Do you have a business Idea and want to start a business that excites your imagination and fuels your passion? Starting a business is both scary and exciting, at the same time.
There are a lot of concerns regarding a model, layout, scale etc. However, the most challenging task before you will be to get the required capital to invest in business before your business starts generating significant revenue to take care of itself. In today’s competitive landscape, you need to act fast and be the early bird to get an edge over your competitors. The market will also not allow you to compromise on anything. This makes it a necessity to have sufficient capital with your business, to avoid getting pushed back or pushed out by the competitors. There are many ways through which you can raise this required capital. You can pump your own money as well as take help from friends and families. Crowd sourcing, is a relatively new way to raise capital for start-ups. You collect the required capital by taking contributions from a large group of people, especially from an online community You may also go find angel investors and venture capitalists who might be interested to invest capital in your business in exchange
The market will also not allow you to compromise on anything. This makes it a necessity to have sufficient capital with your business, to avoid getting pushed back or pushed out by the competitors. There are many ways through which you can raise this required capital. You can pump your own money as well as take help from friends and families. Crowdsourcing, is a relatively new way to raise capital for start-ups. You collect the required capital by taking contributions from a large group of people, especially from an online community You may also go find angel investors and venture capitalists who might be interested to invest capital in your business in exchange for equity shares. The most traditional way to raise capital for a business is getting a Small business loan from banks.
Why do we need loan for business?
Business loans provide the much needed capital for running your business. The best thing about raising this capital with business loan is that you do not have to give any partial ownership to some angel investor or venture capitalists. You do not need to share your profits as opposed to crowdsourcing. You will be in-charge to take business decisions as you see fit and no one else will be able to influence your decision; hence allowing you to steer your company according to your vision.
What are different types of business loan available in the market?
There are different types of business loans that are offered in the market but before we proceed to look at them in details, let us quickly look at a top-tier division of loans based on the requirement of collateral
- Secured Business Loans
- In this type of loan, entrepreneur puts some company or personal asset as collateral to get the working capital as loan.
- Unsecured Business Loans
- Here, no collateral is required and only credit-worthiness of applicant is considered for sanctioning the loan.
Now that we have established the top-tier loans, let us look at various business loan options and where do they stand in top-tier division of the loans
- Small Business Loans (SBA)
- These are loans to small businesses from private lenders that is backed by government. The funding is for 1-6 months. It is a secured loan i.e. collateral is required and has long term of payback (5-20 years).
- Accounts Receivables Factoring
- This has a very small funding period usually 1 month. A working capital loan is sought against collateral. Interest rate is high since this is a short-term loan.
- Merchant Cash Advance
- This is again a short-term secured loan. A loan up to $150,000 can be taken by merchants as advance against regular occurring monthly credit card sales.
- Start-up Loans
- This is a long term secured loans for start-ups from private sector lenders with funding period of 1 to 5 months. Interest rate is nominal ranging from 5 to 7.5%
- Franchise Start-up Loans
- This is specialized financing for starting a franchise of national recognition. It is similar to a start-up loan but it requires that 10-30% of the needed capital must come from the borrower.
- Business Acquisition Loans
- This is a short-term secured loan for acquiring an existing business. Funding period ranges from 1-9 months and interest rates are around 4.75-7.5%.
- Professional Loans
- It is a loan offered to some specific professionals such as lawyers, doctors, architects etc. This type of loan has low to moderate rate of interest and can be either structured or unstructured.
- Lines of Credit
- This is a pre-arranged amount of credit based on existing inventory. It can be either structured or unstructured with a small funding period of 1-2 months. Interest rates are usually high.
- Equipment Financing
- This is a loan for purchase of various equipments and these equipments are taken as collateral on the loan. Funding period is 1 to 3 months.
- Construction Financing
- This is a long term secured loan that is sanctioned for commercial constructions. Interest rate is moderate and payback period is very large usually 10 to 25 years.
- Purchase Order (P.O.) Financing
- This is a loan that is taken to complete one or more of the customer orders. It is a very fast and cost-effective way to raise money, if you need capital to deliver on customer orders you already have.
What are advantage and disadvantage of Business Loans?
It is not an easy decision to make when it comes to select the mode of raising capital for your business. You must be well-informed about the pros and cons of the various options that you have so that you can weigh them against each other and help you arrive at a decision. Let us quickly look at some major advantages and disadvantages of taking a bank loan for start-ups
Advantages of Loans for Small Business
There are many advantages of taking a business loan to fund the business that prompt entrepreneurs to approach different lending institutions for one of the various loans offered by them.
- Convenience and accessibility
- The familiarity with the working of credit institutes brings a sense of trust as well as convenience. Moreover, they are accessible almost all the time over phone and internet. The personalized services offered by these institutes make the whole process simpler and hassle free.
- Various Loan options
- All credit institutions offer various schemes to attract entrepreneurs setting up a new business or running an existing one. You can always discuss the various options available for you to your loan officer and choose the one that is best for you in terms of interest rate, term, and installments.
- If you go for angel investors or venture capitalists to fund your start-up then you would have to give away a part of the ownership to them in lieu of the capital they will be investing in your business. You may not be completely free to take business decisions according to your vision, in this case. Similarly, crowdsourcing the funds for your business will require you to share your profits. However, with business loans you need not bothered about these things as you will be the sole owner of your company.
- Lower interest rates
- Compared to some other options like credit cards, the business loan that you take from many lenders, especially banks, have a lower rate of interest.
- Tax benefits
- This is one of the brightest things that goes in favor of loans for small businesses as there are tax reliefs to small businesses. There is tax exemption on the percentage of profit that goes in repayment of the loan.
Disadvantages of Loans for Start-up
However, it is not all so smooth and laid-out too. Business loans for a start-up come with their own set of disadvantages. Let us look at some major disadvantages of business loans for start-up
- Time-taking application process
- The whole process of getting a loan sanctioned is very time-taking. There are a lot of credentials and details that need to be verified before the loan gets sanctioned. All these intermediate paper-works and their reviews, verification etc takes time.
- Sometimes, the amount of details that is asked in paper-works make the work very tedious and cumbersome. Moreover, from an entrepreneur’s view giving detailed information is unnecessary.
- Preference given to established businesses
- This is the biggest bottleneck faced by start-ups as compared to established and running businesses. Since banks can review the credit history of an existing business and gauge its profitability, they are more open to give loans to established businesses.
- Too many prerequisites
- Before a loan is sanctioned, there is a long list of prerequisites that need to be ticked to be able to qualify for a loan. Despite having a very good prospect of success and a neat credit history, most of the businesses lose out on getting a loan because they fail to meet all of these conditions.
- Risk of losing the Collateral
- Most of the loans sanctioned for start-ups and small businesses are against collateral, which may be the entrepreneur’s house or property. In case, the business does not take off as expected then the entrepreneur will lose the collateral.
- Complete amount not granted
- Banks and credit institutes often do not grant the entire amount that was requested for a loan. They grant about 70 to 80% only of the requested amount; thus leaving the entrepreneur to look at other options to find the remaining capital to start the business.
Based on the advantages and disadvantages mentioned here, an entrepreneur should decide for taking a business loan for his start-up.