Last week in the Freedom Friday blog and email newsletter we continued the series, “10 Steps to Starting a Small Business in 2022,” and we covered the seventh step, which is to apply for licenses and permits, if necessary.  In today's Freedom Friday blog and email newsletter, we're going to talk about the eighth step.  Once you have developed a business plan, gathered your team, chosen your entity, created your operating agreement or bylaws, applied for your EIN, opened at least one business bank account, and applied for any necessary licenses and permits, the eighth step is to find financing.

Many small business owners start their small businesses with six (6) months or more of cash savings.  However, even if you have several months of cash savings, you may need additional funds or financing to start your small business and keep it going.  In today's Freedom Friday blog and email newsletter, I want to share with you the Top Ten strategies in which you can find financing and funding for your small business:

1. Personal Assets

Personal assets have a major role in financing a small business, and can be used to either be borrowed against, or as collateral to secure a bank loan.  Collateral includes items that you personally own, but will not be used in your small business, e.g. cars, boats, jewelry, and stock.  These items could be used by your bank as security for a business loan.  Your bank might also ask you to provide a personal financial statement, including a summary of your assets and liabilities, personally.

2. Bank Loans

Bank loans are a popular way to fund small businesses, but they can be difficult to get.  Your bank will want to review your business plan and your personal financial information.  You should talk with at least three (3) different banks to get the best rate and terms for your small business.  Some banks may have loans with your industry competitors, or simply not make loans for certain industries they consider too risky, e.g. restaurants.  If your loan is too risky, or you don't have sufficient credit, equity, or collateral, you will likely be asked to provide a personal guarantee for your loan.  Also, the loan approval process can last anywhere from two weeks to six months, or longer, depending on the amount you wish to borrow, the complexity of your project, and your personal finances.

There are also two types of bank loans: conventional and guaranteed loans.  Conventional loans are loans made by the bank and secured by the collateral and promise by the borrower to pay the loan back.  Banks prefer to make these loans for startup costs and hard assets, e.g. buildings, equipment, and vehicles.  On the other hand, guaranteed loans are made by the bank, but they are guaranteed or backed by the federal government, usually by the Small Business Administration or the U.S. Department of Agriculture.  The SBA or USDA will guarantee that a certain percentage of the loan will be repaid if the business fails, and the borrower is not able to repay the loan.  While this can be helpful if a small business owner doesn't have enough credit, equity, or collateral, there is a longer approval process, higher interest rate, and additional fees over the life of the loan.

3. Revolving Loan Funds

Revolving loan funds, also known as micro loans, are shorter-term loans with smaller dollar amounts.  These loans typically range from $500 to $150,000 and have less strict requirements than traditional bank loans.  Revolving loan programs provide financing for small business owners who are not able to secure sufficient capital from banks.  These programs are usually offered by intermediaries, e.g. cities, local economic development agencies, and nonprofits.

4. Online Lenders

Online lenders are a great alternative for small business owners who do not have excellent credit, and some even offer loans with SBA guarantees.  These loans require less paperwork than traditional bank loans, and usually have an easier application process.  They also provide more flexibility with collateral, types of loans offered, and faster approval which may be instant or at most a few days.  Unfortunately, if you're approved for an online loan, you will pay more in interest and have a shorter term compared with a traditional bank loan.

5. Peer to Peer Lending

Another alternative for small business owners is peer to peer lending.  Peer to peer lending networks bypass the bank and directly connect borrowers with investors through an online marketplace.  Interest rates are determined by the borrower's credit score, but a great credit score is not required.

6. Business Credit Cards

Business credit cards are a great way to fund small businesses, and sometimes can have a 0% introductory interest rate for a short period of time.  Even though the credit will be given in the business's name, the small business owner's personal credit will be a major factor in getting the credit card.  In fact, many credit card companies, like American Express, requires the small business owner to sign a personal guarantee before issuing the credit card.  Any type of small business from a freelance sole proprietor to an LLC is eligible for a business credit card.

7. Retirement Accounts

Personal retirement accounts can be a source of funding a new small business if you're looking to avoid going into debt.  You can use your IRA or 401k to start a small business without paying taxes or penalties on these funds.  There are two ways to access retirement accounts for funding, and its best to consult with an accounting professional to help you accomplish this in the right way, because there is a wrong way to do this.  Many rules and regulations apply to using IRA retirement accounts.  So, one way to use a retirement account to fund your small business is through a self-directed IRA.  This is an account held with a company, like E-trade, but instead of investing the funds into stocks or bonds, the funds are invested in your small business.  However, there are rules and exceptions, and you can't pledge funds in the IRA as collateral for a loan; the investment is intended to be passive, so you can't participate in the daily management of the business; and you can't take a salary from the business if you invest in this way.

A better way to invest in retirement accounts are the Rollovers as Business Startups (ROBS).  This strategy allows you to use retirement accounts to fund your small business, but you must be involved in your small business as a bona fide employee.  ROBS plans also have additional requirements, including that you can pay yourself a “reasonable” salary, and funds from a ROBS account can be used as a down payment for a loan.

8. Customer Financing

A creative way to get funding to start your small business is through pre-selling your products or services to your customers.  When your small business is close to launch, you can ask your customers to pre-order your product or service before it is ready to sell.  There are risks to this approach, so make sure you have a solid plan to deliver the product or service on time, or otherwise your customers could become upset.  You might also consider giving your customers a discount for pre-ordering.

9. Seller Financing

If you're buying a business, seller financing can help reduce the amount of out-of-pocket cash a buyer needs to take over the business.  In this instance, the seller acts as a bank, and holds a portion of the loan.  There is likely additional debt financing being provided by a bank, and so the buyer will need to make payments to both the bank and the seller.  There are many ways to structure payments to the seller, including a percentage of the sales, monthly payments, and/or a balloon payment.

10. Friends and Family

Lastly, asking friends and family to invest in your small business is a great way to find financing.  You can either ask them for a personal loan or offer a percentage of your business.  You should still treat the transaction professionally and be careful here because borrowing from friends and family can cause resentment and loss of friendships.  You should show them your business plan, and any agreement and/or payment plan should be put in writing.

If you're interested in starting a small business in 2022, or you have any business law or business litigation needs anywhere in the State of Oklahoma, please contact me at [email protected] to schedule a FREE strategy session.

For more information about Liberty Legal Solutions, LLC, please visit our website at http://www.libertylegalok.com/