Angel investors move fast and want simple terms. Equity financing uses an investor, not a lender; if you end up in bankruptcy, you do not owe anything to the investor, who, as a part owner of the business, simply loses their investment.
Funding your business through investors has several advantages:. Similarly, there are a number of disadvantages that come with equity financing:. Put yourself in the position of the lender for a moment. The lender is looking for the best value for its money relative to the least amount of risk. The problem with debt financing is that the lender does not get to share in the success of the business. All it gets is its money back with interest while taking on the risk of default. That interest rate is not going to provide an impressive return by investment standards.
It will probably offer single-digit returns. Mezzanine capital often combines the best features of equity and debt financing. Although there is no set structure for this type of business financing, debt capital often gives the lending institution the right to convert the loan to an equity interest in the company if you do not repay the loan on time or in full.
Choosing to use mezzanine capital comes with several advantages:. Mezzanine capital does have its share of disadvantages:. Please note that mezzanine capital is not as standard as debt or equity financing. Off-balance balance financing is good for one-time large purposes, allowing a business to create a special purpose vehicle SPV that carries the expense on its balance sheet, making the business seem less in debt.
Think about your personal finances for a minute. What if you were applying for a new home mortgage and discovered a way to create a legal entity that takes your student loan, credit card, and automobile debt off your credit report?
Businesses can do that. Off-balance sheet financing is not a loan. The sponsoring company often overcapitalizes the SPV in order to make it look attractive should the SPV need a loan to service the debt. Off-balance sheet financing is strictly regulated, and generally accepted accounting principles GAAP govern its use. This type of financing is not appropriate for most businesses, but it may become an option for small businesses that grow into much larger corporate structures.
If your funding needs are relatively small, you may want to first pursue less formal means of financing. Family and friends who believe in your business can offer simple and advantageous repayment terms in exchange for setting up a lending model similar to some of the more formal models.
For example, you could offer them stock in your company or pay them back just as you would a debt financing deal, in which you make regular payments with interest. Whereas you may be able to borrow from your retirement plan and pay that loan back with interest, an alternative known as a Rollover for Business Startups ROBS has emerged as a practical source of funding for those who are starting a business.
When executed properly, ROBS allow entrepreneurs to invest their retirement savings into a new business venture without incurring taxes, early withdrawal penalties, or loan costs.
However, ROBS transaction are complex, so it's essential to work with an experienced and competent provider. When you can avoid financing from a formal source , it will usually be more advantageous for your business. If you do not have family or friends with the means to help, debt financing is likely the easiest source of funds for small businesses.
As your business grows or reaches later stages of product development, equity financing or mezzanine capital may become options. For example, if your business has strong qualifications but prefers an expedited process, Credibility Capital and Funding Circle are great options for traditional term loans. For businesses that want a flexible line of credit, BlueVine, OnDeck and Fundbox each offer competitive products. Best for: Free financing. Small-business grants offer a way for business owners to get established or grow, without having to worry about paying back the funds.
Typically offered through nonprofits, government agencies and corporations, some grants focus on specific types of business owners or particular industries. The downside to free funding is that everybody wants it.
It will take a lot of work to find and apply to grants, but time spent searching for free money opportunities could pay off in the long run. Federal and state agencies, as well as private corporations, all offer small-business grants.
Your local Economic Development Administration branch or Small Business Development Center may also help you find grant programs and similar funding opportunities. For grant options focused on different types of business owners, check out the following lists:. Small-business grants for minorities. Small-business grants for veterans. Small-business grants for women. Best for: Members who like a personal touch. Like banks, credit unions offer favorable rates and loans backed by the SBA.
But unlike banks, credit unions have increased their small-business funding. Between and , the number of credit unions offering small-business financing doubled, according to the Consumer Financial Protection Bureau. In addition to SBA loans, credit unions can offer a range of funding options, including lines of credit, traditional term loans and business credit cards.
