Startup Business Loans: The Ultimate Guide For Startup Owners in 2023
A comprehensive guide for startup owners on the what’s and why’s of startup business loans in 2023.
As per the Economic Survey 2020-21, the government has recognized 41,061 startups till now, 39,000 of which have reportedly offered 4,70,000 jobs. These startups have access to several private equity and debt funding alternatives.
As effortless as it looks, acquiring funds is a big challenge when the “enterprise” is just a business idea or in the infancy stage. Also, Micro, Small and Medium Enterprises (MSMEs) have restricted access to formal credit, which is why startup business loan schemes for startups and MSMEs are rolled out.
But first, you should be clear about what startups really are.
The word ‘startup’ often presents a picture of a new, scrappy team sharing ideas in a co-working area and trying to develop a new app off the ground. But, the truth is: any new business is a startup.
If you’re an aspiring businessman looking ahead to launch a local café, salon, gym, or tech company, you will need business financing in its early stage.
Companies need a good amount of cash flow to run and manage their expenses in the initial days because there is not much money coming in. Hence, they look forward to getting startup business loans.
The startup landscape, is, understandably, not as easy to grasp. Not to worry! In this article, we will cover everything you need to know about loans for startups, the types of loans available, how to find a startup business loan that’s tailored for you, the accompanying eligibility criteria, and more. Let’s dig in!
So, What Is a Startup Business Loan?
A startup business loan is a contract where a lending company offers you a preset amount of money that has to be paid back with interest. There are different funding options to help you get different startup business loans – every option has its own individual loan term, outlining the loan amount and repayment terms.
Like any other business loan, a startup business loan helps operate business expenses. Additionally, entrepreneurs need a loan to safeguard funding and help transform their ideas into reality because not everyone has sufficient money in hand to commence a business.
Why Should You Take Out a Startup Business Loan?
There are various reasons why startups choose to take a loan. Some of them have been listed below:
To get their business off the ground
The major challenge a startup faces is launching its business. With many expenses involved in starting one, from renting a workspace to hiring workers, it can be tough to get everything running without financial help. A startup business loan helps you bear these expenses and run your business efficiently.
To benefit from incoming opportunities
In the initial business days, companies may obtain opportunities highly beneficial for them but may need upfront investment. For instance, you may find an efficient workspace deal and want to move quickly to take advantage of it. Or you may find an inventory at a cheap rate. This is where a loan offers you the flexibility of capitalizing on such opportunities without incurring any possible financial risk.
To gracefully bear a stagnant period
Every business experiences highs and lows, and often, the initial phase of a business can be highly challenging. If your business is in a sluggish period, a loan can help keep it afloat till things pick up the pace again. It further helps ensure your business remains viable in the long run.
To aid with cash flow
A big hindrance any startup faces is handling cash flow. It can be extremely challenging for startups with a lot of expenses but not much income. A loan helps you balance your cash flow and ensure you have sufficient money in hand to manage your day-to-day expenses.
Taking startup business loans is a major decision for any business. Loans offer the capital you need to avail of the opportunities, eliminate tough times and boost growth. So, if you’re looking ahead for easy approval for startup business loans, here are some options:
The different types of startup business loans
There are various types of business loan options available for startups. We’ve discussed a few of those below:
Working Capital Loan: Also known as collateral-free loans, these loans are leveraged by startups to manage their daily working capital needs. They are short-term loans with a 12-month repayment tenure. Such loans come at a higher interest rate because of their restricted tenure.
Term Loan (Short and Long Term): A commonly acquired loan is a term loan. These loans should be repaid in a given time. While loans up to 12 months are called short-term loans, loans up to 5 to 10 years are called long-term loans. The tenure is decided by the lender according to the capital lent.
Letter of Credit: Used majorly by startups involved in trading, an LoC is a credit limit where the lender offers a funding guarantee to business suppliers. As international trade has to witness several unknown factors, LoC is important for successful trade in uncertain territories.
SBA Microloans: These loan programs offer loans up to a specific amount. The term can go up to six years, and interest rates vary from 8% to 13%. As loans are issued via NPO lenders and backed by SBA, they are available to startups with restricted fiscal records and credit history.
Personal loans for businesses: Startups benefit a lot more from personal loans instead of traditional business loans. They can easily qualify for personal loans, even with a restricted or non-existent business history. Borrowers using personal loans for their startups are usually held to repay the debt.
Asset-based Financing: It is a lender financing method secured by valuable assets of a business such as machinery, equipment, real estate, and inventory. It has flexible lending standards as the risk posed to the lender is low.
Crowdfunding: If traditional lending tools don’t work for you, then crowdfunding can be a perfect alternative. Prospective borrowers who don’t qualify for a startup loan can choose crowdfunding platforms like Kickstarter to get startup business loans with no revenue and cover their operating expenditures. It is best recommended for startup owners who don’t need to raise hefty money and businesses with innovative and alluring offerings.
Small Business Grants: It is money offered to startups to help them get off the ground. Grants are offered by bodies like local and state governments, corporate entities, and the federal government. This method doesn’t need repayment.
