How to Finance A Business to Set It Up for The Greatest Success

Financing a business can be a complex and challenging process, but it's also a crucial aspect of turning your entrepreneurial dreams into a successful reality. Whether you're starting a new business or looking to expand an existing one, you'll need to secure the necessary funds to cover your startup costs, pay your bills, and invest in growth opportunities.

Key Points:

• Deciding how to finance a business is one of the first decisions you’ll have to make when you start a small business.
• Careful consideration should be given to each financing option, weighing both the pros and cons of each.
• There is no right or wrong answer for the funding you choose, each small business is unique and has distinct financial needs. 

15 Ways to Finance a Business

1. Personal Savings

One of the most common ways to finance a business is through personal savings. This involves using your own funds, whether it's money saved up over time, a bonus or inheritance, or the proceeds from the sale of a personal asset. Here are some pros and cons of using personal savings to finance your business:

Pros:

• No interest or repayment terms: Using personal savings means that you do not have to pay interest on borrowed funds or worry about making monthly payments.
• Complete control: You retain complete control over your business without having to share ownership with outside investors.
• No credit checks: Using your own funds means that you do not have to go through the hassle of applying for loans and undergoing credit checks.

Cons:

• Limited funds: Depending on the size of your personal savings, you may only have access to limited funds. This may not be enough to cover all the costs associated with starting or expanding a business.
• Personal risk: Using personal savings to finance a business puts your personal assets and financial security at risk if the business fails.
• Missed opportunities: By using your own funds, you may miss out on other investment opportunities that could provide better returns.

If you decide to use personal savings to finance your business, it is important to have a clear understanding of your personal financial situation and to carefully consider the risks involved. It may be wise to seek the advice of a financial advisor to ensure that you are making the right decision.

2. Personal or Business Credit Cards

Personal and business credit cards are two financing options that can be used to fund a business. Here are some pros and cons of each:

Personal Credit Cards:

Pros:

• Convenience: Personal credit cards can be used for a wide range of expenses and can be easily accessed through online banking and mobile apps.
• No collateral required: Personal credit cards do not require collateral, making it easier for new businesses with limited assets to obtain financing.
• Potential rewards: Some personal credit cards offer cashback or other rewards programs that can help offset business expenses.

Cons:

• High interest rates: Personal credit cards often have higher interest rates than other forms of financing, making it more expensive to carry a balance.
• Personal credit risk: Using personal credit cards to finance a business can negatively impact personal credit scores if payments are not made on time or if balances are high.
• Limited credit availability: Personal credit cards typically have lower credit limits than business credit cards, which may not be enough to cover all business expenses.

Business Credit Cards:

Pros:

• Separation of business and personal expenses: Business credit cards help separate business and personal expenses, making it easier to track expenses and manage cash flow.
• Higher credit limits: Business credit cards often have higher credit limits than personal credit cards, allowing businesses to access more funds.
• Potential rewards: Some business credit cards offer rewards programs tailored to business expenses, such as travel, office supplies, and advertising.

Cons:

• Personal liability: Small business owners are often personally liable for debts incurred on business credit cards, which can put personal assets at risk.
• Limited credit availability: New businesses or businesses with limited credit history may have difficulty obtaining a business credit card.
• Potential fees: Business credit cards may have annual fees, transaction fees, and other fees that can add up and increase the cost of financing.

When considering using credit cards to finance a business, it's important to compare different options and read the fine print to understand the terms and conditions of each card. It's also important to use credit cards responsibly and pay balances on time to avoid high interest rates and fees.

3. Funding from Retirement Accounts

Funding a business with retirement accounts is a financing option that involves using money from a 401(k) or individual retirement account (IRA) to start or invest in a business. Here are some pros and cons of using retirement accounts to fund a business:

Pros:

• Access to capital: Using retirement accounts allows business owners to access capital without incurring debt or giving up equity in their business.
• No credit checks: Since the money is your own, there are no credit checks or loan applications required.
• Potential tax benefits: Using a retirement account can provide tax benefits, such as deferring taxes on the funds until they are withdrawn.

