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Deciding to start your own business isn’t a decision to be taken lightly or one that you decide upon like adding items to a grocery list (hopefully!). So it stands to reason that if you are ready to move forward with a business venture you’ve given a great deal of thought to the specific risks and benefits of ownership. Obviously one of the biggest details to deal with whether starting a business or operating one after 20-years is always money. If you’ll be building from the ground up, financing is of the utmost importance as the decisions you make can ultimately be a huge factor in whether you are successful or not, plus giving you a more solid-foundation to grow upon. Maybe you’ve just received a generous inheritance from Great-Aunt Hester and money will be no issue for you, but for the other 98% of entrepreneurs, it’s a huge source of anxiety. Let’s look at the ups and downs of the most viable options, which will help make it clear what will be the best decision for you and your business.
Personal Funds
This is perhaps the easiest source of money to deal with but the hardest to secure. If you’ve known for years that owning a business is your life-long goal then hopefully you’ve had the insight and ability to save towards its creation. This would obviously lend a huge helping hand towards the financial ability to start a business. If, however, you’ve only recently made this decision, you might not have a huge chunk of change lying around, or it might already be designated for a dream home or a college fund. If you’ll be starting slowly, as a weekend handyman, you can probably get by on your own money, even if it’s a little at a time, but if you plan to work exclusively at your trade then the cost of tools, vehicles, advertising materials, employees, insurance, and possibly an office can easily deplete even a pretty “padded” savings account.
If you do elect to use personal monies, keep in mind the need for cash flow and emergencies. While you are just beginning, chances are it might be a while before you have a steady source of income as you are trying to build up business and it takes a while for payments to be received, so make sure that you don’t totally deplete your day-to-day money, particularly if you also have to live off of it. It’s no fun to use every dime you have to keep a business afloat while the lights have been turned off at home or you can’t afford to send your child on a school field-trip. In case you haven’t already learned this in your personal life, owning your own business will be a great introduction into the reality that things will always go wrong, break, blow-up, or fall-thru at the most inopportune time. This is simply a fact of living and can’t be avoided, but it can be prepared for, so resist the urge to spend all of your cash up-front and make sure to leave some stashed for an “emergency fund.” Maybe you’ll be uninsured for a while and end up needing stitches, maybe your only nail gun falls off a roof, or maybe you get a little excited and dig through someone’s buried cables, the scenarios are endless but you can guarantee there will be unexpected and un-planned expenses so do yourself a favor and have a little cash to cover it.
Under the personal funds umbrella there is also the option to borrow from a private source, such as a parent, sibling, friend, or business partner. This is a great option to secure cash without the hassle of a bank and legal stipulations however it can be extremely risky to the health of the relationship. You’ve probably always heard that “money does funny things to people” and while you might have bummed lunch money from your brother or buddy a time or two, this would be more than a $10 loan. Carefully consider the ramifications of this situation if for some reason you cannot repay the money, or at least in the time or amounts expected. What would this do to your relationship? Would the insult to your pride be worse since it’s a personal acquaintance? How would that person handle the situation? Also, make sure you consider how secure their source of funding is or how trustworthy that person is in general. While many people use this option and it certainly can be a useful tool, just make sure you have carefully considered and thought through this before making any decisions you might come to regret. If you do decide to borrow from a personal source, draft a contract with an attorney or have an agreement notarized to make the terms you’ve decided upon legally binding and secure.
Business Credit Card
According to the commercials on TV, a business credit card is a guaranteed way to have business success and peace of mind, or at least that’s what they portray. While a business credit card can be very helpful it might also be the easiest way to get in over your head if you aren’t careful. As opposed to pulling money out of your bank account, which will continue to deplete and you’ll see the difference, it’s much easier to swipe a piece of plastic over and over throughout the course of a month, not realizing how much you are adding up to be due at once. Now if you are the type of person who uses a card and pays it off every month, then you could truly benefit from a business card, particularly if you shop for a rewards program. Depending on your needs, you could be earning towards a new vehicle, airline tickets, or simply cash back every time you buy a box of nails, which is a great way to maximize the benefit of a credit card. What the credit card companies are hoping, though, and the trap that so many fall into, is that you’ll be lured in by the promise of rewards and purchasing-power but then overextend yourself and be forced to pay in installments, which are penalized with extremely high interest rates. A credit card is a great tool to have on hand in an emergency situation where you can’t easily access cash or to give yourself a “cash advance” until the checks come in at the end of the month, but do proceed with caution as the interest rates are staggeringly high, sometimes 3xs the amount a traditional loan would charge. If you have problems managing your money or limiting spending, use extreme caution before taking this route.
Business Loan
Depending on the size of your business and the scope of start-up costs, this is a great option for someone looking to making the leap to fully self-employed. If you’ll need to purchase several thousand dollars of equipment, materials, or space, this is probably your best bet, although it will require a formal process to satisfy loan requirements. Most banks will want to see a business plan and documents to support your claims of why you deserve the money and how you plan to use it, so you’ll have to do more advance planning and paperwork. You will also have to be willing to answer a lot of questions about your financial standings and provide details about the things you owe and own. This isn’t always a very fun process, particularly if your financial snapshot is a little less than rosy or you’re recovering from a rough patch. Keep this in mind if you can afford to wait a few months to, say, improve your credit score or pay off outstanding debts, if you’re concerned about your ability to qualify for a loan. A bank loan is easier to manage though as you’ll have a specific amount due at a specific time for a specific duration, which makes budgeting easier for someone who struggles to do so. It is also a secured loan and insured by the bank, meaning that the funds can’t simply “disappear” as opposed to if you are borrowing from a personal acquaintance.
Many banks offer programs specifically for small-businesses and start-ups, understanding there is a special set of needs and challenges. There are also grants and federal programs that offer assistance to entrepreneurs with financing, counseling, and management. Research options that might be available to you on a local, state, and federal level. These would be great supplements in addition to any bank financing you might have or need.
Line of Credit
If you are already established in business but might have a huge purchase to make, are looking to expand, or have hit a rough patch, a line of credit is a good option for a little extra cash. Similar to a credit card in that you can “charge” what you need, it usually has a lower interest rate and might not be as enticing to “over-indulge” with. The major drawback with a line of credit is that banks generally will only extend these to lower risk businesses or individuals, meaning those with solid credit scores, an established payment history, or who have been in business long enough for the bank to assume they are secure. If you have an established history with a bank or a banker personally, they might be able to help you secure a line of credit even if you do have a few dings on the credit report. Once you have a line of credit, they also provide a sense of security for unexpected and emergency expenses as you might not have the thousands of dollars on hand needed to replace a costly piece of machinery, but would be able to purchase it through the line of credit and pay it off either in lump sum or at the monthly installment date.
My name is Jeff and I created this blog in 2007 to help and inspire contractors and home service providers. It’s come a long way since then.