The different terms and conditions of startup business loans
There are specific eligibility criteria for startup business loans. However, these terms and conditions differ from one lender to another. Check out the list:
The borrower should be an Indian citizen
It is preferable if the borrower has a CIBIL score of 685. If the CIBIL score is less, the bank may limit your loan amount
The business should have been operational for 1-2 years
The minimum annual income of the company should be INR 2,00,000
The borrower should be 21 to 65 years of age
The borrower should possess a good business plan with an achievable roadmap
Aspects like turnover, depreciation, net profit, and the salaries of the partners also play an essential role in deciding the loan amount
Documents needed for getting a startup business loan
ID proof with age proof such as Passport, PAN card, Adhaar card, Driver’s license
Fully filled out loan application form
Address proof such as Electricity bill, Bank passbook
Proof of ownership
Last six months’ bank statement
Financial statement from CA
IT Returns for the last two years
How To Find The Perfect Startup Business Loan?
The procedure to acquire a startup business loan differs, based on the financial institution and financial type, but most of them have similar requirements. Here are some steps to get the best startup business loan for you:
Assess the type of loan you need: The loan sum and repayment tenure differ by loan type and lender. Hence, it is important to consider the amount you want to borrow and the type of financing you wish to choose. If you’re a new startup, choose alternative startup financing options, if you’re unable to qualify depending on your personal credit.
Evaluate your personal and business credit score: Before you choose a startup business loan, go through the credit scores. It will help you measure your approval chances for conventional financing. If important, spend time enhancing your credit score and apply for a loan. If your credit score is low, private lenders for business startup loans may charge you a higher interest rate.
Ensure your startup is ready for due diligence: The loan underwriting procedure includes high diligence to assess the business's creditworthiness. It involves a review of the applicant’s business plan, personal and business credit score and tax returns, and other financial documents. It is equally important to offer copies of necessary business licenses and legal documents. Also, it is essential to have a robust business plan demonstrating greater chances of success.
Compare different lenders to look out for the best deal: Usually, borrowers with a higher credit score get the most competitive rates and terms. Hence, depending on your credit score and startup operations, you may qualify for different interest rates. Shop around and compare several lenders before you reach the best interest rates.
Submit your application: After you have chosen your lender, review the application procedure and submit the needed documents. The loan application procedure may differ from lender to lender, but the application is usually online or at a branch. Once you have submitted the application, you should wait for approval.
The Different Types of Lenders That Offer Startup Business Loans
A startup is a big undertaking and is not something you should start without a good plan and effective fiscal backing. Hence, a major aspect of starting a business is gaining the funding to set things rolling.
There are various types of lenders offering startup loans, and everyone has their specific terms and conditions. Hence, it is essential to research, assess and compare them before deciding.
A popular lender for startup loans is Small Business Administration. They offer different loan programs, specifically for businesses in their initial development phase.
Some small loans provided by the Indian government are Pradhan Mantri Mudra Yojana, Bank Credit Facilitation Scheme, Credit Guarantee Scheme, Standup India, and Sustainable Finance Scheme.
There are also several private lenders who offer startup loans, with some flexible requirements and terms than government-backed programs, however, these are costlier.
With a solid business plan in place, companies have a higher chance of securing funding and getting their business off to a good start.
The Different Types of Collateral That Can Be Used for a Startup Business Loan
Business loans with collateral are an excellent option for MSMEs to get instant financing. They approve significant major funds and enjoy a limited interest rate if the prospective borrower secures assets of decent market value.
Some traditional collateral loan schemes are:
Real estate: A renowned and broadly accepted collateral for startup business loans is real estate. It has a greater loan-to-value ratio and retains its value for a long time. Business and personal assets work as excellent collateral allowing borrowers to get sufficient funds at reduced interest rates.
Vehicles: Vehicles are yet another known collateral type. They serve as security for a loan.
Equipment: Machinery, equipment, and business assets are secured as collateral. The age, market price, and condition of the asset help in determining its price.
Inventory: For lean periods, businesses may have extensive money stuck in their inventory. Such inventories are used as collateral for business loans.
Accounts Receivable: Lenders use outstanding invoice account receivables to recover losses in case the business defaults.
Savings: The savings account of the borrower can be used as collateral for the loan.
Personal guarantee: A personal guarantee is essential if the lender needs additional security.
How a Strong Credit History Helps When Taking Out a Startup Business Loan
Startups and MSMEs are growth accelerators in an economy. However, easy access to required capital is essential for these small businesses to thrive and grow. Business loans work as a remarkable tool to gain regular financing, but to be eligible for it, companies should maintain a good credit score.
A credit score represents a business’s creditworthiness numerically. It is assessed by the Credit Information Bureau India Limited (CIBIL) in three-digit numbers from 300 to 900. It depends on many factors like debt, history of repayment, overdue sum, credit time, etc. A score above 650 is considered favorable by lending institutes.
