This week in the Freedom Friday blog we're continuing the series the 10 Steps to Starting a Small Business in Oklahoma. If you missed the blog posts for the previous steps, I've provided links at the end of this blog post to help you catch up.
In today's Freedom Friday blog, we're going to cover the eighth step in starting a small business in Oklahoma, which is to find financing, or more importantly, the funding to start your small business, and keep your small business operational. Many small business owners will 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. I want to share with you the Top Ten strategies in which you can find financing and funds 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 may ask you to provide a personal financial statement, including a summary of your assets and liabilities, personally.
2. Bank Loans
Traditional 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 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, e.g. restaurants. If your loan is too risky, or you don't have sufficient credit, equity, or collateral, you might 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 financial condition.
There are two types of bank loans: conventional small business loans and guaranteed loans. Conventional small business loans are loans made by the bank and secured by the collateral and the promise by the borrower to pay the loan back. Banks prefer to make loans for start-up costs and hard assets, like buildings, equipment, and vehicles. It's more difficult to get funding for working capital expenses. On the other hand, guaranteed loans are backed by the federal government (either through the Small Business Administration or the U.S. Department of Agriculture). The SBA or USDA will guarantee to the bank that a certain percentage of the loan will be repaid if the business fails and the borrower is not able to repay the loan. This can be helpful if the borrower does not have sufficient credit, equity, or collateral. However, the guarantee of the federal government will have a longer approval process, and a 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 typically offered from intermediaries, such as cities, local economic development agencies, and non-profits.
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 requirements, types of loans offered, and faster approval which may be anywhere from instantly to at most a few days. Unfortunately, if you are approved for an online loan, you will pay more in interest and be given a shorter term than 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. Peer to peer loans can range in the amount of $35,000 to $40,000.
6. Business Credit Cards
Business credit cards are a fast way to fund small businesses, and sometimes can have a 0% introductory 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, will require 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 are looking to avoid going into debt. You can use your IRA or 401k to start a small business without paying taxes or penalty on these funds. There are two ways to access retirement accounts for funding, and it is best to consult with an accounting professional to help you accomplish this in the right way, as there is a wrong way to do this. Many rules and regulations apply to using IRA retirement accounts, and the IRS wants to ensure people use them properly. 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 some exceptions and rules you need to be aware of if you decide to invest with a self-directed IRA. You cannot pledge funds in the IRA as collateral for a loan; the investment is intended to be a passive one, so you cannot participate in the daily management of the business; and you cannot take a salary from the business if you make such an investment.
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 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 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 might be upset. You might also consider giving your customers a discount if they pre-order your product or service.
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 sales, monthly payments, and/or a balloon payment.
10. Friends & 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, even though these people are close. You should be careful here, too, 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've missed the blog posts for the previous steps, here are some links to get you started:
Step 1: Develop a Business Plan
Step 2: Gather Your Team
Step 3: Choose Your Business Entity
Step 4: Draft Your Operating Agreement or Bylaws
Step 5: Apply for an EIN
Step 6: Open Business Bank Accounts
Step 7: Apply for Licenses and Permits
If you're interested in starting a small business anywhere in Oklahoma, or if you have a small business and you are looking to grow, please feel free to contact me at [email protected]. For more information about Liberty Legal Solutions, LLC, please visit our website http://www.libertylegalok.com.