If you’re looking at starting a small business, you may be overwhelmed by the prospect of finding a way to fund your new venture. While there are a variety of options out there, one size does not fit all, and you’ll want to take a careful look at your own situation before committing yourself to a financing plan.
It used to be that small business loans from banks weren’t so hard to come by, but times have changed. Approval rates for these loans have plummeted into the single digits in recent years, pushing many entrepreneurs to look toward small business credit cards to finance their businesses.
Is this wise? The thought of racking up credit card debt to pay for a fledgling business is sobering, to say the least. There’s a lot of risk involved, and if you don’t plan carefully, you can end up in financial hell. Still, many businesses that are wildly successful today (think Google) were originally financed with credit. Before you make any decisions, consider your options.
Financing from A to Z
Bank loans can be a great option (if you can get one). Keep in mind that while traditional banks often have ridiculously low approval rates, credit unions rank much better. The current small business loan approval rate at credit unions is around 40%, so definitely check out this option.
Keep in mind, however, that financing through loans generally requires that you borrow a predetermined amount of money. If you need a little less than what the bank is offering, that’s just too bad. While getting more money than you actually need might not sound terrible, consider that you’ll be paying interest on all that extra money too. In addition, being forced to keep to a tight budget can actually be an asset, in that it helps you prioritize your spending and can ultimately keep costs down.
If you’re starting a not-for-profit organization, you may be able to find funding through government grants.
Finding investors to fund your early efforts is another option. You can potentially bring in a lot of money this way, but you’ll also lose much of your freedom and ownership of the company.
Financing with credit comes with a host of risks that are important to know about from the outset. Read on for a detailed look at when and how to use credit card financing to your benefit.
Be smart about financing with credit
Financing with credit isn’t for everyone, so before you leap to any conclusions, or apply for a new card (or three), take a look at your own credit history, your current (and projected) personal finances, and how much money you’re going to need to fund your new business. You might be wondering why your personal finances or financial history are relevant here. To start, unless your business has significant revenues, or already has a developed credit history, it’s likely that you’ll have to make a personal guarantee on the credit you apply for. This means that your personal assets will be in jeopardy if the business goes under. It also means that the interest rate your business qualifies for will be as good as your own credit score.
If you’re already in debt, steer clear of credit card financing. Likewise, if you anticipate big personal expenses down the line, you probably don’t want to add business credit card debt to your financial burden.
If, on the other hand, you’re living within your means, have no outstanding debts, and aren’t about to send your kid to college, or reroof your house, financing with credit may not be a bad idea.
But remember: make a financial plan, and stick to it. Figure out how much you can afford to pay each month, and keep your business spending low enough that you’ll be able to make at least your minimum payment on time every month.
Don’t expect roses
On the contrary, plan for the worst. While thinking realistically may be less fun than daydreaming, it’ll save you a lot of heartache down the line. You have to figure that your expenses will sometimes exceed expectations, so give yourself a cushion. Likewise, clients won’t always pay on time, your interest rate may rise, and you may have unexpected personal expenses that take funds away from your own investment in the company.
None of this has to be a problem if you plan for it. Try to put a business nest egg aside, if you can, and always aim to spend less than you think you can afford. It’ll pay off in the long run.
Make sure the card you choose works for you
If you’re going to incur the added risks associated with credit card financing, make sure that the card you choose works hard for you. You’ll probably want to get a small business credit card, and by choosing carefully you can find one that will earn you rewards especially tailored for your business.
A few cards out there will earn you as much as 5% cash back on a variety of common business-related expenses. You can also earn miles to offset the cost of business travel, or score discounts at office supply and shipping stores.
It’s generally important to use separate cards for business and personal expenses. This will make your life much easier come tax-season, and it will save you a lot of strife if the business is ever audited. Do yourself a favor, and keep your bookkeeping clean.
Tim Chen is the CEO of NerdWallet, an unbiased resource for the best credit cards for personal and business use.
Photo Credits: Feelwellness
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