There are many different ways to obtain capital in this day and age. It is important that when you are looking for capital to expand your business or to simply make ends meet, you look at all the various options that are available to you including the different types of financial lenders that are able to assist you.
‘A Lenders’ is the term given to more traditional financial lenders such as banks and credit unions. Usually these lenders focus on you as an individual; whether you have a reliable source of income and your history, most importantly, your credit score in order to determine whether you are a reliable candidate with the ability to pay back the loan, which is what determines if you get approved. These financial lenders are institutions that are regulated by the government.
‘B Lenders’ are institutions that offer a second ‘B’ option to the consumer. Essentially these are the funding options that have lower barriers to qualify receiving capital. However, although these types of funding are easier to attain, they are usually paired with high interest rates and additional fees. These lenders are still reputable financial lenders.
Commercial Funding from Banks
The first thing most people think of when they consider raising finance is borrowing money from a high street bank. Raising finance to buy or grow a business is no different. Most small to medium enterprises (SMEs) need to raise finance with banks in some way during their lifetime. One of your first steps as a small business owner should be to find out what business support loans are available to you from the normal high street banks.
What financial support can small businesses get from banks?
Seeking financial support from a bank in the form of a business bank loan does mean your business taking on debt. This is why it is often referred to as Debt Financing, as opposed to non-debt finance whereby you payback investment through shares or equity.
Commercial finance from banks will either be secured or unsecured business loans.
Unsecured Bank Loans for Businesses
An unsecured bank loan means that your business does not have to provide anything in the way of assets to secure your loan. However, you or a company director may be required to provide a personal guarantee for the loan. Essentially, this type of loan is very straightforward, you agree with the bank to make regular repayments of your loan until it is paid back in full.
There are many criteria that will determine whether you can get an unsecured loan, such as your credit history. The terms for the loan, interest and any personal guarantees will be determined on a case by case basis.
As the loan is not secured with anything, it should be noted that an unsecured business loan does mean more risk to the bank. This means that you will often be paying more in interest for an unsecured bank loan than a secured bank loan.
Secured Bank Loan
A secured bank loan is one which requires some kind of asset to secure the loan against. This protects the lender (the bank) from your business not being able to pay back either the agreed amount or to the agreed upon schedule. Secured loans are less risky for financial lenders due to the asset you put against the loan, which is why they are usually cheaper than unsecured loans.
The asset in which you secure the loan can be almost anything, providing the bank accepts it as collateral. Assets often come in the form of land or property, equipment, or valuable items.
Since a secured loan is protected against your business being unable to make payments, lenders are often willing to approve loans of much larger amounts while also providing secure loans at a better rate than unsecured ones.
However, they can often take longer to arrange as they usually require some form of asset valuation.
Borrowing from Friends and Family
They may not be the first thing most people think of, but one of the most common ways of raising finance for a business is to borrow money from friends and family. Having your friends and family loan money to your business can be an easy and informal way of raising finance for a business.
It is an especially common way of funding a new start-up business to gain some momentum and more capital before you feel ready to approach the more established financial lenders.
The details of the loan agreement between you and the lender are entirely up to you to decide. It is important to have legal documentation drawn up for both parties. However, it can sometimes be a mistake to mix business with family and friends. Be warned that you are often putting the relationship at risk if something goes wrong.
The upside is that your family members or friends will not have the same criteria such as looking at your credit history and valuing your assets like many financial lenders such as banks would often look at.
If the option to borrow from people you know is available to you, it may also be cheaper in the long run as interest rates from established financial lenders would most likely be higher than what your friends and family may be charging you, if they are even charging any interest at all.
Crowdfunding and Online Financial Lenders
With the rise of the internet, it has become more and more common for businesses to approach people online to fund their business. Websites such as Kickstarter offer a platform where start-ups and even established businesses can pitch for all kinds of business support, such as debt-financing or equity investment.
Crowdfunding is a way to raise finance by asking a large number of people for a small amount of money. It uses the internet to talk to thousands, if not millions of people who are all potential funders, it can be a great way of raising both finance and brand awareness for your business.
