Table of Contents

  • Types of Small Business Funding
  • Alternatives Types of Small Business Funding
  • Sources of Funding for Small Businesses
  • Small Business Funding Options
  • How to Get Funding For Your Small Business
  • Small Business Funding: In Review

Throughout every phase of starting a business and growing your operations, there’s a need for small business funding to reach your goals.

That need can be hard to satisfy if you don’t know what types of small business financing are available or where to look.

To get the cash your business needs, we’ve answered these questions and more.

Types of Small Business Funding

There are 2 main types of small business funding: debt and equity financing. They are umbrella terms, and each has its own set of financing options within them. 

Debt Financing

Debt financing involves borrowing capital with a promise to repay the principal amount plus interest and fees over a set period. 

When a business owner reaches a debt financing agreement with a lender, strict terms and conditions are agreed upon that must be upheld by both parties. 

If the borrower violates the terms of the agreement or fails to repay the debt on time, the account goes into default. This can hurt a borrower’s credit score and can make it hard to acquire financing in the future. On the other hand, repaying on time can raise your credit score and show future lenders how well you handle debt.

Common choices for small business funding include business loans.

Small Business Loans

The most common form of debt financing used to get funding for a small business is a  loan. There are many different small business loans available from various sources, but each follows the debt financing formula of repaying a borrowed amount over a specified term.

Leases

Leases are a common debt financing tool used for fixed assets like commercial real estate and equipment. Leasing is like renting for a set period, much like you would for an apartment. 

For example, a construction business may wish to lease a brand new piece of heavy equipment for a year while it takes on big jobs. This machinery could be too expensive for the business to pay for outright, so they borrow the amount they need from a lender.

Advances

An advance is a way to get your money before you get it from your customers. This could be by way of unpaid invoices or even before you make a sale.

There are a couple of cash advance products (which we’ll get into later) that are becoming popular small business funding options for those with inconsistent cash flow. The speed and access provided by alternative lenders make advances an attractive option for many small business owners. 

Equity Financing

Equity financing includes any source of funding for small businesses that requires you to give up a portion of the company’s future profits. This means selling an interest in your company that can limit potential financial gains and even some control of your business.

While this loss of control isn’t a preferred way to fund a small business for some, it is sometimes the most appealing option. Equity financing offers a way to receive money without incurring debt, which is critical to companies across industries and in multiple stages of growth. 

For those seeking small business funding with bad credit, it could be the best of your limited options. Similarly, certain startups can benefit from equity financing due to the limited loan programs available to them. 

Crowdfunding

 

Since it doesn’t, by definition, include incurring debt or giving up equity, crowdfunding falls somewhere between the two types of small business financing.

 

Crowdfunding refers to the process by which an interested collective of parties contributes money (usually via an online platform like Kickstarter or IndieGoGo) to fundraise for a cause.

 

In exchange for their contribution, crowdfunders usually receive a small benefit, such as a prototype of the product or other exclusive items.

 

This is a popular source of funding for startups, nonprofits and businesses with an outside-the-box product or concept. These businesses have trouble securing other small business funding options, leading them to turn to their supporters for the money they need.

Alternatives Types of Small Business Funding

If neither debt or equity financing interests you at this time, there are other types of small business funding available.

They are, however, not an option for many. These options are better suited for startups and those in need of a small amount of capital.

Self-Funding

It’s not uncommon for entrepreneurs to self-fund their business ventures, especially in the early stages of its growth. 

This small business financing option involves the entrepreneur drawing on personal savings or debt (i.e., credit cards or a second mortgage), to fund the business without having to look for external capital.

If you don’t have access to private capital or debt to self-fund your business, you can sell off personal assets to bring in cash for your venture. For example, selling a boat or an additional property in the family can often generate enough capital to make a significant impact on a startup.

This isn’t an ideal option for most, but for some, it’s the only way to get their idea off the ground.

Bootstrapping

The process of “bootstrapping” refers to — you guessed it — the process of pulling one up from their bootstraps and getting the job done on their own. 

Whenever possible, it’s a good idea to bootstrap your company. However, that’s easier said than done. The benefit of bootstrapping is that it results in zero debt and won’t result in handing over any ownership stake in the company. The downside? It’s not plausible if you need money for equipment or other funding for small business startup costs. 

A bootstrapped business funds itself through its sales, continually reinvesting profits into the company to spur long-term growth. 

Business-to-business (B2B) and service industry companies are often better-suited for bootstrapping than seeking out investors because, in most cases, sales alone can sustain the operations and growth of these businesses.

Friends and Family

Many successful businesses get their funding through family and friends.

If you haven’t had luck securing a loan or finding an investor, (and you don’t have the means to finance your business yourself) it may be worth asking loved ones. Funding your small business this way can often limit your debt costs and let you keep full control.

Small business tip: While this method of financing a small business occasionally works, it can also cause unnecessary and unwanted tension between you and your loved ones. Make sure to assess whether it’s worth the risk for all parties involved.

Small Business Grants

Grants are sometimes issued to small business owners and entrepreneurs who come from a marginalized background (like women and minorities), or to those with a mission-based business model. 

