4 Alternative Funding Sources If you can't get a SBA loan to buy a business, try one of these options.
By Mike Handelsman •
Opinions expressed by Entrepreneur contributors are their own.
As the economy struggles to rebound, unemployment rates remain at historical highs and millions of Americans are still looking for work. As a result, many have considered following their entrepreneurial dreams of "creating" their own job rather than relying on corporate America to see them through. While hard times have kept demand for small businesses high and a wide selection of options are on the market, most business buyers are facing one major challenge: Accessing the capital required to purchase one.
It's rare that a buyer has enough cash to buy a business outright, so traditionally they've relied on a variety of sources to finance the purchase. Unfortunately, the primary source of capital for small business buyers--commercial and bank loans backed by the U.S. Small Business Administration's 7(a) loan program--has dried up significantly over this past year. According to numbers released for the SBA's 2009 fiscal year, the 7(a) program made 36 percent fewer loans than it did in 2008, backing only 44,221 loans from banks for starting, purchasing, or expanding a small business.
These numbers might seem to paint a grim picture for aspiring business buyers, but fortunately there are other ways to secure financing to buy a business. If you're in the market but face a lack of capital and no clear idea of where to start, consider the following financing options:
Peer-to-Peer Lending Networks
If you're unable to access bank capital to finance a small business purchase, one alternative is to turn to peer-to-peer lending networks. These networks remove the traditional lending institutions, instead allowing lending transactions to take place directly between individuals. If you want to use this route, you can do so via online companies such as Prosper.com and LendingClub.com . On these sites, loan seekers request a specific amount (typically up to $25,000) at a specific interest rate, and lenders fund all or portions of the loan. Lenders are then paid back with interest over a set period of time. Buyers' success when using these networks depends largely on their credit ratings.
Friends and Family
Borrowing money from the people you're closest to in life is probably the longest-standing method of funding entrepreneurial endeavors. Many people are hesitant to borrow money from friends and family for fear of straining personal relationships, but--if you make it a point to hold up your end of the deal under all circumstances and borrow only from individuals who are in a position to lend without risking their own financial health--it can serve as one of the most effective ways to fund a business.
If you feel this is an ideal method for your individual situation, you can use sites such as VirginMoney.com to manage the process of borrowing from people you know to ensure all parties involved are comfortable with the deal and confident that all loans will be paid back on time.
Retirement Funds
As with borrowing money from friends or family to buy a business, some might consider using money from a retirement nest-egg risky. That said, it can often be an effective way to invest in your entrepreneurial endeavors and has had successful outcomes for more and more of today's business buyers. As laid out by the government's ERISA law , you can invest your existing IRA or 401(k) funds to the purchase of a business without taking an early distribution and incurring penalties.
It's even possible to combine money from your retirement fund with loans and other funding methods for greater flexibility. Many entrepreneurs choose to invest in a business they control because they believe the growth opportunity is greater and want to diversify a portion of their retirement holdings outside of the stock market. If you find this is a viable option, sites such as GuidantFinancial.com can provide you with more information on this small business investing method.
Seller Financing
Increasingly today more business-for-sale transactions are resting on a seller's willingness to finance at least part of a sale. In a deal that includes seller financing, the seller takes part of the purchase price in cash and the remainder in the form of a promissory note that the buyer will pay back with interest over a period of three-to-five years. This has become essential; buyers are having difficulty accessing funds through traditional methods, therefore there's a natural gravitation toward seller-financed businesses to help offset some of the cost up front.
Conversely, sellers who continue to say no to seller financing are finding it difficult to close a deal, and as more of them have realized this, there has been an increase in seller-financed businesses on the market. To make it easier for buyers to locate these businesses, my company site, BizBuySell.com recently introduced the ability to filter search results based on a seller's willingness to offer financing.
If you're in the market for a small business it's important to be aware of alternate funding options, but know that in some cases it's still possible to borrow from a bank. Government stimulus and bank policy have been trying to promote ongoing small business lending, although many banks are still more conservative than they used to be about when and to whom they'll loan money.
Today's business-for-sale marketplace is full of exciting opportunities that will allow you to take your destiny into your own hands, and with various options available there's no reason to let a shortage of traditional capital sources get in the way of your dreams.
