Whether your company needs startup capital or funds to grow and expand, the need to access affordable business financing is essential. One-third of businesses struggle or close their doors due to a lack of funding.
On a positive note, there are many ways to raise money for a business. Below, you will find an overview of the different types of small business funding available, along with 12 ways to raise money that you might want to consider.
The Main Two Types of Funding
There are two primary types of funding you can use when you’re raising money for a business: debt capital and equity capital. Either source of capital can provide your small business with much-needed cash to support startup efforts, day-to-day operations, and more.
Yet there are key differences between these funding solutions. So it’s important to understand how each option works before moving forward.
Debt Capital
Debt capital is money that your business borrows and must repay over time, typically with interest and sometimes fees. This way of raising money for a business is also known as debt financing.
There are many examples of debt capital that your business might be able to obtain. A traditional bank loan, business credit card, real estate loan, and business line of credit all fall within this category.
With debt financing, you don’t have to worry about giving up a portion of your business in exchange for capital. However, you should take care not to overextend your business with more debt than it can afford to repay.
You may also need good business credit and sometimes good personal credit to qualify for debt capital. So if you haven’t taken steps to establish a business credit file for your company yet, it’s wise to start this process ASAP.
Equity Capital
Equity capital is a way to raise money for your business without going into debt. Instead, the business capital that your company raises through equity financing comes from outside investors. In exchange for an investment, you typically sell a portion of your company.
There are several types of investors that may be willing to provide seed funding to support the right business idea in exchange for a partial ownership interest in your company. The key is getting your business idea in front of the right people.
You might want to search for an angel investor, venture capitalist, venture capital firm, or other equity financing providers. You could also consider working with business incubators to locate potential investors if you’re interested in pursuing this type of business funding solution.
12 Ways to Raise Money for a Business
Wondering how to raise money for a business? Here are 12 potential ideas to consider.
Angel Investors
If you’ve ever watched the show, Shark Tank, you might have an idea of what an angel investor looks like. An angel investor is typically a wealthy individual who uses their own money to invest in young businesses that show promising growth potential.
Angel investing is a type of equity financing. In exchange for the funds you receive, you must typically give up ownership interest in your company.
Depending on the agreement you negotiate, an angel investor may provide advice and business expertise on an as-needed basis too. Keep in mind that these investors might not always want to play an ongoing role in the management of the company.
Venture Capital
Venture capital is a type of equity financing that private investors provide in exchange for ownership interest. A VC firm may consist of numerous investors and a management team that look for potentially profitable business investment opportunities.
With a venture capital firm, the investors may also want a voice in managing the company. So, be sure you’re comfortable with the terms of the arrangement before you agree to this type of equity financing.
Microloans
A microloan is a smaller term loan that can help eligible businesses cover startup or expansion costs. According to the Small Business Administration (SBA), the average microloan size is around $13,000, but the loans can be as large as $50,000.
Microloans may be a good fit if your business model or non-profit organization doesn’t qualify for a traditional bank loan. For example, if you qualify as a disadvantaged or underserved entrepreneur and have a thin credit file, applying for a microloan might be helpful.
SBA Loans
Business loans backed by the U.S. Small Business Administration can be another smart way to approach raising business capital. SBA loans are available in varying amounts (often from $50,000 to $5 million) and may feature repayment terms of up to 25 years.
In addition to the potential for high loan amounts and generous repayment terms, SBA loans may have another perk. Many SBA loans feature competitive interest rates compared with other business financing options.
On the negative side, lenders that issue SBA loans often have strict approval requirements. You may need to establish good business credit if you don’t already have a decent FICO® SBSS Score.
If you qualify, the loan process for SBA loans can also be tedious and lengthy. It frequently takes eligible borrowers weeks or even months to receive funds. And owners should be prepared to sign a personal guarantee.
Crowdfunding
Another way to consider raising money for your business is through crowdfunding. With crowdfunding, you open the opportunity for others to get involved in what your business is doing and help you come up with the seed funding your company needs.
There are four main types of crowdfunding.
- Donor crowdfunding is a type of fundraising where others support your business goals. You don’t have to repay the funds nor give any benefits in return for donations. Example: GoFundMe
- Reward-based crowdfunding is a type of crowdfunding where your business gives a reward (like a product, service, or discount) in exchange for a donation. Example: Kickstarter
- Debt crowdfunding allows multiple people to invest together to fund a business loan. As a borrower, you’ll still need to meet certain criteria to qualify (like a minimum credit score). Example: Kiva
- Equity crowdfunding gives numerous people the chance to be a potential investor in your company (albeit likely on a smaller scale than your average private investor). Example: Wefunder
Strategic Partners
You may be able to get limited business financing directly from the vendors and suppliers with which your company does business. Setting up net-30 (or better) terms with strategic partners might not solve all of your business financing needs, but it can be helpful.
