The Best Ways For Small Business Founders To Fund Their Start

Among the many critical questions facing new entrepreneurs, particularly first-time founders with no real track record, is where to find the funds to get their operation up and running. Such costs can easily run into the hundreds of thousands, if not millions of dollars, depending on the sector and how ambitious a founder is. But choosing the wrong financial path can doom a business before its doors even open, experts warn.

“The biggest thing that kills a small business, whether it’s an established business, a new business or an acquisition, is lack of capital,” says Mike McGinley, head of small business banking at Live Oak Bank. “You can never have too much capital.”

That’s why it’s crucial for founders to educate themselves on the pros, cons and availability of various sources of funding, and to incorporate a realistic financing strategy into their business plans. Forbes spoke with a range of small business finance experts to compile this analysis of financing options, particularly for startup founders who have little to no experience running their own companies.

The Most Common Funding Sources

A 2023 report by the Ewing Marion Kauffman Foundation broke down the sources of startup capital used by new firms with employees (meaning it excluded one-person businesses that may need little or no capital). It found that 65% of founders used personal savings or cash from family to launch their new ventures. Though that statistic is based on a survey conducted by Kauffman back in 2017, financial advisers told Forbes that a heavy reliance on personal and family resources persists to this day.

Far behind in second place in the Kauffman survey, 17% of founders reported utilizing business loans from traditional banks. After that, 9% of founders reported using personal credit cards to pay for new small business launches, while 6% said they used business credit cards. Five percent used a personal or home equity loan.

Only 2% reported using a government-guaranteed loan, such as one from the U.S. Small Business Administration, though that figure has probably risen in recent years as SBA loans have become more popular with small business founders and buyers, experts say. Finally, just half of 1%, received venture capital funding, and about the same tiny share relied on a government business loan (this is a separate category from those guaranteed by the SBA), according to Kauffman’s survey findings.

There are additional sources that founders may be able to find in the marketplace, ranging from high-interest-rate merchant cash advances to small business grants from nonprofits that don’t need to be repaid.

Why Self and Family Financing Dominates

There are good reasons that so many entrepreneurs use their own or family money, experts say. Such self-financing is usually the easiest and cheapest source of cash available. Plus, banks and the SBA are typically reluctant to loan any significant amount of money to a would-be company founder with an idea but no real experience.

“It is your savings primarily that gets a small business started in this country. It’s the founder's wealth, personal wealth, personal balance sheet,” says Heather Endresen, owner of Viso Business Capital. “Just a great idea is not good enough. You've got to have your own money.”

Endresen says it’s understandable that banks and the SBA are hesitant to hand out sizable loans to eager-eyed entrepreneurs who have an idea, but lack a real track record in the business world. That’s because starting out with debt essentially puts a business founder in a financial hole from the outset. Starting with one’s own money provides more flexibility and breathing space for a startup to get rolling.

While taking out a loan from a friend or family member might be easier, it shouldn’t be done casually. Experts advise that memorializing such loans in a written loan document is a good idea so there’s no misunderstanding or hard feelings over when such a loan must be repaid, what interest will be charged, and what happens if the business fails and the loan goes bad. (A friend or family loan might also want a provision for converting the loan into equity.) There are also tax rules to consider to make sure the IRS considers it a loan.

When Banks Will and Won’t Lend

“Debt only makes sense when you've got cash flow,” Endresen says. “If I give you debt before you're cashflow positive where you can't pay it back, now you're in default, and I've actually not helped you, I've harmed you. So that's kind of essentially why banks are so tight with debt on young companies.”

The loan rules are different, however, for a small business founder who has run a business before, or for someone looking to start up a franchise, experts say. In both situations, there’s historical performance data that banks and the SBA can examine to decide if a new business loan applicant is worth the risk.

Bank loans and SBA loans can be a fantastic tool for setting up a new small business, experts say, but the bar for eligibility is fairly high and cumbersome, and most banks shy away from startups until they have a few years of successful operations and records to share as evidence they’ll be able to repay any loan. However, if a founder meets those basic criteria, it’s a good idea to start with a bank that the same founder is already using for personal purposes, simply because banks prefer to work with people they already know.

“Bank loans are usually relationship-based,” says Chelsea Mandel, founder and managing director of Ascension Advisory. “A lot of the time they're lending to businesses that they've just been around a long time, either in the community or the market, and they have established financial history.”

Some necessities for landing a bank or SBA loan? For startup founders, make sure your personal credit score is in good shape, ideally above 650, says McGinley. And have a solid business plan ready for bankers to review, which should include revenue projections for at least two to three years, personal or business tax returns from recent years, and a personal financial statement, says Craig Veurink, senior vice president of business banking at US Bank.