But the co-op nature of credit unions often ties them to the community, so you may also reap the benefits of more personal relationships and name recognition. Many business lines of credit are unsecured, which means you don't need any collateral. These loans are designed to help you pay for expensive machinery, vehicles or equipment that retains value, such as computers or furniture. Business owners who struggle to receive on-time payments may want to choose invoice factoring or invoice financing aka accounts receivable financing.
Through invoice factoring, you can sell unpaid invoices to a lender and receive a percentage of the invoice value upfront. With invoice financing, you can use unpaid invoices as collateral to get an advance on the amount you're owed. The main difference between the two is that factoring gives the company buying your invoices control over collecting payments, while financing still requires you to collect payments so you can repay the amount borrowed.
Commercial real estate loans aka commercial mortgages can help you finance new or existing property, like an office, warehouse or retail space. These loans act like term loans and may allow you to purchase a new commercial property, expand a location or refinance an existing loan. Many microloans are offered through nonprofits or the government, like the SBA, though you may need to put up collateral like business equipment, real estate or personal assets to qualify for these loans.
Like traditional cash advances , merchant cash advances come at a high cost. This type of cash advance requires you to borrow against your future sales. Here we compare the most popular types of small business loans, including everything from SBA loans to lines of credit to business credit cards so you can make the right choice for your business. This chart provides a quick overview of the most popular types of financing for small business owners. Keep reading to fully understand how each one works and how to qualify.
Are you looking for long-term financing? Do you need cash within days? Do you need the money to refinance debt or buy real estate? Remember, many types of financing not only have a range of turnaround times from application to payout, but they may also have restrictions on how the money is spent. Get familiar with each of these most common business funding choices before you start applying. When you think of getting money for working capital or refinancing debt, do the traditional bank loans come to mind first?
You might consider inquiring with your existing bank, or a local bank, to see what they offer. Just keep in mind that banks often have high qualification standards. There are three types of term loans popular with small businesses, from short-term loans which can come with a higher interest rate but get you funded fast , to medium and even long-term loans.
Depending on how much you want to borrow, and what your monthly payment amount needs to be, the bank should be able to help you find the term loan that is priced right for your budget. The U. Small Business Administration or SBA has been helping small business borrowers get financing for many years. Instead it guarantees loans made by participating lenders.
There are a number of SBA loan programs, but the most popular include:. These are the most common of the SBA loans, offering qualified U. The beauty of SBA 7 a loans is that they are designed to help small businesses who have not been successful getting funding elsewhere a way to secure loans at competitive rates and with favorable terms.
Those forgivable loans are no longer available. Looking to finance real estate or major equipment for your business? You may want to look into loans provided through the SBA Loan program. The loans are made available for fixed assets, such as machinery, as well as property. Low rates and stable repayment terms are just a few of the reasons growing companies turn to this program when it comes time to make large expansion plans.
You may also pay slightly higher interest rates for these expedited loans. They may be more flexible, though. Typically made by nonprofit Community Development Financial Institutions, they may be available to startups or to business owners who have overcome bad credit. These loans carry competitive rates and come with technical assistance; help designed to make the business successful. Do you enjoy the flexibility of using a credit card as much or as little as you want, but would rather have the benefit of cash?
Then a business line of credit may be for you. Like a credit card, the bank will give you a set limit that you can borrow against, then pay it back and borrow again. The perks of a revolving line of credit like this are that you can borrow just what you need.
Interest rates vary. If you know exactly how much your business needs to complete a specific project or goal, a term loan can be a great option. A term loan offers a lump sum, fixed amount of financing with a specific repayment period. For online loans, the repayment period is typically months. Bank or SBA term loans typically offer a repayment period of anywhere from years, depending on the amount borrowed and the use of funds.
These loans may carry fixed or variable interest rates. Generally the lowest rates go to the most qualified borrowers.
Among the basic financial tools that all business owners should consider is one or two business credit cards.
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