Not only can working with strategic partners lessen the stress on your business cash flow but there could also be another benefit to this business financing approach as well. If you can set up the right vendor relationships, it might help you establish better business credit too.
Purchase Order Financing
Purchase order financing could help your company if it’s struggling to purchase supplies to fulfill outstanding customer orders. In such situations, you might be able to secure an advance that can help your business cover the cost of supplies and inventory.
With PO financing, you work with a special financing company and provide details like:
- An order from a customer requesting products that your company sells.
- A cost estimate from your supplier for the materials you need to create those products.
The purchase order lender generally pays your supplier directly for the goods. After you deliver the completed product to your customer (usually another business), you repay the lender for the supply costs plus its fee and keep the remaining balance.
In some cases, the PO lender might require your customer to pay the lender directly after delivery. This can complicate the ordering process. Plus, if your customer has poor business credit, you might have a difficult time qualifying for PO financing in the first place.
Business Incubators
Many cities offer business incubator programs to help entrepreneurs get startup businesses off the ground. Business incubators offer numerous resources to small business owners, including help finding financing, potential investors, and more.
Entrepreneurs who enter business incubators may also find valuable mentorship and networking opportunities. These programs often feature training programs that can help small business owners learn how to navigate common challenges as well.
Business Grants
Grants represent one of the most popular sources of business financing. The reason why business grants are so popular is because you don’t have to repay the funds you receive, nor do you have to trade business equity to an outside investor.
Because of these unique features, business grants technically don’t fit into either the debt capital or equity capital category. Yet grant programs also tend to be competitive due to their broad appeal. (Who wouldn’t want free seed funding to grow their business idea?)
Bootstrapping
Grants aren’t the only way to raise money for your business without going the debt financing or equity financing route. If you aren’t comfortable taking on debt or giving up business equity, you could consider bootstrapping instead.
Bootstrapping is a form of self-funding. It often involves using personal savings to get your startup off the ground (or to cover your personal bills while you wait for your new business endeavor to start earning a profit).
There are many advantages to using the bootstrapping method to start a business. However, the approach is a privilege that isn’t available to everyone. If you don’t have sufficient savings to support yourself and your family in the short term, you may need to try another strategy.
Ask Family and Friends for Help
Another out-of-the-box approach to business fundraising is to ask family and friends for support. Your loved ones, after all, likely want to see you succeed where a stranger is probably only interested in what’s in the potential investment opportunity for them.
If you do ask a friend or family member to be a potential investor in your business, however, be sure to proceed with caution. Carefully outline any repayment plans if the investment is a loan or map out equity details if the investment will make your loved one a partial owner.
Consider consulting with an attorney if you have questions about setting up loan documents or company ownership. Also weigh the pros and cons of each option. Your goal should be to protect the relationship first and avoid any potentially hurtful surprises on either side.
Home Equity Line of Credit
It’s wise to keep personal and business finances separate. Yet some entrepreneurs will put personal assets on the line to finance a business idea about which they feel passionate. As a result, they might consider taking out a home equity line of credit to secure business capital.
If you’re comfortable putting up personal assets as collateral to secure financing for your business, you might consider a home equity loan line of credit. This financing option can feature affordable rates—especially if you have a good FICO® Score. Yet it’s also risky.
A home equity line of credit (HELOC) acts like a credit card in some ways. This flexible borrowing option lets you borrow up to a maximum amount (aka the credit limit), repay the debt plus interest, and access the same credit line again as long as the draw period is active.
Yet if your business cannot afford to repay the money it borrows, you risk losing your home to foreclosure. Furthermore, you have to make sure that your lender will let you use the funds from a HELOC for business purposes since some may have restrictions.
Moving Forward
Raising money can be essential to the success of your business. But it’s important not to rush the process. You want to research the best business funding options and then compare multiple lenders or investors (if possible) to make sure you find the best deal available.
It’s also wise to work ahead of time to build your business credit before you seek out business financing or investment opportunities. Good business credit can open doors. Bad business credit (or a lack thereof) might hold you back.