Cons:

• Early withdrawal penalties: Withdrawing funds from a retirement account before age 59 1/2 may result in a 10% penalty, in addition to income taxes on the amount withdrawn.
• Risking retirement savings: Using retirement funds to start a business puts retirement savings at risk if the business fails.
• Limited funding: Depending on the amount of funds available in the retirement account, the amount available to invest in the business may be limited.

If you decide to use retirement funds to finance your business, it is important to understand the risks involved and to carefully consider the long-term impact on your retirement savings.

It is recommended to seek the advice of a financial advisor or tax professional to fully understand the implications of using retirement funds for business purposes.

Additionally, there are specific rules and regulations regarding the use of retirement funds for business purposes, so it's important to consult with a professional to ensure compliance with the law.

4. Investments from Family and Friends

Investments from family and friends can either be a form of debt financing or equity financing, depending on the terms your friends and family agree to. This is another option that might make sense for someone who doesn’t have any personal savings to contribute or access to a business credit card.

Your friends and family may be “easier” to work with and the terms of the agreement may be much less expensive than other financing options. The biggest downside is the personal relationship factor. 

If your business fails and you can’t pay the funds back, what does that mean for the future of the relationship? You have to decide if this is a risk you’re willing to take for a new business venture. 
5. Crowdfunding

Crowdfunding is an increasingly popular funding option, thanks to the internet making it easier and more accessible than ever.

With this concept, you conduct a capital campaign to raise money for your business. It can be with your friends, family, or through an online platform. This option is attractive because you don’t have to make monthly payments with interest, gives you greater exposure to a larger audience through fundraising, and it can validate your business idea.

Crowdfunding offers benefits to investors in one of three ways: they may receive a small portion of ownership, they may receive free products or services, they may simply donate to your campaign because they believe strongly enough in your concept.

6. SBA Loans

SBA loans are loans backed by the Small Business Administration. These are a form of debt financing, the terms are typically much less expensive than other funding sources.

The loans are targeted towards small businesses who meet certain criteria from the SBA (centered around revenue and number of employees) or are working with underserved communities.

The SBA does not provide the actual funding but instead has a list of approved lenders. There are several options available for this financing, making it even more appealing. While there is a large amount of paperwork involved and it can take several months to wait for funding, it’s a less expensive borrowing alternative.

7. Loans from Traditional Banks or Credit Unions

Most traditional banks and credit unions offer business loan options, which is what makes them a convenient option for owners. With so many choices, you can compare terms from one institution to another, and find one that fits both your needs and your budget.

These loans have their downsides though. They often require more stringent credit and business requirements, which means new small businesses will not likely qualify. If your business is more established and you have a proven track record, then a loan from a financial institution may be the best option.

8. Business Line of Credit

A business line of credit is a valuable funding option, especially for a business with inconsistent cash flow or you’re unsure when you will need to access funds. Often extended through a traditional bank or credit union, so the requirements are as strict for a line of credit as they are for a loan. 

If you’re a more established business, you can benefit from this form of credit because you access the funds immediately and only when you need it. The funds can be used for a variety of purposes, from payroll to purchasing and anything in between.

9. Term Loans from an Online Lender

Term loans from an online lender are a popular financing option for businesses that need to borrow a specific amount of money to cover expenses. These loans are typically repaid over a fixed period of time, usually between 1-5 years, with interest. Here are some pros and cons of using term loans from an online lender:

Pros:

• Fast funding: Online lenders typically have a faster application process than traditional banks, and funds can be deposited into your account within a few days.
• Flexible repayment terms: Term loans from online lenders typically offer flexible repayment terms that can be customized to fit your business's cash flow.
• No collateral required: Some online lenders offer unsecured loans, which do not require collateral, making it easier for businesses to access financing.

Cons:

• Higher interest rates: Online lenders often charge higher interest rates than traditional banks, which can increase the cost of borrowing.
• Shorter repayment terms: Compared to traditional bank loans, online lenders may offer shorter repayment terms, which can increase monthly payments and impact cash flow.
• Potential for hidden fees: Some online lenders may have hidden fees, such as application fees, prepayment penalties, or late fees, which can add to the cost of borrowing.

When considering term loans from an online lender, it is important to research different lenders and compare rates and terms. It is also important to read the fine print to understand the terms and conditions of the loan, including any fees or penalties.

