Do you have a brilliant business idea you’re keen to get off the ground? As the world evolves and more people shift to side hustles or work for themselves, a common theme is how to fund your startup.
Even if you start small and grow slowly, there are still costs involved, and having enough money could prevent the business from failing early on in the game. One option that you should consider is taking a business loan.
What is a Business Loan?
Business loans are a type of loan specifically designed for businesses. Companies need to meet a list of requirements to qualify for a business loan. Like other loan types, business loans also carry interest rates, fees, and repayment terms.
Since each business loan offered by various lenders has different terms, it’s a good idea to research your options and get a few quotes before deciding which one works for your business.
Pros of Using a Business Loan
You Don’t Need to Bootstrap the Business
Bootstrapping, also called self-funding, refers to business owners using their own money to start a business.
While investing your funds into the business may show your commitment and belief in the business’s success, there may be better ideas than pumping all your own money into a startup.
Most new businesses are unlikely to see profits early on. A startup can take a few months or even a few years to make a profit.
For this reason, new business owners should have enough money in savings to cover their living expenses for about six months. If you’ve put all your savings into the business, you may struggle to cover your expenses.
Depending on how much money you have saved, keeping at least some of it to live off and using a business loan for company expenses is useful.
You Don’t Have to Give Up Equity or Control
A common way to finance a startup is to look for an investor. While investors can provide the much-needed capital and, in some cases, industry or business-related expertise, it does come at a price.
Depending on your agreement, you will likely have to give up some equity in the business. This means the investor will own a share in the company.
Apart from someone else having ownership in your business, you may also lose some control when it comes to decision-making and the ability to have complete control over the company.
If you are not keen on sharing ownership and want to retain equity, getting a business loan will help you avoid this.
Business Loans Provide an Opportunity to Build Your Company’s Credit Score
Like individuals, companies also have credit scores that banks and lenders refer to when deciding whether to grant them loans. As a new startup, your credit score is probably low. Borrowing money and repaying your debt timeously will help improve the company’s credit score.
You want a good credit score because your credit score will determine how much potential lenders may be willing to lend you and the interest rates they may charge. Your credit score may also influence your insurance premiums, so you should work towards improving it.
Business Loans are Temporary
A great thing about business loans is that they don’t stay with you throughout the life of the business. Business loans come with set terms. Depending on your contract, these vary from three to ten years but can be as long as ten years.
Still, once you’ve made all your installment loans and repaid the loan in full, your contract with the lender ends. This means that after you’ve repaid the loan, you have no more financial obligations to the lender, and the profits are yours to reinvest in the business or draw a salary.
On the other hand, investors are with you for the long haul! In most cases, businesses are stuck with their investors for as long as the company is in operation.
As the companies make more money, they may be required to pay investors higher dividends. This could mean less money to invest back into the business.
Cons of Using a Business Loan
It may be Difficult to Qualify for
Business loans may seem like an attractive option, but they are more challenging to secure. Many lenders typically reserve business loans for financially sound companies that have been in existence for a few years.
Still, some lenders may offer business loans to new entrepreneurs, so you should investigate your options.
You May be Required to Risk Your Assets
Depending on the terms of the business loan you are offered, you may be required to provide collateral. Collateral can be equipment, inventory, cars, or real estate the company owns, but it can also be the owner’s assets.
If the new business does not perform according to plan and is unable to repay the loan according to the agreed terms, you risk losing your assets.
The Application Process May be Complex
Unlike a personal loan, applying for a business loan can be a long, tedious, and complex process. There is typically a lot of paperwork involved, and you must submit many documents for the bank to scrutinize before they approve or reject your application.
Repayment Terms are Fixed
Loan repayment terms are typically strict. Even with the best planning, you can’t be entirely sure how much money the business will make. Unfortunately, if the company fails to take off as planned or sales slow, you will still be liable to repay the loan within the stipulated terms.
If your loan is unsecured, meaning you’ve not provided collateral, this does not mean there are no consequences for failing to repay your debt. You will likely be slapped with penalties and additional fees if you cannot make payment.
Non-payment will also hurt your credit score.
There are clear pros and cons of using a business loan to fund your startup. Before applying for a business loan, it’s helpful to evaluate your business. It’s also advantageous to familiarize yourself with the pros and cons so that you’re better equipped to make an informed decision.