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How to find financing for your business

Learn about the pros and cons of various sources of funding for your start up

Summary:

Whenever I’m at a party, entrepreneurs seem to find me. Once they find out I work for Register.com, they start telling me about their business idea. The next thing I know, they want my advice on where they can find the money they need to start their company.


Whenever I’m at a party, entrepreneurs seem to find me. Once they find out I work for Register.com, they start telling me about their business idea. The next thing I know, they want my advice on where they can find the money they need to start their company.

I think many entrepreneurs jump too fast to the fundraising stage, so I usually ask them to consider a few items before they start this process. Those questions include:

  • How long can you live off your savings? I had a friend who started a small business with a decent amount in the bank. But he didn’t realize it would be eight months with no dollars coming in at the beginning, and soon he was panicked. Many startups aren’t able to borrow enough to cover their expenses in the initial months, just enough to operate the business.
  • How in debt are you willing to go? This is a vital question to answer. Know your comfort level with being in debt, and how that squares with how much money it will take to start the business you have in mind. Some people might say, “I’m only willing to do $100,000.” If so, what will you do if the business turns out to require more funding?
  • Have you estimated how much money you’ll really need? Many new business owners plunge ahead without a clear sense of how much money they will need. They end up having to raise money repeatedly during their startup period, exhausting their energy and risking the business’s future if they’re unsuccesful in finding subsequent loans.

Once you have a clear idea of your appetite for debt and the amount you’ll need to raise, it’s time to consider your possible funding sources.

Sources of funding

Your retirement accounts. I’m not personally in favor of taking money out of your 401(k) account, but it’s something to think about. Under some circumstances, you can borrow this money out and repay it without penalty – consult a good tax professional to make sure the way you’re doing it is best from a tax perspective. Advantages of this method: It’s fast, little paperwork is required, nobody asks you how you plan to use the money, and rates can be low.

Liquidate assets. If you own a boat, vacation home, appreciated stock or other assets you could liquidate, consider using them to fund the business. Your business won’t be burdened by interest payments if you can find the cash to start it from your own assets.

Friends and family. Often, a loan source may be close to hand – not just your family members and personal friends, but the people within their extended network. To give everyone a clear understanding of the loan terms and avoid bad feelings, write a contract and then carefully track payments – Web sites such as Virgin Money and ZimpleMoney make it easy to do online.

Peer loans. If your personal network fails you, try a peer-to-peer lending site such as Prosper.com or Zopa.com. Peer sites check your credit, assign you a credit rating, and then let you make your case to their large networks of individual lenders. If enough lenders contribute to your loan to fund it, the site packages and administers the loan. Loans can take as little as two or three weeks to obtain here. On the downside, interest rates will likely be fairly high.

Microloans. If you need an amount under $35,000, consider a microfinance lender such as Kiva.org or Accion. They fund a lot of one-person businesses, and rates are usually fairly reasonable. On the downside, they may want to disburse the money in stages, not all at once.

Revolving line of credit. Rather than getting a loan with a set term and interest rate, it’s sometimes easier to get a bank to give you a revolving line of credit. With this loan type, as you pay back money it becomes available for borrowing again.

SBA-guaranteed bank loans. Many new businesses get funding through bank loans guaranteed by the Small Business Administration. If you plan to approach bank loan officers, come prepared. Write a business plan and bring materials you need to illustrate your concept. Whether it’s a PowerPoint presentation, a mock-up, or maybe a software demonstration, come prepared to demonstrate your idea to bankers. People think if they have good credit they can show up at the bank and get a business loan, but that isn’t the case. Banks need to know it’s a real idea that can become a viable business.

Also know what the SBA guarantee means – it helps the lending bank if you don’t repay the loan. It is not a guarantee that the SBA will cover your loan obligation if your business doesn’t succeed.



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