Additionally, online lenders may require a minimum credit score or other qualifications, so it's important to understand the lender's requirements before applying.

10. Invoice Factoring

Invoice factoring is not a loan but does allow you convert unpaid invoices into short-term cash. The invoice factoring process involves a small business selling their unpaid invoices at a discounted rate, and in return, the business receives a lump sum payment.

The invoices sold are usually 30 to 90 days out. It’s a fast way to get money and the  approval process is typically easier versus a loan and without requiring collateral. Invoice factoring is also costly, with a high fee structure.

The lender will conduct the collection activity with your vendors or suppliers, which could damage a valuable business relationship. If your customer has bad credit or late payment history, it’s possible you won’t be approved for this option either. This option can work however, if you know you have cash flow coming in and already have customers established.

11. Merchant Cash Advances

Merchant cash advances (MCAs) are a financing option that involves receiving an upfront lump sum payment in exchange for a percentage of future credit card sales. Here are some pros and cons of using merchant cash advances for business financing:

Pros:

• Fast funding: MCAs can provide fast access to funds, often within a few days.
• No collateral required: MCAs are unsecured, meaning they do not require collateral, which can make them more accessible to businesses that don't have a lot of assets.
• Easy approval: MCAs often have more relaxed credit requirements than traditional loans, making them easier to obtain for businesses with poor credit.

Cons:

• High costs: MCAs often come with high fees and interest rates, which can make them more expensive than other financing options.
• Repayment terms: Repayment terms for MCAs are often structured as a percentage of future credit card sales, which can be difficult to manage if sales are unpredictable or decline.
• Lack of regulation: The MCA industry is largely unregulated, which means that there may be unscrupulous lenders offering unfavorable terms to unsuspecting borrowers.

When considering an MCA as a financing option, it is important to carefully read the terms and conditions of the agreement and understand the total cost of borrowing, including any fees or penalties.

It is also important to have a plan in place for managing cash flow and repaying the advance, as failure to do so can result in significant financial difficulties for the business.

12. Off-Balance Sheet Financing

Off-balance sheet financing can be either a form of debt or equity financing to raise capital. With this practice, the company raises more money than needed for a project, which means it will not show up as a liability on the company’s balance sheet and makes the company look healthier.

Since the funds are not reported on the balance sheet, it doesn’t impact the company’s debt-to-equity ratio, which makes a company more attractive to investors.

This is a riskier move because the company could be hiding losses and they might be at a credit risk. It keeps a company from showing its true financial condition.

13. Supplier Financing

If you are a manufacturer or distributor, you may be interested in a supplier financing option. This can help one of these companies pay their suppliers and improve their cash flow.

The process works by partnering with a company that acts as an intermediary between you and your suppliers. The company provides financing for your company to purchase the supplies to fulfill orders.

This type of financing is available to manufacturers or product distributors who have a minimum of at least $2 million in annual sales and have been in operations for at least a few years.

Your suppliers will never know about the third-party financing but the funds can only be used for raw materials, and not labor or other costs.

14. Angel Investors

An angel investor is a form of equity financing. It’s when private individuals or a small group of investors invest in a business in return for equity.

This may be a worthwhile option if you work with angel investors who can provide guidance for your type of business and work with you on a growth strategy.

The money doesn’t have to be paid back on a monthly basis with interest, such as with a loan, the expectation is the angel investors will receive their return when the end goal is met.

Common examples of this are if there is a company buyout or an eventual initial public offering (IPO).

Most angel investors are looking for companies with a three to five year plan for profit. 

15. Venture Capitalists

Companies and startups in the early stages of development may turn to venture capitalists for funding.

This option is a form of equity financing and the funds are provided in return for a stake in the company.

Venture capitalists only invest in companies with a high potential for growth but who may not qualify for traditional lending options.

Partnering with a venture capitalist company means gaining access to a network of experts plus your company can receive additional help with future fundraising activities.

VCs receive their return when a company is sold or taken public, so it’s as risky for them as an investor as it is for the business owners.

You often see VCs in the tech sector, since they target startups with high potential.

