The primary source of job growth in the United States is from new employer businesses. Before we get ahead of ourselves, you need to have access to money in order to open up your own small business. This money is often provided through a small business loan.
But wait, what is a small business loan and how do you get it? Don’t worry. We are going to give you all the necessary information, and how you can potentially obtain a loan for your own small business.
What is a startup business loan?
A start up business loan is a form of financing that is meant to financially assist the needs of a new business. If you were to obtain a startup business loan, you can expect the loans’ proceeds to go towards working capital.
Working capital are items like equipment, machinery, supplies, inventory, and the purchase of construction equipment, or even real estate.
Traditional loans are often out of reach to new businesses and these startups must turn to bank loans for financial assistance. Banks, however, have a strict business lending standard. What they offer is usually only available to businesses that are already established.
Keep in mind, we said usually. This is still a viable option; you can work with a bank to secure equipment financing, or other business funding. The first step is to have a solid business plan in the industry that the bank serves. This means, the bank you are looking for a loan from should cater to the industry that your business is in.
Small business loans are a huge help for many new business owners, but as with all things, there is the good, the bad, and the ugly. Luckily for us, there is no ugly, just some pros and cons.
Do you want the pros first or the cons?… Pros it is!
There are many positives to small business loans. This type of loan can help your business grow faster. It can also be used to buy equipment, inventory, retail, or even warehouse space/locations.
Above all, however, small business loans are essential for capital intensive businesses. Capital intensive businesses are businesses that require a large amount of upfront financing in order to purchase the supplies and assets necessary to start their business venture.
Now, for the bad…
It can be expensive. And even then, businesses can fail, and an owner may be liable for the loan. The cons are not definitive. Your experience could be entirely pros. Just make sure you do your research and choose the type of small business loan that is best for you.
When considering a business loan, many business owners do not look forward to the sky-high interest rates that come with it. However, if you have a good credit score, the more likely you are to get a low rate on a loan.
Lenders look at both personal and business credit score histories. Personal credit is incredibly important to small business owners because they often do not yet have the business credit needed.
You are entitled to a free annual credit report from each of the three major credit bureaus (Equifax, Experian, and TransUnion).
Types of Business Start Up Loans
Here is a brief overview of the types of loans you could get for your business. Instead of a loan, its also possible to obtain a small business grant, which is essentially fee money. Although it is a lot harder.
Small Business Administration (SBA) Loans do not directly lend money to small businesses. With this loan, the SBA partners with SBA-approved banks, credit unions, community development organizations, nonprofits, and other lenders that provide long term, low cost, and government backed loans. The loan amount provided to these small businesses ranges from 500 hundred dollars to 5.5 million.
Depending on the SBA loan program chosen, the Small Business Administration guarantees up to 90 percent of the loan. The SBA loan eliminates most of the risk for the lenders who issue the loans, making it one of the most accessible for small businesses.
Peer-to-peer Lending (P2P)
This form of lending refers to who is doing the financing instead of how the financing is happening. You can receive relatively good rates, especially if you have a great credit score. P2P Lending is limited to personal loans and these online platforms match investors with borrowers who are in search of a loan program.
The application process is quick, which results in faster access to funds.
Borrowing money for electronics or machinery for your business/what your business NEEDS. This form of assistance is a more secure loan for the lender. This is because the equipment itself is also collateral if, for any reason, the business is unable to repay the loan. The loans are usually term-based, and the rates depend on the cost and state of the equipment, though you should expect the rates to be competitive.
Local credit unions and large banks are the lenders who usually offer equipment loans. No matter the lender you choose, make certain that you get a vendor quote for the cost of your equipment BEFORE you begin applying.
With this, you can sell unresolved invoices for up-front cash. This means, it is a way to finance your business expenses through unpaid invoices (the payment is due to you and has not been paid, yet).
It is usually not a loan, but rather, business owners sell an unusual item to get cash right away. You can sell your unpaid invoices to a factoring company which will eventually make that money back for you when the businesses whose invoice has been unpaid, pay what is owed.
Invoice financing lenders can be found online but not all of the online lenders offer invoice financing. Each online lender is unique, but you must be aware of additional fees.
Merchant Cash Advances (MCAs)
Borrowing money and paying it back with frequent, profit-based payments. MCAs provide upfront cash for a cut from your business’ FUTURE profits. Merchant cash advances are often quick to set up and do not rely on a business’s credit or personal credit score. They do, however, end up costing the borrower quite a bit of money, so small businesses should be extremely wary before signing up.
Make sure you ask questions and know all of the details BEFORE you begin to apply. Check the MCA repayment terms and fees closely. Before you begin applying, make sure that you can afford the high-frequency payments involved.
This form of loan benefits businesses who want to pay off debt(s) faster but must be aware of, and okay with, frequent payments that are relatively costly.
With term loans, you will obtain a large sum of money and pay it back over several years.
Short Term Loans – with short term loans, you receive money to spend for your businesses with the expectation that you will pay it back in the full amount, most often within 18 months. The length of time honestly depends on the lender, some loans have longer term limits, and some have even shorter.
Long Term Loan – long term financing is better for a long-term investment in your business. These loans offer a larger amount of cash to grow your business and profits.