If you get a lot of attention through social media, you will be able to raise funds quicker than you know. Usually, those seeking funds will create a profile for themselves and their project on a website such as FundHeartly or GoGetFunding.
One of the biggest advantages is that you often do not need to pay back all of the money that has been invested or donated to your business. Easily reaching a large number of people often results in a ready-made customer base when your business launches.
However, many crowdfunding websites require you to return all investments if your initial target is not met and will often take a percentage of the amount you have raised in return for using their services. Any failures of your business are also well publicised as much as the successes.
Donation / reward crowdfunding
Crowdfunding through certain types of social media posts and sites such as GoFundMe, means that people invest in you or your business venture as a sort of donation, simply because they believe in the cause. Rewards collated from the interest gained on the project at hand is often called reward crowdfunding.
An example of the rewards are acknowledgements on print or social media which in turn results in more publicity for your project. A small donation from various people will allow you to reach your goals a lot quicker than expected. You may also gain free gifts and PR. The returns from the rewards are usually tangible ones. Donors usually do this when they have a personal or social motivation for putting money into your project and expect nothing back.
This type of crowdfunding means that people invest in an opportunity in exchange for equity. Money is exchanged for shares in the business or project at hand. As with many types of shares, if the project is successful the value increases and if not, the value decreases.
Peer-to-Peer (P2P) lending is also known as social lending and is very similar to saving with a bank. It is very much like online crowdfunding and the two terms are often used interchangeably. Peer-to-Peer lending allows individuals to obtain loans directly from other individuals, cutting out the middleman completely. Private investors are matched up (usually online) with businesses seeking financial support. P2P lending is often used by businesses who cannot secure a business loan from a bank.
Peer-to-peer financial lenders are individual investors who usually invest through a website as they want to get better returns on their cash savings than a bank savings account. Some websites allow investors to choose who they lend to, while others simply use your investment on projects on your behalf. These loans are unsecured and are therefore usually charged at a higher rate of interest than a similar business loan from a bank.
The process takes place entirely via a peer-to-peer lending platform. The platform acts as a facilitator to match you to the right lenders and takes care of administrative matters such as processing and collecting repayments.
The difference between Peer-to-Peer lending and other forms of Crowdfunding is that P2P lending is exclusively focussed on loans rather than selling equity.
It is important to note that P2P lending comes with considerable risks as peer-to-peer platforms are not protected by the financial services compensation scheme. Another potential risk is that returns are not guaranteed, and the past performance of these platforms does not serve as a reliable guide.
Venture capital is a type of equity capital, it is basically a form of investment provided almost exclusively to start-up and emerging businesses. Wealthy investors like to invest their capital in businesses who seem to have a long term growth perspective.
Venture capital firms identify early-stage small to medium enterprises that have either demonstrated actual or a potential for higher than average growth. Higher risk businesses also benefit quite often from venture capitalists. The risk of investment loss and the potential for future payouts are both very high.
Venture capital deals quite often take the form of private equity, rather than paying the money back directly. Unfortunately, this does mean that you lose some amount of control of your business in a venture capital deal, which is one of the major drawbacks of venture capital funding.
However, venture capitalists often bring a lot more than just financial support for your business. They are usually seasoned business consultants with networks and contacts who can provide a wide range of advantages. As a shareholder, the venture capitalist’s return is dependent on the growth and profitability of the business. This is why investors usually take an active role in the company’s performance.
Venture capital companies often represent groups of private investors and other financial investment institutions.
Business angels are wealthy, private individuals who invest their own private capital into new and emerging businesses, much like you would see on Dragon’s Den or Shark Tank. Business Angels invest their own private capital when they believe in an idea that has the potential to be a viable company, in return for an equity stake in the business. This means that you will give up some level of control of the company.
Your investor may also invest their time and give their business expertise to you by acting as a mentor. They will be able to provide connections to their larger network in order to help guide you into your new business venture.
There are different types of business angels and their relationship to your business may differ. Some ‘angels’ may wish to remain a sleeping partner and merely provide funds to the business. However, others may wish to take a more active role in the day-to-day running of the business to guarantee their investment.