Steps to Financing a Business

Financing a business can be a complex process that requires careful planning and research. Here are some general steps to follow when financing a business:

• Determine your financing needs: Before seeking financing, it's important to determine how much money you need and what you need it for. Create a detailed business plan that outlines your funding needs, including startup costs, working capital, and ongoing expenses.
• Evaluate financing options: There are many different financing options available, including personal savings, loans, grants, and crowdfunding. Research each option and evaluate the pros and cons to determine which is the best fit for your business.
• Prepare your documents: Once you've decided on a financing option, prepare the necessary documents, such as a business plan, financial statements, tax returns, and any other supporting documents required by the lender.
• Apply for financing: Submit your application and supporting documents to the lender or funding source. Be prepared to answer questions and provide additional information as needed.
• Negotiate terms: If you are approved for financing, carefully review the terms and negotiate if necessary. Pay attention to interest rates, fees, repayment terms, and any other conditions of the financing.
• Receive funds and manage cash flow: Once the financing is approved and received, carefully manage your cash flow and use the funds as planned. Monitor your business's financial performance and adjust your plans as needed to ensure repayment of the financing.
  Repay the financing: Repay the financing according to the agreed-upon terms. Make payments on time and keep in communication with the lender or funding source to avoid any issues or penalties.

Financing a business requires careful planning and research to ensure that you choose the best option for your business's needs. It's important to evaluate your options and be prepared to negotiate terms and manage your finances carefully to ensure success.

Pros and Cons Of Financing Options

The first step in knowing how to finance a business is to get familiar with all of the funding options available.

Self-Financing

One of the first resources small business owners turn to for financing is themselves. Self-financing is using your own savings to fund a business, which is also referred to as “Bootstrapping.”  Within this category, the funds can come from various sources including money you’ve saved or possibly from a retirement fund.

• Pros: You won’t have to worry about making monthly payments with additional interest charges and fees. It gives you the opportunity to start your business without a larger debt burden, which is ideal if you’re concerned about cash flow in the beginning. Plus, you may be able to keep more profit for yourself.
• Cons:  With your personal savings on the line, if your business fails, then your money is gone too. Not to mention, you may not have enough money in savings to cover the cost of the business, which means you need additional financing.

Debt Financing

Debt financing is simply the concept of borrowing money to fund your business. You will agree to pay back the funds at a future date, with additional interest (and possibly added fees). Debt financing covers a wide range of options, which we’ll explore in more detail below. Examples include:

• Business term loans
• Business credit cards
• Small Business Administration (SBA) loans
• Business line of credit
• Invoice financing and factoring
• Merchant cash advance
• Borrow from friends and family
• Pros: First, you receive the funding without giving up control of your company (such as with equity financing). You can access the funds rather quickly, in some cases within the same business day, or it can simply be available when you need it. With some debt financing options, the interest payments are tax deductible. Lastly, as you make on-time payments to lenders each month, you’re building positive business credit.
• Cons: Your personal finances may be on the line. If you default on the loans, your business assets could be seized (if they were used as collateral), or your personal assets if you signed a personal guarantee. Adding debt to your business also adds financial strain.

This can be particularly challenging if your business has an inconsistent cash flow or is in the early stages of development. Plus, qualifying for a business loan or startup business credit card may be more difficult, and you’ll need strong credit scores and a significant amount of paperwork to obtain approval.

Equity Financing

Equity financing is when you are given funds, or capital, in exchange for a piece of ownership of your company. Unlike debt financing, equity financing does not require monthly installments or payback with interest and fees.

Since the investor now owns a piece of the company, it’s in their best interest to see the company succeed and the payback will ideally come in the form of profit.

• Pros: Equity financing could be a smart solution for a small business owner who wants to avoid debt. You won’t have to worry about monthly payments or collateral, which can lessen the financial strain of running a business. It’s also ideal if the business is not yet profitable and has inconsistent cash flow. If the equity financing involves someone familiar with the business, then you may have both an investor and a mentor to guide you during important decisions.
• Cons: Be aware of what equity financing means for your business. You are giving up a part of your ownership, which means you will need to involve the investors when making decisions that impact your business. If you give up ownership of more than 50%, then you’re no longer in control.

Mezzanine Capital

Mezzanine capital, also referred to as mezzanine debt or mezzanine money, is a hybrid of debt and equity financing. It gives the investor a higher return on their investment.