There are many government and private groups that aim to help certain small businesses, but they’re hard to obtain. Since the money doesn’t come with additional debt or loss of control in the company, competition is fierce. The grant process is long, and there isn’t as much small business funding to go around as with other options.

If you qualify and receive grants, however, they offer the most benefits of any small business funding option out there.

Sources of Funding for Small Businesses

Depending on your business’s age, performance, industry and creditworthiness, there are a few sources of funding your small business can seek out.

Funding SourceProsCons
Banks– Low interest rates

– High lending amounts

– Difficult to obtain

– Long application process

Online Lenders– Lower minimum requirements

Fast small business loans

– Higher interest rates

– Shorter repayment terms

Investors– No debt incurred– Loss of control

 

Banks

Banks are a great place to get small business funding if you qualify. 

Their small business financing products boast low interest rates, high loan amounts and long repayment terms that can help you keep your monthly costs in check. 

Bank loan approval criteria, however, makes it difficult for many small businesses to qualify. Personal credit scores and annual revenues must be high to be considered. Your business’s age is also a factor. If you’re a startup or very young company, you’ll likely have to seek out other small business funding options.

Online Lenders

If you’re wondering how to finance a new venture or a small business with bad credit, online lenders can help. They have lower minimum requirements for approval than banks do, opening up accessibility to funding for more business owners.

Another positive is the speed in which you can obtain cash with online lenders. For certain financing products, you can get fast business funding in as little as 1 day. This makes online lenders a great option for businesses in search of funding for an immediate need.

Because of the risk of working with less qualified borrowers, these lenders will charge higher interest rates and shorten the repayment terms on their offerings. This can make payments too high for some.

Making pitch to investors for small business funding.

Investors

Most commonly, equity financing is provided by small business investors.

Generally, investors like to focus on providing funding for small business startups and early-stage businesses that they believe have high-growth potential. This way, they receive a more substantial financial stake in the company while the valuation is low. Getting in early increases their potential return on investment (ROI).

There are a few types of ways that investors help finance small business ventures, and their terms and conditions will vary.

Angel Investors

Angel investors are high-net-worth individuals who have cash available to invest in a small business in exchange for an ownership stake. Investment groups are usually composed of professional angel investors that pool their resources together to hedge against risk and to perform superior market research.

If your business is interested in seeking out the assistance of an angel investor, we recommend speaking with your local chamber of commerce or searching online for an investment group.

Venture Capital Firms

Venture capitalists (VCs) are firms and organizations that provide funding for small businesses in the early stages of growth. They typically seek to own a large share of the company’s equity. 

Business owners who want to retain a majority share of their company should think carefully before consulting a VC for funding.

Small Business Funding Options

For those in search of small business funding, there’s good news: you have options. Whether you’re looking to banks, the government or online funding for small business, you could have choices based on your creditworthiness.

Funding OptionBest For
Term LoansBusinesses with good credit history and a need for large amounts of funding
Short-term LoansBusinesses that need smaller amounts or don’t want long-term debt
SBA LoansThose denied loans by banks but are still looking for similar benefits
Business Line of CreditSeasonal businesses or those with revolving funding needs
Equipment FinancingAny business in need of replacing or upgrading equipment
Accounts Receivable FinancingBusinesses that face cash flow problems due to unpaid invoices
Merchant Cash Advance (MCA)Businesses with immediate working capital needs and those looking for funding without optimal credit

 

Term Loans

Term loans are what most people think about when they go out to get a small business loan. They involve taking out an amount of money from a lender who must be repaid over a set period of time, with interest.

You can receive term loans through banks or alternative lenders. The rates, repayment lengths and fees you’re approved for will be based on your creditworthiness and the lender you choose. 

Repayment terms are years in length, reaching up to 10 or 20 years depending on the use of the loan. It’s not uncommon for larger commercial real estate mortgages to approach 20 years.

Interest rates are lower for term loans than other small business financing options. Banks can offer rates between 4-6%, while alternative lenders will start around 7% for term loans.

Due to the structure and amounts borrowed for term loans, they’re difficult to obtain. They’re generally reserved for only the most qualified of borrowers.

Short-Term Loans

A short-term loan is basically a regular term loan, but —you guessed it — shortened. This makes it an option for businesses not quite able to obtain term loans, as well as those who just don’t want to have long-term debt hanging over them.

These loans are also available from both banks and alternative lenders. Bank rates will be slightly higher than term loans to offset the added risk, and the same goes for online lenders.

Generally, these loans are repaid between 3 months and 2 years. The shortened term means higher payments, often at a higher frequency (weekly or daily vs. monthly), but you’ll have added financial flexibility in the future.

SBA Loans

SBA loans are affordable business loans backed by the U.S. Small Business Administration (SBA). The SBA wants you and every other qualified entrepreneur to find affordable small business funding, so they guarantee a portion of a loan to make sure you get it.

Doing so allows banks and alternative lenders to take a chance with small businesses that wouldn’t usually meet their criteria, which is great news for many owners. Even better, SBA loans offer interest rates comparable to bank term loans, and interest rates and fees are capped to ensure funding stays affordable.