Working Capital Loan – this is a short-term financing loan that helps a business cover operational costs, such as, rent, payroll, or restocking inventory. These loans have short repayment terms and are not usually used for long term investments (i.e., real estate)
Paycheck Protection Program (PPP)
This program was created as part of the Coronavirus Aid, Relief, and Economic Security Act (CARES) to help small businesses. It has been in effect since March 2020.
This form of a loan involves asking a large number of people to each loan a small amount of money. This results in you obtaining the financial amount you need (or have as your goal), but through a number of small amounts instead of one large sum. The goal is to get as many people as possible to agree to invest in your venture.
There are a few kinds of crowdfunding:
Donation Crowdfunding – People will donate money because they believe in the cause and want it to succeed. As the name suggests, it is a donation, and they will not expect anything in return for their financial donation.
Reward Crowdfunding – the small business offers some sort of benefit to those who donate. Regardless of the reward received, it does not have to have any correlation to the amount donated.
Debt Crowdfunding – this is peer to peer lending. It is a traditional loan that investors will receive their money back but with interest.
Equity Crowd Funding – Investors receive shares in the business itself in return for their financial contribution. This is also referred to as “Seed Capital.”
What are minority Small Business Loans?
Minority small business loans are designed to make capital more accessible for small business owned and operated by minorities.
This is not a specific loan that is allotted to minorities. This type of loan can come from multiple loan providers, including, SBA loans, microlenders, or non-profit organizations.
So, who qualifies?
Small business loans for minorities are typically given to businesses whose owner belongs to a specific minority group, and ownership is defined as at least 51 percent.
The requirements vary depending on the lender, too. It is extremely important that you check the fine print and check it twice. Some minority business loan programs may require every business member to be part of a minority group. But it is more common for the lender to require only the owner to be so.
You have a few options. One of which is receiving a Minority SBA Loan.
The US Small Business Administration offers loan programs for various purposes. Some are even designed specifically for underserved communities.
8(a) Business Development Program is vital for small disadvantaged businesses (SDB).
8(a) does not actually offer or provide loans, but businesses who take part in the SBA 8(a) Program have a better chance of qualifying for SBA loans.
What does the 8a Development Program provide?
Each year, a certain percentage of the federal contracting dollars are reserved for businesses that participate in the 8a Program. This program helps small businesses owned by socially and economically disadvantaged people to have a level playing field as their competitors who do not face the same difficulties.
How difficult is it to get a business startup loan?
New businesses are the riskiest loans of any kind that any lender or bank may come across. They are nervous about starts ups, as we would be if in their position.
While it isn’t a simple task to get a startup loan, lenders do have expectations for the borrower which, if met, could set you on the path to get your own startup loan.
Lenders Expect you to have the Four C’s: Capital, Collateral, Capacity, and Character.
Capital are business assets that can be used to create services or products, turning into cash which helps to make payments on a business loan.
Collateral is cash that can be contributed to the business. New business owners usually have little collateral, unless they use a personal asset or have a cosigner with assets to pledge.
Capacity is having a good track record. Meaning, your business has the capacity to generate enough money to pay back the loan.
Character. When we say character, we are mainly talking about your credit rating. However, just because you have good credit doesn’t mean you can obtain a business loan, but a poor rating most likely will get you turned away from receiving one.
Other reasons that one would be denied a startup loan are lack of experience, management, and customer base.
To be honest, banks can be creative with giving reasons for why they say no to your start up loan. Typically, this happens to young couples seeking a loan to start a professional practice.
Often, you’ll just receive a “we don’t give startups.”
But don’t be discouraged because there is someone else out there who does.
When considering an SBA Loan, it’s important that you know both the positives and negatives.
The Positives of SBA Loan:
Access to additional capital
Reasonable terms and conditions
Consistent cash flow
Large loan amounts
Low down payments
Access to SBA resources
The Negatives of SBA Loan:
Difficult to apply/qualify for
Relatively high interest rates
Lengthy application and approval process (if not working with an SBA lender with final credit decision abilities, known as “Preferred” status)
Good credit score REQUIRED
Solid proven track record REQUIRED
MUST have a quality business plan
Collateral is usually necessary for larger loans (with personal risk, too).
Free Money for a Startup Business Loan
At this point, you may be wondering where you can get free money for a business startup, and if you weren’t wondering, well, you are now!
This website offers a comprehensive database of the government agency administered business grants available. You can use the database to narrow your search to the best grant options for your business.
Small Business Innovation Research (SBIR) and Small Business Technology Transfer (STTR) Programs
The focus of the programs is on the research and development for technology innovation. Through the use of these two programs, you can connect your small business with federal grants, as well as contracts from a dozen government agencies.
You may consider doing some research into obtaining a large corporate grant. There is a lot of competition with receiving this form of grant as thousands of applications are received.
However, it is worth the shot if you are able to be selected as they provide large rewards.
The following are some of the available corporate grants:
Arch Grants Global Startup Competition
Visa Everywhere Initiative
FedEx Small Business Grant Contest
Small Business Technology Transfer (STTR)
National Association for the Self-Employed
Idea Café Small Business Grant
There is no one size fits all solution for small businesses. Throughout this article there are links to sources that will further help you to navigate this process and find the opportunities that best fit your business’ needs.
Be patient, do your research, and don’t forget to ask questions and have your answers BEFORE beginning the application process. This article will remain a source for you to come back to on your small business venture journey if need be.
Now that you have the ins and outs of a small business loan, you have the necessary information and the tools to get started. Good luck!