With this type of financing, the lender can convert the debt to equity ownership, in case the business owner defaults on the loan. This type of financing is generally only used with more established companies and is often used to expand the business through growth initiatives like acquisitions.

• Pros: For lenders, the higher rates of return with mezzanine capital are appealing. For business owners, this type of financing is less expensive overall than equity financing. The interest payments with these loans are typically tax deductible as a business expense.
• Cons: The interest rates for these loans are typically higher than other loans. You’re also giving up control of your company in some form. Plus, the negotiations for these loans are often long and tedious, taking several months to finalize, which means the funding will take longer.

How to Choose the Best Way to Finance a Business

One difficult part of financing a new business is finding the best solution that works for you and your company. Since each one has its advantages and disadvantages, it means you have to spend time researching and comparing options.

Pinpoint the Need for Funding

• The first step is to analyze what you need the funding for. Zero in on the exact need, such as:
• Cash flow shortage
• New equipment
• A large purchase
• An emergency 
• Seed money

These are only a few examples of why you need funding, but once you have the answer to this, it may eliminate some options and make other options more attractive. 

Analyze Each Funding Option for Your Company

Take a little time to go through each available option and weigh the pros and cons specifically for your company. You can reach out to experienced business owners or other resources and get a better understanding of what using personal savings, debt financing, or equity financing truly means for a business. 

Know Your Finances

This may seem obvious, but before you take on further debt or give up ownership, you need to have a firm and realistic grasp of how your company is performing. This is also an ideal time to pull your company documents together, such as tax documents, your business plan, and financial statements, in case you do decide to pursue a loan.

When examining your company’s finances, pinpoint what your company can take on each month for a payment, and what it can truly afford. There is likely no need to take on more debt than what’s needed.

How to Leverage Your Assets for Business Financing

If you're looking to secure financing for your business, one option to consider is leveraging your assets. This involves using the value of your existing assets, such as property, inventory, or accounts receivable, as collateral for a loan. Here are some steps to consider when leveraging your assets for business financing:

• Assess your assets: Take inventory of your assets and determine their value. This may include property, equipment, inventory, accounts receivable, or even intellectual property. Knowing the value of your assets can help you determine how much financing you can potentially secure.
• Research lenders: Look for lenders that specialize in asset-based loans. These lenders may be more willing to lend based on the value of your assets rather than your credit score or other factors. Be sure to carefully read the terms and conditions of any loan agreement before signing.
• Use caution: While leveraging your assets can be a good option for securing financing, it's important to be cautious. If you default on the loan, you risk losing your assets, which can be devastating for your business. Be sure to have a solid repayment plan in place and only borrow what you can realistically afford to repay.

Leveraging your assets can be a good option for securing financing for your business. However, it's important to carefully assess your assets, research lenders, and use caution when borrowing. By taking these steps, you can increase your chances of securing the financing you need to grow and succeed.

Small Business Financing for Women and Minority Entrepreneurs

Access to capital is a critical factor for small business success, but women and minority entrepreneurs often face additional challenges when it comes to securing financing.

According to a report by the National Women's Business Council, women-owned businesses receive only 16% of all small business loans, and minority-owned businesses are three times more likely to be denied loans than non-minority-owned businesses.

However, there are a variety of financing options available specifically for women and minority entrepreneurs.

One option to consider is small business grants, which are available through government agencies, non-profit organizations, and corporations. These grants provide funding without the requirement of repayment, making them an attractive option for entrepreneurs who may not have the credit or collateral to secure traditional loans.

Other financing options to consider include crowdfunding, microloans, and alternative lending sources that may have more flexible requirements than traditional lenders.

Additionally, some organizations offer mentorship and support specifically for women and minority entrepreneurs, which can help with networking and accessing resources to grow their businesses.

By exploring these options, women and minority entrepreneurs can increase their chances of securing the financing they need to succeed.

Final Words

In conclusion, financing a business can be a complex and challenging process, but there are a variety of options available to suit the needs of different entrepreneurs.

Whether you choose to leverage your personal savings, pursue a business loan, or explore alternative financing options, it's important to carefully consider your options and have a solid plan in place for repayment.

By taking the time to research your options and make informed decisions, you can increase your chances of securing the financing you need to grow and succeed.