How to Get a Loan to Start a Business
We can picture it now, the brainstorming sessions building out the perfect business plan. The late nights of crafting the sleek yet bold logo that will be plastered across the internet. Everything is falling into place for your business… except for the financing. Don’t worry; you are not alone in this situation. Getting a loan to start a business is often the most significant barrier that most people face. This is what pushed our team at Franchise Gator to create this guide on how to secure a loan to start your business. We also hope to open your eyes to the exciting world of franchising as a great alternative.
So, how does one go about securing the money to start their business ownership dreams? In its most basic form, the process is actually quite simple, taking shape in three steps.
- Create both a business and financial plan
- Perform a personal and business credit check (if applicable)
- Contact lenders and apply for a loan or loans
This is only the beginning of the journey, but remember that everything we will discuss can fall back into those three simple steps. Let’s begin.
How Do You Finance Your First Business?
Getting a loan may not be the right first step for everyone to finance their business. Depending on how large of an operation you are attempting to establish, you may be able to get up and running with the money you currently have, credit cards, friends and family, crowdfunding, etc. All of these options are relatively barrier-free to acquiring smaller amounts of capital. However, in order to generate some serious funds for your business, you are going to have to apply for one of the various types of loans available.
What Type of Loan Do You Get To Start a Business?
Just as every business has unique qualities, there are different types of business loans you can apply for depending on your specific needs. Often in the early stages of a business’s life loans are acquired through a bank, the Small Business Administration (SBA), a microlender, or a credit union. After your business is up and running, you can apply for more specific loans for equipment, business credit, and accounts receivable financing. To get a better understanding of the different types of loans, let’s take a closer look at the common varieties.
- Bank Loan: One of the oldest methods for acquiring financing of all kinds, a bank loan is still quite common today. Bank loans typically have low, fixed interest rates with predictable monthly payments. On the other hand, one of the larger drawbacks to this type of loan is that banks have more hoops for you to jump through before you can get the money. Some of the requirements include a strong personal credit score, collateral, a concrete business plan, and an overall healthy picture of your finances.
- SBA Loan: The Small Business Administration is a government agency whose primary purpose is to help small businesses get financing. That is an important distinction to understand. The SBA does not hand out loans; rather, they partner with lenders of their choosing, including other types on the list like banks and credit unions. This backing from the SBA often makes lenders more open to financing a small business. We will go into more detail on the SBA later as they can be a great resource to use.
- Microloan: As the name suggests, a microloan is for businesses that do not require as hefty of an investment to get going. The SBA facilitates microloans of up to $50,000, which is generally the maximum amount that a microloan will be. The average microloan is around $13,000. This is often not the first choice for starting a business, but is a great option for working capital or other equipment needs.
- Credit Union Loan: Credit unions and banks can often get mixed up as they offer a lot of the same benefits, but the fundamental difference is that credit unions are nonprofit organizations. At a credit union, the account holders are technically the owners, which means any profit a credit union makes is then reinvested as a dividend to its members. Credit unions have either minimal or no service fees, making them an attractive option.
SBA Loan for Starting a Business
In a guide about loans for starting a business, we would be remiss if we only mentioned the SBA in a brief capacity. The Small Business Administration can be extremely helpful to all organizations starting out. Let’s dive deeper by answering, what are the requirements for an SBA loan?
Generally speaking, the SBA requires that a business meets its size standards (which vary by industry), is able to repay the loan, and has a comprehensive business plan. Beyond that, there are still four other major requirements to secure an SBA loan.
- The business must be a for-profit institution that operates legally and is officially registered as a business.
- The business must be physically located inside the United States and operate there or in its territories.
- The business owner must have invested their own time or money (equity) into the operation.
- The business must prove that they were unable to receive financing from other institutions, meaning that the SBA was its last option.
The SBA loan requirements are only just the beginning. Simply because you meet the minimum threshold for a loan does not mean that you will secure it. You then need to apply for the loan.
How to Apply for an SBA Loan
After you have confirmed that your business is eligible for an SBA loan, you can begin the application process. The great news is that this is a relatively simple process. Just follow the steps below.
- Visit the loans page.
- Navigate to the lender match page and fill out this contact form to help with the search process.
- Apply through the lender.
What Is a PPP Loan?
If you were someone who attempted to start their business in the past few years and were researching the different types of loans, then you may have come across a new term, PPP or PPP loan requirements. While this is not something someone starting their own business could have used, we want to mention it to clear up any confusion if this term comes up during your research.
The Paycheck Protection Program was a federal system put in place in 2020 to help businesses keep their workforce employed during the COVID-19 pandemic. This program ended in May of 2021.
You may have been told otherwise, but you do not need any form of loan in order to start a business. Depending on the business you are creating, the only startup money you need will be to pay for the domain of your website and other basics like insurance or permits. However, this does not mean that creating your business with as little capital as possible is the best course of action. Loans can often set a new business up for success during those very challenging first few months and years.
How Hard Is It To Get a Business Loan for a Startup?
Getting a loan for a business that has been operating for a few years can end up being quite the task. If you are just starting out and trying to get a business off the ground, the challenges can become even more daunting. Don’t get discouraged, as it is very possible for individuals of all manner of backgrounds and experiences to get a quality loan to start their business. How “hard” this task is comes down to individual opinion, but to help you get a better idea, let’s cover some of the loan approval factors that can make the process easier or more difficult.
