Startup business loans can be something of a double-edged sword. On the one hand, they give your business the financial support it needs to get off the ground – a big hurdle that many startups struggle to overcome, but a large loan or one carelessly negotiated can follow your business long after you’ve used them.
How, then, do you determine whether or not a business loan is the right call for your startup?
Weigh the pros and cons against one another. This isn’t a question of whether or not you’re confident in your business. Rather, it’s a question of responsibility and future-thinking.
Startup Business Loans: The Pros
Loans of any sort wouldn’t be necessary if someone didn’t find them useful — credit is an essential part of your financial health as both an individual and a startup. These financial instruments can provide startups the financial foundation they need to grow into fully-fledged businesses. That said, what are some of the other benefits that come when you invest in a startup loan?
Liquidity
Capital is capital, and all startups need it. The money brought to you by a startup loan does more than help you bring your product to life. It helps you invest in office space, payroll, tools, services, or equipment, and other necessary costs that come with running a business. If you don’t have the funding to build this initial groundwork yourself, then a startup loan can provide you with the runway you need to get to the point where revenue is able to take over.
Personal Ownership
Startup loans also serve as an alternative to investors. If you’re not interested in sharing ownership of your business with an outside source, then you may want to consider investing in a startup loan. While the applicable bank will have an influence on how you’ll have to sort out your budget in the future, you won’t have to base your business decisions on the opinions of involved investors. From this perspective, a startup loan comes with fewer strings than a set of investors. It does, however, come with a higher potential cost.
Separation of Personal and Business Funds
Investing in a startup loan lets you keep your personal finances away from your business. As you’re getting started, you may be tempted to sink your savings into what you think is your dream business. With the aid of a startup loan, though, you can make rent, pay for groceries, and see to your utilities every month without having to worry about the cost of your business.
Equity is Valuable
In the long run, debt is always cheaper than equity, so long as you can manage it. Equity is one of your most valuable resources as a startup, so it’s important to be careful with it. Growing your business through debt can be difficult at times, but helps you retain more ownership of your business, maintain you capitalization table and helps maintain control elements like decision making and board composition.
Startup Business Loans: The Cons
That all said, there are still some downsides you’re going to want to consider before investing in a startup loan. These include:
Restricted Cash Flow
you’re going to have to pay interest on your loan. While you may not have to do so immediately, depending on the bank you work with and the deal you come to, it’s a cost you’ll eventually have to consider. Where investors receive a percentage of your monthly income, banks will require a fixed payback of the loan, no exceptions available and no variation based on your income. This kind of financial obligation could stifle your startup’s eventual growth.
Credit Risks
Taking out a startup loan also puts your credit at risk. Note, this risk doesn’t pop up right away. If you manage your payments appropriately, a loan could even serve as a credit boon. Should you miss a single payment, though, your business and personal credit may both take a dive. That’s an especially unfortunate circumstance, given the role business credit plays in the professional world.
Liability
Ultimately, in many cases the startup owner is the liable party, but you can distribute the risk here by borrowing as an entity, rather than the founder shouldering the entire burden. This, of course, comes with its own risks, but either way, it is a consideration you should take into account.
Business Loans for Startups: What Do You Need?
Say you do decide to move forward with a startup loan. What kind of information will you need to provide your bank with when first applying? It’s this information, more than anything else, that will sell a bank on your business and encourage them to back you.
The information you’ll need to have on hand includes:
- Your form of collateral
- Your business plan
- Your existing financial details, as relevant to your business
- Your accounts receivable
- Your accounts payable
- Any audited or reviewed financial statements
- Personal financial statements
- Your personal and business insurance information
- Any past returns you may have
- Loan covenants
- Concrete or otherwise key ratios
As you may have guessed, given the list above, applying for a startup loan – or a business loan of any kind – takes time. Be patient through the process, but also be certain to have all of this information on hand before you start the application process. You won’t want to extend your application process while trying to find the documentation you need to move forward.
Traditional business loans are often not the best choice for a startup, as they can be difficult to acquire or prohibitively expensive. Many founders instead pursue venture debt financing, which comes with its own risks, but these loans are often structured better for startups.
The Takeaway
Applying and taking out a startup loan can be a boon to your business. So long as you play your cards right, you can come away from the encounter better off financially and personally. That said, you have to be smart while working with a startup loan. Don’t overextend your reach, or your startup may join the 90 percent that fail to break the atmosphere after launch.