Small Business Financing: All Options For Your Startup [Including The Weird Ones]

Katie Horne
Last Updated on October 22, 2020
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As a small business owner, you know that it takes money to earn money. But what are your financing options for solving cash flow problems, obtaining inventory, or expanding?

Thanks to the post-recession growth of fintech platforms and online lending, there are now more options than ever. But which options are a good fit for you?

What Are the Best Business Financing Options?

Knowing which options are best for you will depend on the goal you’re trying to achieve with financing.

Common uses of business credit are to:

  • Obtain working capital for short-term needs (such as inventory)
  • Fund long-term growth projects (e.g. purchasing a second location, hiring more staff)
  • Fund acquisitions (e.g., commercial real estate or other businesses)

Funding Solutions

Apart from cash, which most businesses don’t have enough of to fund long-term projects, there are two main sources of funding.

Equity Financing

Selling part of your business to investors in exchange for capital is a good solution for startups and early-stage businesses that haven’t been in business long enough to qualify for business credit (debt financing).

It’s also a good solution for risky and long-term ventures.

A downside is you’ll be giving up part of your ownership (and control) over the business. In addition, there will likely be additional reporting that’s required.

Equity financing is considered to be more expensive than debt financing.

Debt Financing

Debt financing (also called business credit) is the borrowing of a fixed sum that is then paid back with interest.

Cheaper than equity, it comes with regular payment obligations that include interest, principal, and/or fees. The interest is tax-deductible.

If a business has difficulty repaying its debt, it risks insolvency.

Source / Type of fundingGood for:
Equity financingStartups or long-term, high-risk ventures
Traditional debt financingEstablished businesses with stable revenue and good credit
Alternative debt financingBusinesses that want fast funding, that don't qualify for bank loans, or that want little-to-no asset verification.

Qualification Factors

The right option for you will partly depend on the current status of your business including how long you’ve been in business and your average monthly revenue.

The good news is there are a variety of qualification options beyond the traditional credit check.

Some options require a robust business credit history, while others rely on your revenue, time in business, or even your B2B customers’ creditworthiness.

In addition, there are targeted options that serve special niches, such as minority-owned or veteran-owned businesses or those pursuing innovation in technology and science.

In the end, the best financing options are those which you qualify for and can afford.

Traditional Financing Options

Traditional financing options include bank loans, government programs, and grants.

Wells Fargo bank

Bank Loans

For: established businesses that have good credit and stable revenue

To get a small business loan, you will need to meet minimum criteria related to personal credit scores, business credit scores, annual revenue, and the number of years in business.

  • Many banks offer small business loans, and they are usually term loans. Term loans (also called installment loans) provide you with a lump sum. You then repay this loan over a fixed amount of time using a set payment schedule. Interest is paid back along with the principal.
  • Banks also offer what they call business lines of credit. With a line of credit, you receive access to a set amount of funds, which you can draw from at any time. As you repay what you spend, your line of credit gets “refilled” to its original amount. You are charged interest only on the amount that you draw from your line of credit.
  • Equipment financing works in a similar way to car financing. You can choose to purchase your equipment via financing or lease it. Equipment loans may require a downpayment. In some instances, you may be qualified for 100% financing.

The Pros and Cons of Bank Loans

Banks are known for their low-interest rate loans. It’s typically harder to qualify for these loans than for those from online lenders. And the application and approval process is usually longer.

The APR for a small business loan from a major national bank ranges from approximately 2.24% to 4.77%. Rates from small regional banks only slightly higher at 2.86% to 5.43%.

This is some of the cheapest financing available to small business owners. Local banks cultivate long-term relationships with their business clients.

If you are getting an equipment loan, you might have an easier time qualifying. This is primarily because of the equipment that you are purchasing acts as collateral for your loan.

A study by Harvard Business School indicates that 48% of small business owners fund their companies via commercial bank loans and 34% do so via regional or community bank loans.

  • Loan amounts: Variable
  • Loan terms: Variable, but typically 3-10 years
  • Interest rates: Averages range from 2.24% to 5.43%

Government Programs

For: small businesses, typically those that meet stringent requirements.

Though bank loans may be the most cost-effective option, they are not an option for a lot of small business owners due to their stringent lending requirements.

To help minimize the gap between those who would like financing and the private parties who are offering fewer loans than demanded by the market, the government offers programs that grant financial support to select small businesses.


government loans
At GovLoans.gov you can browse loans by category.

