Where to Get a Small-Business Loan

If you want to expand your business, you're going to need some cash.

Money still isn't falling off trees for small businesses, and the lending seas can be a challenge to navigate. Although you need funding, you want to make sure your deal is better than the one offered by the neighborhood loan shark.

Money might be available thanks to stimulus spending, but that doesn't mean it's easy to get.

"The [banks] have tightened their lending policies, and it is more difficult for an entrepreneur to get financing,' says Velda Eugenias, a certified financial planner with Eugenias Advisory Group in Gadsden, Ala. "It is causing the small-business owner to have to get creative with finding sources of capital.'

Here are a few options:

• Traditional bank loans
  Your local bank can offer low interest rates and long repayment plans. Sounds good, but some entrepreneurs have found that stricter underwriting guidelines make it nearly impossible for these small business loans to be approved.
  
  "The negative to a bank is that the loan can often be very hard or next to impossible to obtain,' says Rick Kahler, a certified financial planner with Kahler Financial Group in Rapid City, S.D. "Also, most bank loans are 'recourse,' meaning if there is a default, the bank can go after your personal assets as well as any collateral secured by the loan.'
  
  Every bank's lending requirements are different, so shop around. Start with your personal bank. If a banker knows you, he or she may offer additional help when you apply.
  
• Government loans
  Like traditional bank loans, loans with a government guarantee can be tough to get, and the process can be painstakingly long. It's not uncommon for potential borrowers to bail before the loan is approved.
  
  If you can get a government loan, you'll find low interest rates and long repayment terms. Check the Small Business Administration website for more information.
  
• Loans from family and friends
  No one wants your business to succeed more than your loved ones or good friends, so your nearest and dearest may be a good funding source. In return for the loan and your gratitude, your new lender could receive a decent interest rate on the loan--better than a bank CD or money market fund.
  
  Make sure you do it right. Draw up a contract or promissory note for the loan with specific repayment terms so that you don't run afoul of the IRS. (If you're offered an interest-free loan, the IRS can actually attach a rate to it for you--or even decide that the loan was a gift, which will have tax consequences.)
  
  Anytime you mix business and personal, though, you risk hurting your relationship.
  
• Your home
  Home equity is one of the quickest and easiest ways to obtain cash, but that's what got so many homeowners in trouble during the past few years. Since then, banks have cut home equity lines of credit and have imposed stricter loan-to-value ratios.
  
  If you have home equity available, use caution before putting your home on the line.
  
  "If things go wrong with the business, you could end up losing your home, as well as being held personally responsible for the repayment of any shortfall,' Kahler says.
  
• Credit cards
  Personal and business credit cards can seem to be an easy solution to your borrowing needs, but they can be costly, with interest rates exceeding 20 percent--a huge spread over a bank loan. Also, business credit cards are not subject to the new CARD Act rules that apply to personal credit cards.
  
  Use credit cards sparingly and not for long-term financing.
  
  "If you have a short-term need for a purchase that you are 99.9 percent sure you will have the money to pay off the credit card when it comes in, then it is a good use of your resources,' Eugenias says.
• A partner
  If you're willing to share your future successes, consider a partner who can pour some money into your business.
  
  "Select a partner as you would a spouse, only more carefully,' says Kahler.
  
  While a partner could bring cash, she could also bring her own ideas about how to run your business. You'll have to be willing to share, and you'll need to draw up some specific legal agreements outlining the partner's role in the company.
  
• Less-traditional funding
  Websites are popping up that allow consumers to offer loans. For example, Prosper.com sets up potential borrowers and lenders who agree to three-year unsecured loans with fixed interest rates. Borrowers post how much they'd like to borrow and the maximum interest rate they'd pay, and potential lenders bid on loans.
  
• Your retirement accounts
  This should be the funding source of last resort. You've set money aside for your future and although you hope your business venture will add to your future, it's an enormous risk. If the business goes under, you can kiss your nest egg goodbye.
  
  Some 401(k) plans offer loans against your plan's value, and through payroll decusions you make payments on the principal and interest. But if you lose or leave your job, most plans require that the entire loan be repaid immediately.
  
  If you choose to withdraw funds from an IRA or 401(k) before age 59 1/2, you'll be subject to taxes and penalties, making this source of cash very expensive indeed.