SBA loans aren’t easy to obtain, however. You still have to be highly qualified and go through a lengthy application process. If you qualify, they often are a preferred method of obtaining small business funding.

It’s also becoming increasingly popular to obtain these small business loans online through alternative lenders. Since the SBA caps the interest rate on these loans, you don’t have to worry about the increased costs often associated with online lenders.

Business Lines of Credit

Business lines of credit are a great option for those with revolving funding needs.

They’re a hybrid of 2 types of popular small business funding: credit cards and short-term loans. Like a credit card, you’re given a credit limit which allows you to draw funding when you need cash for your business. When the funds are withdrawn, you then pay the lender back with interest over a set term, like a loan.

Once the original balance of what was withdrawn is repaid, you’re free to take out more. This process makes a business line of credit a solution for businesses with a continuing need for funding.

Equipment Financing

If you need fast small business funding to replace or buy new machinery, furniture or more for your business, equipment financing could be the answer.

Equipment financing involves a business owner borrowing from a lender (either a bank or online lender) similarly to other small business loans. 

The difference is in how the loan is secured. Most small business loans require some collateral—whether it be money or assets owned by you or the business. With equipment financing, however, the equipment you’re purchasing acts as the collateral. 

This makes it easier to obtain equipment financing. The lender knows that in the worst-case scenario, they can repossess the equipment to recoup the money they’ve loaned.

Accounts Receivable Financing

Businesses seeking fast small business loans to fill gaps in cash flow due to unpaid invoices should consider accounts receivable financing.

This small business financing product involves the lender advancing you a portion of your unpaid invoices. Typically,  you receive up to 80% of the value of your invoices. When your customer pays their balance, the lender remits the remaining percentage to you. Until the balance is paid, fees accrue. 

This makes sense for small businesses that need fast business funding when they can’t wait for their customers to pay. It can get expensive, however, if your customers are likely to take a long time to pay. 

Merchant Cash Advance

Although it’s not a loan, a merchant cash advance is a viable debt financing option for many small businesses. Also called MCAs, this small business funding product aims to get you the money you need when you need it. 

Many small business owners seeking fast small business loans online are eventually drawn to MCAs for their accessibility and speed. It’s possible to receive funding through a merchant cash advance in as little as 1 day.

If you’re wondering how to finance a small business with bad credit, MCAs may be the best fit. Alternative lenders are willing to work with business owners that banks won’t due to low credit scores. Minimum requirements are much lower, meaning accessibility is much higher than other loans.

Merchant cash advances do typically cost more than other options, however. Your payback is calculated by a factor rate, not an interest rate. This means you must always pay back the full amount of interest the lender charges, even if you pay your balance off early.

How to Get Funding For Your Small Business

To get funding for your small business, you have to follow a few steps:

  1. Ask yourself: How much funding does your business need?
  2. Get your financial documents/ business plan in order
  3. Find the right source of funding
  4. Pitch your business

How Much Funding Does Your Business Need?

The first thing you need to do is find out how much funding your small business needs. Without this info, you may borrow too much and put yourself in unnecessary debt, or too little and not have the money you need to accomplish your goal.

Go over all of the numbers, including what you can contribute. After you find the right amount, you can move on to the next step.

Get Your Information Together

No matter which small business funding option you choose, you have to have all of your ducks in a row before approaching a financier or investor

Get together all pertinent financial information, including bank statements, tax returns and financial performance reports. These will be closely scrutinized by any lender, investor or even a friend or family member. 

You should also put together a detailed, well-thought-out business plan. This step is especially important for startups and other businesses seeking out investors. They’ll want to see proof that you have an actionable plan in place to give them a good return on their investment.

Choose your Funding Source

If you haven’t already, you need to choose one of the sources of funding we touched on earlier. Your decision should be based on your goals, their requirements and the current position of your business.

For example, business loan options are slim for young businesses. If you need funding for a small business startup, friends and family, investors or self-funding may be your best choices.

Alternatively, an older business looking to finance a large expense may be able to get the right amount through a loan. The creditworthiness of the business will determine whether banks or online lenders are the way to go.

Pitch Your Business/ Apply

Once you’ve chosen one of the ways to fund a small business, it’s time to secure the financing you need.

For investors and other equity financing sources, this means putting together a great pitch. Make sure to highlight the positives, but don’t hide obstacles. Failing to show potential hurdles that creep up later can sour a relationship with an investor, fast—especially if it’s a loved one.

If you apply for a loan, make sure to fill out the application clearly and accurately. Paint a full financial picture of your business, and make sure your goals for the money are clear. Work with your lender if they ask for more information. The key to getting fast small business loans is ensuring the lender has all of the information they need upfront. 

Small Business Funding: In Review

Finding small business funding doesn’t have to be tough. If you assess all of your options and determine what fits your business best, you can take a lot of the time and stress out of the process.

Once you’ve found the right fit, make sure to put your best foot forward. That means putting all of the information you can into a great pitch to investors and painting a complete picture of your business’s finances for lenders.

Now that you know about the different small business funding options and what they look for, it’s time to apply that knowledge into getting the money you need to reach your goals.