This article was last updated on March 31
[2020 update] Under the recently enacted $2 trillion Coronavirus stimulus bill (CARE) additional financial help has been provided to small business in the form of expanded loan assistance programs by expanding the SBA section 7(A) act to guarantee loans up to $10 million. There are also provisions under the Paycheck Protection Program that allow the loan to be forgiven over time if used for business related expenses that allow it to stay in business and keep employees on its payroll till the end of June. See more details and eligibility rules.
In the current economy with 10% unemployment many people are becoming self employed small business owners as a way to make living. Apart from the daunting task of starting a viable business the biggest challenge is to actually get the funds to start or keep the business running. This is particularly the case if your personal savings have dwindled to the point that they just cover your personal living needs. This is where a small business loan can help you launch your dream and get you started on the journey to being your own boss.
Before delving into the details of how to get a small business loan, it is important to evaluate whether your current or potential enterprise qualifies for this category of loan. A small business is officially classified as one that is privately owned and operated, with the help of a small staff. Such a business would have relatively low sales volumes. The forms of ownership permissible under the small business category are partnerships, sole proprietorship or privately owned corporations. In the US, these businesses come under the jurisdiction of the Small Business Administration (SBA) which decides upon the size standards for the classification of companies and the loans they may be eligible for.
The size standards of the SBA also vary from industry to industry. For example, for a manufacturing business to be classified as a small business it needs to have a workforce of less than 500. On the other hand, for the non manufacturing segment, the limit is based on the annual turnover, which should be less than $7 million. Some of the most common examples of these small businesses are hairdressers, lawyers, restaurants, photographers, convenience stores, tradesmen, accounting services. You can get more information at the sba.gov
While SBA sets the guidelines for the loans it is their private and public partners (Lenders, Community Development Organizations, and Microlending Institutions) that actually make the loans to small businesses. The SBA does not make direct loans to small businesses, but rather guarantees that these loans will be repaid, thus eliminating some of the risk to the lending partners. So when a business applies for an SBA loan, it is actually applying for a commercial loan, structured according to SBA requirements with an SBA guaranty.
SBA-guaranteed loans may not be made to a small business if the borrower has access to other financing on reasonable terms. With a loan guaranty, the actual funds are provided by independent lenders who receive the guaranty of the Federal Government on a portion of the loan they make to small business.
Types of Small Business Loans
Once you have determined that your business falls under the small business category, the next step is to consider all avenues through which you can get funds. Loans can be accessed from the following sources:
Bank Loans: Normally, this is the most common source of funds for small business loans. However, thanks to the financial crisis, banks and other financial institutions have shut-down their lines of credit for all but the safest customers. Given small business are inherently risky, has meant getting a bank loan without a personal guarantee (i.e your personal assets are put up as collateral), all but impossible. If you cannot get a loan from your local bank, then consider a credit union. They can sometimes be a bit easier to deal with since they are not driven solely by profit.
Business Credit Card: Several banks provide specific credit cards whose target audience is the small business enterprise. Once again you will likely need to put your personal guarantee and credit rating on the line to get a business credit card. However it is a interim way for small business owners to get funding and establishing a credit history for their small business. Over the passage of time, as the credit improves, the business will increase it’s chances for qualifying for a normal bank loan.
Like using credit cards for personal usage, care must be taken to not overdraw on the limit. Further, before choosing any specific card, make sure to check for low interest rates and added benefits, which could be in the form of reward points or purchasing discounts. Make sure to use any such card exclusively for business use, as this helps to keep your business and your personal life separate from each other. It is also advisable to issue the card under the name of your company, since this will ensure that you have clean tax audits.
Micro and SBA guaranteed Loans: These loans can help provide the foundation for a small start-up and as a source of carrying out expansions. Micro loans are perfect for those with poor credit records or for those with no collateral and also for the unemployed and those without any stable income. The micro-financing option is at times easier to obtain than the average bank loan; however, the applicant will have to go through business management training to qualify. Chances of getting the loan are better if your business will in someway help provide others employment.
The SBA is the authority which regulates all such loans. Attracting its attention is very tough because of the high number of applications it handles every day. One thing they can do to increase their chances are by creating a properly formatted business plan, as it helps deliver the message in an attractive and clear way. These can be made with the use of a free template provided by Microsoft called ‘Bank Loan Request for Small Business’.
Small Business Grants: This is an area where you need to be most careful. Many scammers trap their victims by propagating government backed grants when it is clearly stated by the SBA that the Federal government has no business grant policy.
There are several state and local groups that give out grants but it never becomes ‘free money’. They always need to be paired up with other funds or financing schemes, which will in some way take back the granted money. Do a Google search for local business grants in your state to get more information.
Personal Investments: This method is best left as the last option. It involves acquiring the loan money from sources like relatives, friends or by taking out personal loans. This runs on very high risks as any loss in the business will severely affect your financial and family stability.