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So, you’ve come up with the business idea. It fills a need, it has an audience, and you have a detailed business plan to prove it. Now, how are you going to acquire the financing you need to actually get your small business started?
The capital you need to launch, maintain or grow your business can come from a variety of sources, including traditional banks and online alternative lenders. Finding the right funding depends on the strength of your business and your own financial history. To help you find a good fit, we’ve highlighted six of the most common options for small businesses. Once you determine the best fit, there are steps you can take to increase your chances of getting a business loan.
For: Established businesses with collateral and strong credit
Traditional banks are a great starting point and can help you figure out where you stand in terms of qualifying for funding. Even if your business doesn’t have a strong enough track record or enough assets as collateral to qualify for a bank loan, talking to someone at a traditional bank can help you figure out what documents you need and what your best options may be.
Locally owned banks, in particular, are a great resource for small businesses because they often have a strong interest in economic development in the community. In the third quarter of 2016, the Federal Deposit Insurance Corp. found that 43% of small loans to businesses came from community banks.
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For: Businesses who don’t meet traditional banks’ strict lending criteria
The U.S. Small Business Administration offers lenders, mostly traditional banks, a federal guarantee on your loan. This makes it less risky for banks to lend you the funds you need to be successful. In guaranteeing the loans, the SBA also connects you with favorable rates offered by traditional lenders. And unlike most bank loans, you can use an SBA loan to start a business.
However, the application process isn’t easy, and you can find yourself trapped under a heap of documents while you work through the appropriate forms. Online lender SmartBiz provides a more streamlined SBA application process, originating SBA loans faster than traditional banks.
3. Online alternative lenders
For: People with shaky personal credit, who want fast funding or ease of applying
With traditional banks limiting access to capital, online alternative lenders have seen an increase in popularity. A report by Morgan Stanley predicts they’ll provide 16% of small-business loans by 2020. Online lenders are particularly useful for owners struggling with bad credit or those in need of fast cash. Several of them are able to turn around funding within 24 hours.
Peer-to-peer business lenders are among the alternatives. These lenders cut out the traditional middleman, such as banks, to connect borrowers with individual and institutional investors. The cost of borrowing, however, is much higher; some charge annual percentage rates close to 100%. Still, alternative lenders are an option when a bank says no.
Online business lenders offer a variety of financing options, including term loans, lines of credit and invoice factoring.
For: Businesses with products that can capture the public’s interest
Crowdfunding sites such as Kickstarter rely on investors to help get an idea or business off the ground, often rewarding them with perks or equity in exchange for cash. Although the popularity of these services has increased in recent years (the SBA even offers an online course in crowdfunding), there are caveats. For one, your product or company has to be intriguing enough to catch the eye of multiple investors. In the case of equity crowdfunding, where investors gain a stake in the company, there are strict securities laws and rules to follow for investors and entrepreneurs alike.
5. Credit unions
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 lending 60% since 2008, according to the National Association of Federal Credit Unions. You’ll likely have to be a member. 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.
Funding that doesn’t need to be repaid is the best funding. Small-business grants offer a way for small-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, such as minorities, veterans and women. The downside to free financing 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.
SBA loans are backed by the U.S. Small Business Administration and issued by participating lenders, mostly banks. They are coveted by small business owners because they come with low rates and flexible terms.
An online term loan is lump-sum financing repaid over a fixed period of time (3-36 months for short-term and up to 10 years for long-term).
A business line of credit provides access to flexible cash, much like a credit card. You don't pay unless you use it.
Invoice factoring lets you turn unpaid customer invoices into immediate cash by either selling your invoices outright to an invoice factoring lender that collects on them from your customers directly, or using them as collateral with an invoice financing lender that requires you to collect on your invoices to pay off your loan.
Typically unsecured, you can get a personal loan in amounts ranging from $1,000 to more than $50,000. We recommend taking a maximum of $35,000 to fund your business.
Many small-business owners use credit cards for funding. Business credit cards are best for short-term expenses. Research has shown that small businesses that rely heavily on credit card financing typically fail.
Microlenders offer small-size loans for young businesses with limited revenue and history. They typically offer loans of $50,000 or less. Some microlenders specifically work with small businesses in underrepresented communities and provide business assistance.
We recommend the following ways to finance your business:
Why we recommend
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A personal loan can be a source of startup funding because approval is typically based on your personal credit score.
NerdWallet recommends taking a maximum of $35,000 to fund your business.
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