Founders seeking a loan should also be prepared to contribute themselves or raise some equity capital, Veurink adds. “Usually banks want a little bit of skin in the game. They don't want you to borrow the full amount. So you'd want to have some type of injection, generally 15% to 20%” of the requested loan amount, Veurink says. So if a founder needs $1 million to get a company started, he should try to raise around $200,000 before approaching a bank to borrow the other $800,000, Veurink advises.

Mandel also notes that SBA guaranteed loans are typically easier to get than traditional bank loans, but also usually carry slightly higher interest rates. SBA 7(a) small business loans, which can be for up to $5 million, usually come with interest rates of about 13% for $50,000 or less, and range down to about 9% for loans over $350,000. SBA loans are also usually structured to be repaid within 10 years.

Bank loans, by contrast, usually come with interest rates of 6.5% to 11%, with a similar repayment timeline, of up to a decade. But they can also be much bigger than SBA loans; Bank of America, for instance, issues business loans ranging from $25,000 to $100 million.

“A lot of the deals we’re seeing recently that have an SBA component are anywhere from 10% to 14% rates. So it’s not typically the first choice, but a lot of times for the businesses we work with, these small business owners, it’s the only choice,” Mandel says.

Business vs. Personal Credit Cards

Yet another funding option is credit cards, says Cathy Callahan, a managing director at Bank of America and business banking executive in the Northeast region. But Callahan cautions against using a personal credit card for anything business-related, and instead advises that company founders immediately obtain a business credit card, as long as it makes financial sense and the founder has enough capital already to manage this high cost debt properly. But that step also requires a few years of operations, she emphasized, so it’s not necessarily a great option for brand-new startups, as much as for more seasoned small business veterans who may be looking to cover a short-term budget gap or purchase new equipment.

“The first access to real capital that we find most people do is credit cards. And they shouldn’t really do it on their personal credit card. They should get business credit cards,” Callahan says. “For most banks, they like to see three years in existence and a three year operating history. And we like it to be basically profitable, or at least on an operational basis, profitable as you're growing.”

All the experts Forbes spoke with for this story cautioned against relying on high-interest personal credit cards for business expenses, and Endresen labeled them “traps” for entrepreneurs.

Business credit cards can have real benefits and can be helpful over time, Callahan notes, by demonstrating to a given bank that an entrepreneur pays his bills. That can lead to easier business loan approvals in the future, greasing the way for further business growth.

“Wrapping it into the whole relationship gives you a lot of other benefits. We give you cash back. We give you rewards on those credit cards,” Callahan says. “And then that starts to build more equity for the company.”

“When the client is ready for a bank, because now they've demonstrated three to five years of history, they're now profitable, they fit our profile, we can take them out of the private lender and significantly reduce their borrowing costs,” Callahan says.

The Franchisee Borrower Advantage

If a new business founder happens to be launching a franchised outlet for an established company, that can come with some surprising financial benefits when looking for capital, says Matthias Smith, founder of Pioneer Capital Advisory. For one thing, new franchisees may be able to land bank or SBA loans where pure startups can’t, simply because banks can at least look at historical performances of other franchises under the same parent company for an indication of how a new franchise location might perform.

“Really the bank is trying to size up, how realistic is it that this business will be successful based on the business plan, based on the market, and based on who the operator is going to be? And if it's a franchise brand, is there any historical data that they can point to as evidence that there likely will be success versus failure?” Smith says, adding that a lending deal can hinge on that historical data.

It’s also not uncommon for banks to grant franchise business founders some sort of interest-only payment period on new business loans, to give them more flexibility to delay paying the principal loan amount until cash starts flowing in the door.

But with pure non-franchise startups, Smith cautioned, a bank loan may only be an option if a founder has some significant collateral to put up, such as a home or a valuable automobile.

“Startups by and large typically are just harder to get traditional bank financing for, because banks really like to underwrite and lend off historical cash flows,” he says.

US Bank’s Veurink also emphasizes that home equity loans can be a great source of quick capital for new business founders. “It’s cheaper, it’s easier, you don’t have to give any big plans” to a bank for approval, Veurink says. “They don’t need to show everybody what they’re going to do… That’s another thing that happens a lot.”

There are also many other resources out there for hopeful company founders, Veurink says, including regional and municipal SBA offices that are staffed with advisors ready to help; nonprofits that may be able to provide advice (the way SCORE does) or even lend money; and trade associations that can help with technical assistance and funding guidance. There are also business centers run by financial institutions, such as Bank of America’s Center for Business Empowerment and JPMorganChase’s Digital Hub for Small Businesses, that are eager to help get more small businesses started across the U.S.