Everyone wants investors. It's as though most entrepreneurs have watched The Social Network one too many times. The reality is, investors typically come after other lines of credit have been established. To do that, these are the two most popular options: a small business loan or a business credit card. This article will outline the pros and cons of using each of these methods. Maybe we can talk investors once these methods are in place.
Let's first talk about small business loans. According to a recent Bloomberg article, "Funding a New Small Business? Don't Bother With Banks," the author writes that "... it is still virtually impossible to get a loan to open a new business." Don't let thoughts like those get you down. When looking at the data, the SBA (Small Business Administration) is lending more money than ever before in history. In 2014, the SBA approved 52,044 small business loans totaling $19.19 billion. In 2015, the SBA broke that record by 23 percent!
Tens of thousands of business are funded with small business loans. Billions of dollars are being poured into small businesses. It may be hard to get this money if you're a brand new business, but it is possible.
Pros of Getting a Small Business Loan
- Cost of funds is cheap (5 percent – 12 percent) compared with other forms of lending
- Longer repayment terms than a credit card
- Larger loan size than a credit card: Funding up to $5 million
- The lender will require a business plan you can stand behind
- Many organizations to help you secure funding: SBA District/Branch Offices, SCORE, SBDCs, and WBCs.
Getting a small business loan comes with its share of setbacks as well. It's important to note right now that each of the pros and cons listed have varying degrees of weight. The length of these lists aren't important, it's the weight of each item.
Cons of Getting a Small Business Loan
- Tough approval process
- Collateral is often required, meaning your personal finances are on the line. Many lenders require a promise to repay the balance with personal funds should the business perform poorly. This is true with credit cards as well, but credit card balances will typically be smaller, therefore less risky.
- Poor option for receiving ongoing working capital
- Rules in force, like how much the business can spend on inventory or investments
- A bank can 'call in' a loan early if the institution feels financial distress is imminent
- No rewards, interest-free periods or perks like credit cards offer
A business credit card, on the other hand, is a form of short-term lending. Want a loan for a small business? A business credit card does that like a bank only in a much different way.
According to the SBA, 65 percent of small businesses use credit cards on a regular basis. Keep in mind that in this article, we are talking about business credit cards, not personal credit cards. A personal credit score and a business credit score are completely different. Just because a person's FICO score is good does not mean it will be easy to get a business credit card.
Pros of Getting a Business Credit Card
- Available dollar amount is typically $5,000 to $50,000
- Easier to qualify for than a bank loan
- It's possible to pay 0 percent interest via promotions or paying the balance in full each month
- No collateral required
- Gets your business off the ground in a hurry
- No need to create a business plan
- No need to answer to anyone else
- Credit card rewards
- Possible discount rates on hotels, rental cars, airline tickets, etc.
- Helps establish business creditworthiness (handy for possible future bank loans)
- Makes tracking expenses easy
- Can make you hype-focused on cash flow since it is short-term debt
Cons of Getting a Business Credit Card
- Higher interest rate than a small business loan
- Variable rate
- Many credit cards carry fees such as annual fees, balance transfer fees, cash advance fees, foreign transaction fees, late fees, reward redemption fees, paper statement fees, returned payment fees, and over-limit fees.
Which Is Better: A Small Business Loan or a Business Credit Card?
The answer depends on the business. Small business loans are best for owners who want to have an accountability partner, refinance debt and/or secure a low interest rate. Business credit cards are good for those who want capital quickly and feel comfortable paying off debt quickly. After mastering one (or both) of these options, maybe then the investors will come flocking.