These loans are guaranteed by the government, which makes such lending less risky from the perspective of the bank.

  • Loan amounts: Up to approximately $2 million
  • Loan terms: 7-25 years
  • Interest rates: Typically a couple of points above prime (e.g., a 4.75% Market Prime Rate would yield a loan interest rate between 7.5% and 9%)

SBA Loans

One of the larger categories of governmental loans is SBA loans. The SBA (U.S. Small Business Administration) offers a variety of loan programs, including those for general use, disaster recovery, equipment, and real estate.

There are a variety of lenders offering SBA loans, which are backed by the government. Nevertheless, you get rates and fees comparable to traditional lender options.

  • Loan amounts: $5 million max (average is $425,000)
  • Loan terms: up to 25 years, depending on the use of the money
  • Interest rates: Rates depend on the type of loan and length of the term. Some 7(a) loans start at Prime + 2.75%,

Finding a Government-Backed Loan

  • If you run a rural business, you can apply for a loan backed by the U.S. Department of Agriculture’s Rural Development program
  • GovLoans allows you to search for loans by type
  • The U.S. Department of the Treasury has a map of lending institutions participating in the Small Business Lending Fund program
  • USA.gov offers a searchable database of state- or territory-specific resources for financing your business.

Government Grants

For: small businesses engaged in activities like scientific or medical research,  conservation efforts, or other activities contributing to the public good

Currently, the government does not offer grants for:

  • Starting a business
  • Paying off debt, or
  • Covering operational expenses.

However, as always, there are exceptions. One such program is the Small Business Innovation Research (SBIR) program, administered by the Small Business Administration.

As its title suggests, the goal of this program is to foster innovation in science and technology.

  • Grant amounts: Variable
  • Grant terms: Variable
  • Interest rates: None. Grants do not have to be repaid.

Non-Governmental Grants

For: businesses who fit the niche requirements set by NGOs

Because grants are essentially free money, they are difficult to get due to the high competition.

Here are some places to start your non-government grant search:

Furthermore, most grants come with stringent guidelines on what and how you can spend the grant money.

  • Grant amounts: Variable
  • Grant terms: Variable
  • Interest rates: None. Grants do not have to be repaid.

Investment Capital

For: small businesses who would otherwise not qualify for capital from traditional sources (e.g., banks).

The Small Business Administration runs the Small Business Investment Capital (SBIC) program, which partners with private equity fund managers.

The program provides these managers access to low-cost, government-guaranteed capital to make investments in U.S. small businesses.

The SBA does not provide capital directly to small businesses, but you, as a small business owner, can partner with private investors for business-related funding.

  • Grant amounts: Variable
  • Grant terms: Variable
  • Interest rates: Variable and based on previously-agreed upon terms

Alternative Options for Funding

The internet is disrupting many industries, and banking is no exception. In addition to the traditional methods of financing a small business we mentioned above, there are many online options available to you.

Nonbank Online Lenders

For: small business owners who need immediate financing, who don’t qualify for bank loans, or who want a financing product — such as invoice factoring — that’s not offered by banks.

Online lenders (sometimes called alternative lenders) provide many financing products, such as loans, invoice factoring, or business lines of credit.

So, how do online lenders differ from traditional banks?

  • Online lenders typically have streamlined application processes and fast approval times.
  • With some products, such as merchant cash advances or invoice factoring, it may be possible to receive funds within 24 hours of applying or even on the same day.
  • Some online lenders (not all) have less stringent requirements when it comes to personal or business (Paydex) credit scores, amount of time in business, and your revenue.
  • The catch is higher interest rates and/or fees — generally speaking. Interest rates for financing products from online lenders can vary from approximately 5.49% – up to 70+%.

However, realize that your interest rate is going to depend on multiple factors, such as your credit score, time in business, average monthly revenue, and the amount of debt you’re currently carrying.

To judge the value of an offer, it’s important to consider other factors such as repayment terms and the total amount being offered.

Fees

Note that online lenders may also have origination fees or other fees in addition to the interest rate. Also, SBA loans obtained from online lenders are an exception to the higher-rate rule.

Specialty Financing

Some products offered by online lenders simply are not available from banks. These include invoice factoring and invoice financing, and merchant cash advances.

A Variety of Qualification Options

Online lenders provide a greater variety of qualification options.