A good credit score exhibits the credibility and reliability of a business in meeting its debts and fiscal obligations. Lenders go for a good credit score to assess operations stability and business consistency in generating income. The greater the credit score, the better the chances the business will receive the loan.
Some other benefits of a strong credit history are:
Easy loan approval: Lending companies openly lend to companies with a good credit score as they are marked creditworthy. A high credit score ensures the borrower can repay on time.
Competitive rate of interest and repayment tenure: A low-interest rate means the cost of the loan will be less. A good credit score ensures lower risks of default, making businesses eligible for reduced interest rates, and good repayment tenure.
Access to better credit limit: A high credit score favors your sanctioned credit limit. Hence, you get access to more borrowings.
Tips For Getting Approved For a Startup Business Loan
Irrespective of the type of business, at some point, you need to ensure how to secure funding for your business. Gaining approval for your startup in today’s economy is tough, but there are methods that can help you gain approval for a startup business loan. Take time to prepare your loan application diligently and boost your chances of getting your loan approved from offline and online lenders.
Here are some tips to get approved for a startup business loan:
Focus on developing a good credit score
To determine the risk level of every borrower, a lender checks their business and personal credit score. Small business lenders assess your credit history to ensure how well you handle and repay the debts, such as credit cards and mortgages. Your credit score includes five things: payment history, age of credit, credit inquiries, credit usage, and credit usage accounting.
If you’re thinking that your personal credit score may risk your chances of getting loan approval for your business, take time to improve your credit history. Pay your bills on time, check for inaccuracies, and use less of your approved credit line.
Develop an informative business plan
A good business plan works as a blueprint for your business. A comprehensive business plan demonstrates the vision of your business, showcasing your capability to sustain the cash flow and manage ongoing business expenditures.
Some common points to include in your business plan are a summary, description of the company, products or services offering, SWOT analysis, monetary analysis, and sales and marketing strategy.
Private lenders for business startup loans have more confidence in your entrepreneurial ability when you optimize your business plan.
Draft how you will spend the money
Your business plan should include the purpose of the loan, how much loan you want, and how you will spend the money to grow your business. Some ways to effectively use the loan money are:
Boosting marketing initiatives and sales
Improving technology and product
Purchasing inventory and equipment
Lenders prioritize companies taking a loan for the purpose of adding value to the business and making a good impact on society, such as increasing job opportunities or acquiring real estate.
Have sufficient financial and legal documentation
A major tip for successful loan approval is to have all your financial and legal documents in place. Banks and lenders need more paperwork than online lenders. Depending on the kind of loan you’re applying for, your documents may differ: Here’s the general list of documents you will need to be prepared with:
Personal and business bank statements
Personal and business ITR
Offer the right collateral
In case you fail to repay the loan, a lender would need to recoup their loss in some way. A good way to get debt repayment is by providing collateral with your loan. It works as a security deposit against your loan. It is a good and quick way to get easily approved loans.
These smart tips and tricks will hopefully help you enhance your chances of approval.
How to Repay a Startup Business Loan On time and In Full?
At times, it is easier to get a startup loan than to pay it off. Evidently, the loan helps increase the operational capacity of the business; but sometimes, the opposite may happen, and it may increase the aggregate debt. However, there are some simple ways to repay your startup business loan on time:
Prioritize making a budget
Budgeting is important for operational success. A budget is a working capital projection, and its parameters work as changes to test what expenses and payments best suit the business. It helps makes decisions simpler and offers a view of how businesses should run. Without a budget, you will not be able to assess your expenses and income.
Take help from long-term creditors
As startup loans are taken to boost profits, a good way to repay them is to speak to creditors. A business may get credit from suppliers and loan companies. Requesting to reduce the rate of interest or acquiring long-term credit can help reduce the overall loan debt and free some money to pay the loan in time.
Limit your expenses
A good way to quickly clear your debt is by reducing expenses. Most businesses spend on experiments that hurt their profits. To avoid it, do proper research, make a budget and avoid random expenses. The operational audit will give you an image of your business practices and how you can make them more effective.
Restructure the debt
If you are close to the due date, you can try and renegotiate a loan as a last resort and repay the debt. Many financial institutions and private lenders can help you with long-term interest rates.
What to do if you get into financial trouble with your startup business loan?
With a loan, the possibility of risks comes along. Loans are equally risky for both lenders and borrowers. Not all is gloom and doom, though. You can avoid potential pitfalls. There’s a lot that can be done if you’re in trouble of defaulting. However, it is essential to be proactive and prevent your loan from slipping into default status, making all the possible attempts to resolve the problem in time.
When you’re starting out to look for how and where to get a loan to start up a business, traditional lenders and banks might seem more risk-averse. However, if you have good credit, an efficient business plan, and successful credit history, you will most certainly find efficient startup financing.
However, you have a higher chance of getting capital for your startup requirements from a marketplace lender. They come with broad acceptance criteria and are noticeably more lenient, and might seek interest in your business potential. Plus, they have flexible terms and make decisions faster. In the end, it’s up to you to pick a suitable option and apply for startup business loans now!
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