You’ve been bootstrapping for months, depleting your savings to make this whole business thing work, and now you finally feel like you’ve hit your stride. You’ve got a pretty solid business model down and you can see yourself actually making a profit and a living in the next year or two.
Except now, the money’s running out or you simply don’t have enough capital to take your business to the next level. You’re not into the idea of raising money and diluting your company, you can’t hit up your friends and family, and shutting your doors at this turning point is not an option.
So what’s left?
Taking out a small business loan doesn’t make headlines like big fundraising rounds, but many small businesses and entrepreneurs use this source of funding as a way to get to the next stage of growth for their business.
Here’s a quick tutorial on what to consider, what to have ready, types of loans, and the best place to apply for a loan.
WHAT TO CONSIDER
The amount you need and type of loan: Think through the amount you need very carefully. You don’t want to borrow too little money, only to find that your loan didn’t cover you during this growth period. You also don’t want to have to pay back a loan too quickly or have it linger for too long and pay more interest than you need to. Think about:
- Exactly what you need the funds for (inventory, equipment, salaries, etc).
- The estimated cost of what you plan to buy.
- How you see this influx of resources benefiting your business (don’t skip this part – it’s critical to making sure you’re taking out money for the right reasons).
- How slowly or quickly you want to pay back the loan, depending on how fast you think it will take to put your growth plans in place
Your current cash flow situation and payback ability: taking out a loan means adding a new fixed expense to your outflows. Understanding your current cash flow situation, especially when you’re in the business of making goods, will help you decide whether you can handle the amount you need to borrow. Some things to consider when it comes to your cash flow:
- A/R – A/P: Have a clear understanding of your accounts receivable and accounts payable in the next 6-12 months.
- Savings: Have a savings cushion to cover the additional expense of the loan payment for the next 3-6 months while you go through this growth period as you most likely will not be making additional revenue right away.
- Cash Flow Projections: Put together a 12-month cash flow projection, based on how much you think your business will grow in the next year after taking out this loan. If the projections don’t look good for the loan you plan to take out, you may have to reconsider taking out the loan or what your plans are for using the funds. You can find a template for a 12-month cash flow projection here.
- Monthly Loan Payments: To see what an estimated monthly loan payment might be, you can use this loan calculator. This calculator is set to a $15,000 loan with a 2 year payback period at 8% interest. The interest rate is based on your credit score and how long you plan to pay it back. Every lender calculates this differently.
WHAT TO HAVE READY
Your credit score – They will check both your personal credit score and your business credit score. The better your score, the better your interest rate and terms, but just because you have bad credit doesn’t mean you can’t get a loan these days. Just expect your interest to be closer to 15-18%.
Bank statements – depending on the terms of the loan, you’ll be required to produce between 3-6 months’ worth of bank statements.
Tax returns – You will most likely be required to provide at least one year’s worth of business tax returns and personal tax returns.
Balance sheet and income statement (also known as P&L) – If you want to pay back your loan over a longer period of time (i.e. 5 years), most lenders will ask for a current balance sheet and profit & loss statement. If you need to put a quick balance sheet and income statement together, link all your business bank information to waveapps.com and they’ll generate these reports for you.
WHERE TO GET THE LOAN
Traditional banks: Not too long ago, one of the only places you could get a business loan was at a bank. This option is best for very established businesses who need to borrow a good chunk of money (i.e. more than $50,000). You will most likely need to produce more paperwork (including a business plan and current resume), but will also have access to great interest rates.
Loan “marketplaces”: Sites like Fundera and Biz2Credit are looking to change the small business lending landscape and make loans more accessible to the small business owner by creating a simple process to apply and get approved for multiple loans from various non-bank lenders.
You can quickly find out what you might qualify for without hurting your credit score, then when you’re ready to apply, they’ll help you with the whole process, from gathering paperwork to being the liaison between you and the lender.
Peer-to-peer lending: The way peer-to-peer lending platforms like Lending Club work are individuals act as both the borrower and the lender. As a borrower, you are charged an interest rate based on a number of factors that determine how likely you will be to repay the loan. As an individual lender, you can choose to invest in a portfolio of loans based on the borrower’s likelihood they will repay it.
Cover image by Reformation.
Pamela Capalad is a Certified Financial Planner™ and founder of Brunch & Budget, a financial planning service that makes talking about your money less scary and more delicious. She loves helping entrepreneurs and freelancers streamline their financial lives so they can focus on growing their businesses.
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