For example, it may be possible to get online financing if:

  • Your business has been in operation for less than 2 years
  • Revenue is low, spotty, or fluctuates seasonally
  • You’ve had a previous bankruptcy
  • You have poor credit or no credit.

You can generally assume that the laxer the requirements for loan approval, the higher your interest rate will be.

  • Loan amounts: Variable
  • Loan terms: Variable; some require repayment in just a few months, while others offer long-term repayment options
  • Interest rates: Wide range: 5.49% – 70%

Microloans

For: a small business that needs working capital in amounts under $50,000

Microloans are small loans, typically around $5,000 to $10,000.  These are usually geared toward businesses that have staffing, working capital, inventory, or equipment needs.

Microloans, when launched in the mid-2000s, typically focused on under-represented or disadvantaged groups, such as women-owned or minority-owned businesses or those established in developing countries.

There are many online sources for microloans and the SBA has its own microloan program.

  • Loan amounts: The average microloan is for $13,000 but they can range up to $50,000
  • Loan terms: Variable
  • Interest rates: Variable

Angel Investors and Venture Capitalists

For: startups and established firms on a growth trajectory

Angel investors are individuals who invest their own money in a new business in exchange for partial ownership. They typically invest in businesses that would otherwise be overlooked by traditional investors.

Venture capitalists use pooled resources to invest in companies poised for rapid growth.

Unlike many other financial products, the specific terms are highly variable. What you get from an angel investor or venture capitalist is subject to discussions between you and the investors.

P2P Lending

For: those in need of funding, who’ve exhausted traditional financing options, yet have good credit and a track record of business performance.

With peer-to-peer (P2P) lending, the middleman (the bank) is eliminated and you borrow funds from other people.

In this model, there is a platform that facilitates that matches you with funders.

By eliminating the bank in the middle, the lenders can earn a greater return on their investment.

Keep in mind that those who offer such loans tend to be on the risk-averse side, so if you have a weaker credit history, this might not be an option for you.

  • Loan amounts: Variable
  • Loan terms: Variable, but typically no more than  a few hundred or thousand dollars
  • Interest rates: Variable, but you can expect this to be slightly more expensive than other loan options due to the risk factors

Crowdfunding

Kickstarter

For: those who think that some type of fundraising would be helpful in getting your business off the ground

Crowdfunding is the act of raising capital from your peers (or a general group of people on the internet). There are basically four methods of crowdfunding:

  • Debt-based: this is essentially P2P lending
  • Charity-based: you receive money from your investors, and they are promised nothing in return (though you may send a token of thanks at a later point in time)
  • Rewards-based: you “payback” investors with something other than the money they have invested in your business, such as a product or subscription. (A lot of projects backed on Kickstarter fall under this model, especially those where you invest in the future production of a physical good.)
  • Equity-based: your investors receive a share of your company in return for their money.

There are many platforms for facilitating crowdfunding and depending on the option you choose, you may have to pay a portion of the funds you raise to the platform you use.

  • Financing amounts: Variable
  • Financing terms: Variable
  • Interest rates: Variable, but depending on the type of crowdfunding, you may not have to make any repayment

Personal Loan Options

For: those who have little business credit history but solid personal credit history

If you can’t get a small business loan from a bank, consider getting a personal loan and using the funds for business-related expenses.

Your eligibility (as well as the interest rate you receive) for such loans is dependent on your personal credit history, and you can expect to receive a loan amount smaller than what you would get for a specific small business loan — they typically do not exceed $50,000.

If you need a smaller amount (such as $10,000 or less), you might consider using a personal credit card for your business’ expenses.

While the interest rates on your purchases are significantly higher than what you’d see with a personal or small business loan, this is certainly an option if you’re in a pinch and you need to stay cash-flow positive.

  • Financing amounts: Variable
  • Financing terms: Typically at least $1000, but no more than $50,000
  • Interest rates: Variable, but depending on the type of crowdfunding, you may not have to make any repayments

Invoice Factoring

For: Businesses who want to use their outstanding invoices as a source of funding

Invoice factoring is the practice of selling your invoices, at a discount, to factoring companies in exchange for cash. The factoring company, in addition to the gains it gets when the invoices are paid, will hold a reserve of 5% – 30% of the value of the invoices to guard against risk.

