Initial Funding Options to Consider
Where will the money come from to start your business? There are many alternatives, and they all require careful planning. These are some of the first funding options you should consider.
1. Your Savings Account
The best place to go for initial start-up capital is your own savings account. One suggestion: Put fifty percent of your savings into the company for initial start-up expenses. While this may make you a bit nervous, it is by far the cheapest way to start, and it will demonstrate to others that you have faith in your project. In addition to the blood, sweat, and tears that you’ll put into your business, you have to be willing to invest your own money, too! After all, if you don’t have confidence in your project, why should anyone else? Small business is risky, especially during the first several years. If you don’t have enough money in your savings account, there are other options.
2. Credit Cards
Many businesses that need working capital use credit cards. These cards would be personal lines of credit that you have previously established, and you would give a personal guarantee.
You can increase your credit lines if you don’t miss payments, and if you pay at least the minimum on time. You can sometimes take advantage of special promotions to get a favorable rate. Some cards offer a low interest rate—at or below the U.S. Prime rate—for six months. Then the rate moves up considerably, sometimes to as high as twenty-one percent. But those six months at U.S. Prime are at a better rate than any lender will offer a new or expanding company. Use the card for the six-month period, pay it off, and move on. If you need to find some offers, watch your mail for solicitations, check the Internet, or look in business magazines for credit-card fliers.
3. 401(k) or Keogh Retirement Plan
If you have left a position and have a retirement plan through your old company, you may be able to borrow against it at some value. You are basically borrowing your own money, but the rates are usually reasonable.
If you borrow against your retirement plan, don’t take money out of the plan permanently. There are large penalties, and the taxes on the pullout are very severe. Taxes and penalties can wipe out a high percentage of your retirement plan’s value if you withdraw all of your money before you turn the required age.
4. Life Insurance
Your insurance policy may be another good option, especially if you have a whole life policy with a sizeable cash surrender value. Call your insurance agent for the details of your policy. Every policy is a bit different, but you may be able to withdraw the majority of your cash for a good rate with no underwriting.
5. Second Mortgage Line of Credit
If you own a home, you may be able to get a second mortgage and use the money for your business. Some lenders will offer the line of credit only for a specific use; however, many larger lenders will offer a checking account type of credit line for business usage.
The interest rates on the loan can be excellent—much lower than credit card debt or unsecured lines of credit. Lenders usually price the loan at or below U.S. Prime, because they have the security of your home as collateral. In addition, your payment is usually interest-only. One word of caution: you must repay the loan in full before you can sell your home.
Some of the larger lenders now process applications for a second mortgage line of credit on the Internet. The lender calculates the average housing values in your area and then reviews your current income, credit history, tax returns, and the size of your current mortgage compared to the value of the home. All the information is entered into a loan matrix to determine whether you can get a second mortgage using your house as collateral.
6. Mortgage-Free Home
If you don’t have a mortgage on your home, you can obtain a line of credit for your new business by using your home as collateral. Once you are approved for the loan, you can write checks against a specific, predetermined amount that is secured by a lien on your home. This is an excellent way to use just the funds you need, when you need them.
7. Pawn Shop
Don’t turn up your nose right away, especially if your personal credit is lousy. Pawnshops may be a bit out of the ordinary for funding the next “mega” company, but everybody starts somewhere. If you have an old stereo system, camera, electronic components, or jewelry, and you need $1,000 for a new company computer, consider visiting the local pawnshop.
8. Your Toys
Small business is demanding. When you are starting out on your own, you need cash. Get rid of the “toys” you may have accumulated over the years. Do you have a nice Harley, jets skis, a boat, snow skis, or a hot tub you haven’t used in years? Plan ahead and get as much as you can by selling the item in the appropriate season. Think of your toys as cash, and sell them!
Friends and Family
Approximately sixty percent of all companies start with financial help from friends and family. This is the number one place to look for your capital needs, and it can be a focus for your early requirements. Some of the wealthiest people in the world got to where they are today, because they started a small company with a loan from a relative. Few people will be as understanding of your business ideas and goals than dear old mom and dad. Maybe your in-laws, brother, or close friend will have an interest in your business.
You may be surprised at the entrepreneurs in your circle. They may be small business people or have extensive business experience, and may be willing—even eager—to offer their expertise and their capital for investment. You may find that your family or friends are willing not only to lend you money but also to contribute to your company in other positive ways. Small business people as a whole are risk-takers, and if a friend or family member sees an opportunity to both mentor you and make a good investment, it is a perfect match.
There is another advantage. A loan from family or friends may actually save you money, since they are more likely to offer you favorable terms and waive points, up-front fees, closing costs, and appraisals. Family and friends are also less likely to request the kind of extensive documentation you need when starting a new business—like underwriting, tax returns, personal financial statements, or credit reports.
Your resources and those of your family and friends may not be enough. In that case, you can go to a professional lender—a bank, corporate finance company, savings and loan, or leasing company. Many vendors or suppliers have their own in-house financing programs. You may also be able to secure funding from a government agency, such as the Small Business Administration (SBA). For more information on SBA loans, refer to this article’s sidebar.
Most small business owners, in fact, get loans from professional lenders at one time or another. You must convince the lending institution that you are an acceptable risk by being well organized and properly prepared. You should have a good business plan. A certain amount of documentation and paperwork is also necessary in the loan application process. It is your responsibility to supply all of the necessary information, to complete all the forms clearly and completely, and to meet any deadlines required by the financial intuition. HBM