Credit unions are community savings and loan cooperatives, where members pool together their savings to lend to one another when they are in need to help run the credit union. They are a good alternative to bank loans and they also charge lower rates of interest. Credit unions provide financial products and services similar to banks, but the money is normally put back into the local community.
Borrowing from a credit union usually requires a membership. All members usually are part of the same community due to a common denominator such as their location, trade unions or their jobs. They differ from banks as they may only be able to provide smaller loans and can be a cheaper alternative to many other financial lenders, for example, payday loan companies.
Payday loan companies
Payday loans and most popularly known as a very expensive way to borrow money. A payday loan is a type of short-term loan originally designed to tide people over until payday. The lender will base interest on your income and credit history. These loans can often also be referred to as cash or check advance loans. You need to keep in mind that these loans are high in costs and short term. Usually, you have until payday to pay back your loan plus a very high interest rate.
A payday loan is expensive and could make your situation worse if you cannot afford to pay it back on time. Payday loan borrowers often get locked into an ongoing cycle of creating one loan and not being able to pay it off which then creates the need for a second loan and then a third.
Although they are easily accessible loans, have few requirements and they do not loan against your credit score, they are all very expensive, often considered predatory and as previously mentioned, it is very easy and common to get trapped in a debt cycle. If you do consider a payday loan, do so with caution.
A logbook loan lets a borrower take out a loan that is secured against their car. The car is put up as a form of collateral /security. What is different about this loan is that the lender owns the vehicle in full until the loan has been fully repaid.
A logbook loan like many other types of short term loans can have high interest rates and if any repayments are missed, it can result in the car being repossessed by the lender. The repayment terms often differ between lenders and depending on the specific deal, you may be able to only be paying on an interest only monthly basis before paying the original sum back in full at the end of the term.
However, there are other forms of this loan that will allow for the full loan to be paid off earlier.
Online financial lenders are just like banks and other high street lenders with the only difference being that they have no actual physical branches. Compared to other lenders, their overhead is much lower, which translates into a more advantageous interest rates and lower fees.
Another advantage is that the entire loan process takes place online, which allows you to apply and manage your entire loan from anywhere and at any time. These types of loans are specifically tailored for people with bad credit. A main disadvantage however, is that with online financial lenders, there is never any face-to-face interaction.
Supermarket and department stores
Over the last few years there has been an increase in the different types of financial lenders available for borrowing money. Bank loans are often hard to be approved for so these alternatives are so useful in certain situations. Many supermarkets and big name retailers such as Tesco, M&S and Sainsbury’s offer their own branded credit cards, which usually fall under two categories.
The first is store credit cards. These accounts function very similarly to normal bank credit cards but are limited to usage to a particular chain or group of retailers.
These store cards are often appealing to customers as they come with various benefits such as purchase discounts, vouchers or even free delivery on goods. The second type of credit card is cards that work just like normal credit cards in every way, the only difference is that the card has come from and is linked to the specific store, it can be used anywhere. Although these cards are linked to the store, the credit may still be provided by a bank.
Most supermarkets and department stores offer similar loans to banks at very comparable rates as their screening process on loan candidates and policies on credit scoring are of the same calibre. This means that if you do get rejected for a particular reason from a traditional bank loan, this may not be a viable back up option for you.
However, if you do qualify for a loan with one of these companies and you have the added bonus of being a loyal customer, you can expect some preferential treatment in the form of regular discounts on some products, free gifts and cheaper rates as well as reward points.
A portfolio lender uses their own money to grant loans and does not sell its loan to institutional investors. Portfolio lenders are likely to be smaller banks or any lending institution that originates mortgages and holds them in their own portfolio. They usually invest in communities and relationships so that they can make a decision based on the applicant.
A direct lender loans the money directly to the borrower. Key examples of direct financial lenders are credit unions and banks. Direct lenders will be there to handle the whole process of your loan. They will therefore have all your information and will be at hand to help guide you through any queries you may have. It may also help you to know that all direct lenders have similar rates, however you may have to pay an extra fee for using their services and they are the ones who usually get commission of your transaction.
Direct financial lenders also offer flexible repayment plans and offer to work with you collaboratively. This approach allows the application process to get completed faster as you could get approved within a few hours.
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