Any fees (called the discount rate) for factoring, chargebacks from credit cards, or refunds, will come out of this reserve. If you’re a B2B business, you might consider invoice factoring to maintain consistent cash flow.

Obviously, for this option to be viable, you must regularly be selling on 30-, 60- or 90-day terms. This option may be available to those with damaged credit.

This is because factoring companies are more concerned with your customer’s ability to pay their invoices than your ability to meet your obligations.

Invoice Financing

Invoice financing is a closely-related alternative to invoice factoring. However, rather than selling off your invoices, you get financing that pays you for your outstanding invoices right away in exchange for some predetermined fee.

You’re essentially using your invoices to secure a line of credit.

  • Financing amounts: Variable
  • Financing terms: Variable based on how much you’re factoring and when your invoice is due
  • Interest rates: Variable based on the terms you agree to with the factoring/financing company

Bootstrapping Variants

PayPal Working Capital

For: those who don’t have the best or most extensive credit history and want to make alternative arrangements to pay back their loans

One alternative to bootstrapping (which is where you fund your business solely from incoming revenue) is to use programs like PayPal’s Working Capital.

This service is based on your PayPal sales history and allows you to repay your loans using a share of your future sales. So it’s somewhat similar to a merchant cash advance (MCA).

You’ll need sales of at least $15,000/year to qualify. No credit check is done.

  • Loan amounts: Up to 35% or your total annual sales or $200,000 max for your first loan
  • Loan terms: Variable
  • Interest rates: Variable

Social Finance

For: anyone in a field that is served by a social financing company

In addition to effecting change by offering capital to businesses, social finance companies strive to improve their communities. These practices are sometimes referred to as venture philanthropy.

If you have a business that occupies a unique segment of the economy, you might just be a fit for social financing (though more traditional businesses can and do receive loans and such from such companies).

  • Loan amounts: Variable
  • Loan terms: Variable
  • Interest rates: Variable, but typically less than traditional options due to increased stringency in application requirements and lower overhead

Merchant Cash Advances

For: those who need funding quickly and don’t have the time or the background needed to obtain a cheaper source of funding

You can think of merchant cash advances as the business equivalent of payday loans. The upside to these loans is that you can get the cash you need on very short notice.

The downside is that you’ll probably be charged a high rate of interest and have a short period of time before your loan is due to be repaid.

However, if you’re in a bind and you need a bit of cash to keep you going for a short period of time, this merchant cash advances are certainly an option.

  • Loan amounts: Variable (but typically in the realm of hundreds or thousands of dollars)
  • Loan terms: Variable, but the loan periods tend to be on the short side (e.g., months)
  • Interest rates: Variable, , but much higher than many of the options mentioned in this article

Further Resources

Summary

As a small business owner, you’ll need a steady influx of capital to keep your business going, but raising said capital isn’t the easiest thing to do, especially when you have so many other things you need to do to keep your business going.

This article covered many of the options available to you, so hopefully, you’ll be more confident in finding the necessary financial resources for your business.

Frequently Asked Questions

Here is a practical set of questions and answers related to small business financing.

How do you finance a small business?

You can finance your small business with personal savings, using a credit card, or borrowing funds from friends and family members. You can also seek out commercial or governmental loans geared toward small business owners. Depending on your industry, you might also consider acquiring investors.

What types of financing are available to small businesses?

Financing options that are available to small businesses include business credit cards, merchant cash advances, loans from the US Small Business Administration, and commercial products like small business loans and equipment financing. Small businesses can also launch crowdfunding campaigns or seek investment from individuals (who are sometimes called angel investors) or venture capital firms.

How do I get government funding for my business?

To get government funding for your business, you will need to work with a lender that offers small business loans. The banks are the ones who lend the money; the government is the entity that guarantees these loans, which means that the loans will be cheaper for you.

What government grants are available for small businesses?

The US federal government offers a variety of grants to small businesses that are engaged in scientific research and development or are nonprofit institutions. The US Small Business Association also offers alternative funding opportunities for veterans and specific groups. State and local governments, however, may offer grants to a broader array of businesses for the purposes of economic development.

How does crowdfunding work for business?

Crowdfunding is the practice of raising money by asking a large group of people to contribute a portion of what you need. Sometimes, all you’re asking for is a donation; other times, you are offering something in return to those who contribute (it could be something simple like a coffee mug or it could be as big as partial ownership of the company).

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