As main Street America continues to navigate the turbulent wake left by the 2008 financial crisis, no one has been more hard-hit than small businesses. With banks historically stringent in their lending to this sometimes higher risk but critically important economic sector, they have become even more so as banks remain reluctant and extremely watchful as to whom receives their loans. Banks are going to be very cautious in expanding any lending activities as the industry returns to profitability and issues of the recession linger on their balance sheets.
The majority of small businesses fail to receive the funds they need from traditional bank loans because the banks have been forced to guard their cash, look closely at a business owners credit score and raise the bar to often unattainable lending standards. According to a recent NFIB study, 90% of small businesses are worried about obtaining credit versus 10% a few years ago.
The biggest challenge for obtaining capital is often the small business owner’s credit score. Banks have come to substitute personal credit score for actually researching the financial health of an individual business. As a result of this, many healthy businesses are denied access to the capital they need to grow. Contrary to this formula, personal credit scores of the business owner is not an accurate indication of the health of a business. Running a business often requires taking on a certain amount of debt, as most is personally guaranteed by the business owner. The higher level of debt as well as utilization lowers a business owner’s personal credit score and thus his chance at getting a loan – regardless of how the business is doing.
Running a small business has its myriad of challenges in any industry and finding the much needed capital to grow, take on new opportunities, get through down seasons, or simply fix something creates a whole new set of unnecessary challenges. Your business needs the right financing at the right time in order to succeed and now is the time to get creative with finding sources of capital. You will also find that by choosing the right financing company and making smart credit decisions, you can get your business back on track for you to apply for a traditional bank loan.
No matter what funding option you purse, you will first want to prepare a few documents that show your business’s financial health of the business. The more information you can provide a potential lender, the better chance you have to prove that you are qualified to pay back the loan.
Beyond a traditional bank loan, there are a number of options for small businesses to access capital:
- Factoring – Factoring involves a business being advanced money based on their accounts receivable (invoices). The company providing the money (the factor) pays the business a percentage of the value of the receivable.
- Short Term Business Loans – Lenders such as On Deck Capital provide small business loans primarily based on the cash flow of a business rather than the credit score. Typical businesses taking these loans are Main Street businesses (auto repair, restaurants, doctors, etc.). The term is generally 6-18 months and the amount of capital is between $5,000 and $100,000. These are true business loans where repayment can improve the credit history of the owner – bringing them closer to a traditional bank loan.
- Merchant Cash Advance – With a merchant cash advance, a company receives a cash payment in exchange for a percentage of future credit card sales. The cash advance company for example may keep 25% of all credit card sales until the merchant has fully paid off the advance + interest & fees.
- Microfinancing – A growing number of groups (often associated with community groups or non-profits) provide microfinance loans to small businesses – the most well knows of these groups is Accion. These microfinance loans are typically $100,000 or less.
- Peer to Peer Lending – In recent years, several online services have launched that allow individuals to group together to fund both personal and business loans. Small business owners provide information about their business and the purpose of the loan, along with the rate they are willing to pay. Potential investors judge your business and credit history and decide if (and how much) they would like to provide towards your loan. If enough lenders are interested, your loan is funded.
- Credit Cards – Credit cards have long been a popular option for small business owners as they are convenient and accessible – though many businesses have seen their limits cut in recent years.
- Friend and Family – Your family and friends can be a good source of capital. They want to see you succeed in your endeavors and they may even charge you a very low interest rate. Be careful though and draw up a contract for the loan with repayment terms so you can report it to the IRS if need be.
- Angel Investors – There are approximately 250,000 high net-worth private investors in the US who fund over 30,000 small companies each year. While typically focused on start-ups, a portion does invest in Main Street type businesses. Growing networks of Angel Networks exist throughout the country, with some organizing regular “pitch” events, and others accepting online submissions.
Whatever option you choose, it is important to make sure that your business can afford it, and that you will be in better financial health as a result of taking the loan. Do your research on the options; plan how you will use the capital and work to improve your personal credit score so that next time you need capital you have all options available to you.