all bad news.
The difficult and tiresome process of obtaining a bank loan has opened the door for alternative lending options which can help entrepreneurs get easy access to the much needed money without a great deal of hassle. Websites such as Kickstarter and Indiegogo allow you to create crowdfunding campaigns through their websites.
Some entrepreneurs believe so much in their business idea and the success of their companies that they use their homes as equity (HELOC, HEL). The cost varies between 2 and 5% in closing costs in addition to a 3 to 6% annual interest rate. If you’re interested in this solution when you are trying to get a small business loan for your future start-up, you should know that costs are generally lower for HELOC.
To put it in layman’s terms, the HEL is something like a second mortgage while HELOC pretty much operates in the same way as a credit card that uses your house as collateral. The main advantage of using this funding method is that it has lower rates than other funding options. Still, you need to remember that you’re putting your house on the line, so there’s always the risk of losing your home if things don’t turn out as you had hoped for, business wise.
Another funding option some entrepreneurs turn to is the use of credit cards. The annual fee varies between 50 and 100 dollars while the annual interest rate ranges from 10 to 25%. According to the National Small Business Association, 37% of small businesses used credit cards to finance their business operations, despite the fact that the risk is pretty high given the fact that it lacks stability. Some credit card companies are allowed to lower the credit limit without providing a warning beforehand. Also, on average, credit cards have quite steep interest rates, which revolve around 18%. This adds unwanted additional pressured on both you and your business to perform as soon as possible. Bear in mind that if it just so happens that you are late on your payments, your credit score will be ruined.
If that doesn’t peak your interest, you can always ask your friends and family for a business loan. While most people tend not to consider this funding option, your family and friends is one of your best chances of getting funding for your small business. The cost in this case is relatively low. The lowest interest rate threshold is about 0.38% for 3 year loans or less and 1.85% for 3-9 year loans. Your close ones are the people that know you better than anybody else. And if they truly believe in your business idea and the success of your start-up, they will be more willing to invest than a person who doesn’t know you at all.
Your friends and family have two important ways they are able to support you: they can either offer you a loan, or buy shares in your company. Still, most often, the former is the best way to go because you will not feel pressured to manage your company in a certain way, something that could potentially happen when one of your friends or a relative becomes a shareholder. Moreover, this is far safer for the person who is investing in your company. This way they make sure they will get their money back, something that is not a certainty for shareholders if the business would fail.
Nonprofit microlenders become more popular with each day that passes. In some way, connecting with a nonprofit microlender could be one of the best options out there for you. Most of them provide loans up to 35,000 dollars at a 7.5 % interest. Even before the 2008 economic crisis and the credit crunch, small businesses almost always found it difficult to get loans. Microlenders and microfinance companies have seen an opportunity and decided to take advantage of it.
They are able to fill the gap, offering business loans to companies with only a handful of employees. And the best part about this is that the lending guidelines are far more flexible than in the case of your traditional banks. Nonprofit microlenders offer one-on-one assistance and training for small companies, not only loans.
Last but not least, you could try and obtain a loan from peer-to-peer websites. The cost for this type of funding is as follows: 2-5 % origination fee which is taken from lump-sum payment plus an additional 12 to 25 % interest rate. Some of these websites offer startup funding of up to $35,000. Some of the most popular peer-to-peer sites are Prosper and Lending Club. Despite the fact they focus on 3-5 year loans to pay off credit card debt, these websites are starting to focus mainly on offering small business loans.
Here’s what you need to bear in mind if you’re interested in obtaining a business loan through the peer-to-peer websites:
First of all, your credit card rating needs to be at least 660 to be eligible.
If you are not able to pay back the loan, the credit store will be destroyed. You will have to pay between 12 and 25 % yearly, depending on the credit card rating and the length of your loan term.
Despite the fact that bank loans cannot really be considered as a viable option for business startups, there are a lot of ways of acquiring the necessary money and getting your business started. You need to do your fair share of research, create a pros and cons list where you present the advantages and disadvantages of each funding option available for you and once you find the best one for your business, make the necessary arrangements to obtain the much desired loan.
For more tips on how to manage the financial aspects of your business visit our FINANCE section.