- Loan Amount: The amount of money you are asking from a lender will have a significant impact on your ability to get the loan. Asking for the maximum loan amount they are able to give will lead to a more extensive review process before money changes hands. This is because a lender will approve loan amounts based on a business’s revenue and cash flow. You can start to see the challenges arise, as someone trying to start a business will have zero revenue and cash flow. This does not mean a loan won’t be possible, but you should not hold your breath on getting a large amount for your first time.
- Credit History: Most people starting their first business will not have a business credit history, which means lenders will have to look at your personal credit history to determine whether you are eligible to receive their loan.
- Business Plan: One thing that anyone attempting to acquire a loan for a new business can do is present an in-depth business plan. Showcasing what you plan to use the financing for and having a detailed structure for how you will pay back the loan can show the lender you are capable of taking on the responsibility. Also, successfully paying back that first loan will often lead to an easier process with the same lender next time.
What Credit Score Is Needed for a Startup Business Loan?
There is not a single credit score that will consistently get you the best loans, but the better your credit score (personal or business), the better the loan amount, interest rate, and loan terms will be. This might be a less than helpful answer, so let’s jump into some concrete numbers.
You may be asking, “Can I get a business loan with a 500 credit score?” While the answer might be yes, you may want to try and increase that number before applying for a business loan. Generally speaking, having a credit score of at least 600 will net you a good chance at securing a business loan. It is important to remember that this number will vary depending on the lender and other factors discussed when you meet with them.
So what credit score will get any lender to come to a business loan discussion ready to give you the money you need? If you have a credit score of over 750, you can think of it like a fast pass at Disney World. At that level, traditional bank loans that tend to have the strictest requirements will become much easier to secure. Lenders will also typically be more lenient (like giving you a longer loan period) with you as your score proves you have the ability to consistently pay back your loans with interest. Growing a credit score above 750 is much easier said than done and can often take years to achieve. This means that most individuals looking to start a business will not have the luxury of operating with fantastic credit. If this is the case, what are your options?
How To Get a Loan To Start a Business With Bad Credit
Starting a business with a poor credit score will put you at a significant disadvantage, but this does not mean you should give up on the journey. While we mentioned that most lenders prefer above-average credit scores, there are still plenty of options for those with a score of 600 or lower. One method that does not get near as much attention as other methods is crowdfunding. So what is it? Crowdfunding is the concept of raising money from a large number of people. The best part is that this can all be done virtually through sites like Kickstarter.
The only difficult part regarding this method is that you will have to have a business idea that stands out. These marketplaces are heavily saturated with new ideas each day.
Beyond a more unique idea like crowdfunding, your best bet to get a loan with poor credit is to go through the SBA or another lending provider that clearly states they allow for sub-600 scores.
Which Is the Simplest Business To Start?
There is not a simple answer to this question, unfortunately. The easiest business to start for one person could end up being a nightmare for someone else. Before starting one, you should be thinking about what area or industry you have vast knowledge of. You should have, at the very least, a seed of an idea that would impact that space.
With all that being said, the businesses that would be relatively easy for most people to start would be those that you could operate locally and with little to no overhead. All of these possible businesses can either be done from home or could be started tomorrow with very few obstacles to stop you:
- Pet Sitting/Babysitting
- Delivery Service
- Lawn Mowing Service
- Moving Services
- Online Reseller
Everything we have discussed today has been to help you understand the process of acquiring a loan to start a business from scratch. Even if you have a fantastic business idea, strategic plan, and the proper funding, the business that you create can still fall short (and even fail). There is, however, another option that allows you to run a business without many of the pitfalls associated with starting your own. That is the world of franchising.
What Is Franchising?
Franchising is the process where an established business or brand (franchisor) enters an agreement with and gives others (franchisees) the right to use the franchisor's business system, name, and branding. In exchange for the rights to run the business, the franchisee pays a fee and royalties from operations. Let’s use a globally recognized business like McDonald's. McDonald’s is a large brand, and anyone can put in an application to become a franchisee of McDonald’s. Then, the franchisee runs the individual location that they purchase while still operating under the larger brand. You get all of the benefits of owning your own business without all of the complications of being a solo entrepreneur.
All this is great, but if you are looking for financing to start your own business, then how could you afford to purchase a franchise?
Can You Get a Loan to Purchase a Franchise?
Yes, you can! What is even better is that you can use many of the methods we have already mentioned throughout this piece. For example, the SBA will give out loans to those who are looking to purchase a franchise. They will still perform a credit check and ensure that you meet all of their normal requirements, with the main difference being that the business you are looking to franchise must be registered and approved by the SBA. To help simplify the search, head over to the SBA’s official franchise directory.
You may have been put off from going through the traditional bank loan route due to the application process or your low business or personal credit score. If you decide that franchising might be the right move, then it would be worthwhile checking out this option again. Any bank will still make you jump through the regular hoops, but when it comes down to choosing between giving someone funding to start a business from scratch and someone who is opening up a popular, established business, it can be easier to go with the option that is more likely to last and generate consistent revenue to pay them back.
Where Are the Best Franchise Options?
If you are looking to franchise the biggest global brands, then going directly to their corporate website would be the best way to start the franchise process. However, these businesses will often be the most competitive and expensive options available, and if you are just starting out, this will not be ideal. So what are your other options? Our team at Franchise Gator is confident that we bring the best service for franchise opportunities with the utmost transparency. We make it easy to find out your “fundability” through our free assessment.