What Are the Best Funding Options for Small Businesses?

Sorting through the best small business financing options has never been more challenging than it is today. With record-high denials and low funding rates dotting the landscape, even seasoned small-business owners are left scratching their heads. Not surprisingly, nearly two-thirds dipped into their personal funds to cover business expenses last year as a result, per the latest Small Business Credit Survey.

Don’t let that discourage you from exploring financial solutions, though. There’s still funding available. However, you’ll have better luck securing the cash you need by choosing the best-fit solution before you start applying.

Below, we’ll give an in-depth look at the best funding solutions for small businesses and typical qualifications for each, plus break down scenarios where each is ideal for getting access to capital.

Debt Funding vs. Equity Funding

On a broader scope, there are two main types of small business funding: debt and equity. There are benefits and drawbacks to each, so you’ll want to begin your search by narrowing down which of these two options is suitable for you.

Debt Funding

With debt funding, your company generates debt you must pay back to have access to cash today. Common examples are loans and lines of credit. Debt funding is the route most businesses go, but it’s not without its challenges. According to the Small Bussiness Credit Survey, almost a quarter of businesses had a financing shortfall last year despite applying for financing.

Typical Sources of Debt Funding

• Banks
• Credit unions
• Online lenders
• Finance companies

Equity Funding

With equity funding, your company relinquishes a portion of ownership in exchange for cash. Last year marked record highs for venture capital, with approximately $130 billion raised per Statista. This may make it easier for some to strike up deals in the months ahead. You’ll see similar investors on the TV show Shark Tank, for example, though the relationships you might form with your investors will be somewhat different and tailored to meet both your needs.

Typical Sources of Equity Funding

• Venture capitalists
• Angel investors
• Family and friends

Choosing Between Debt and Equity

Equity funding solutions work best if you’re comfortable giving up some control of your company and have connections. Expectations of rapid growth are also required, as your investors will want a quick return on their investment. For this reason, it tends to work best for startups rather than established small businesses that need cash to cover expenses or grow. It can also be challenging to connect with venture capitalists or angel investors who are primed to hear a pitch.

Most small business owners will find it much easier to secure debt funding.  Going this route, you’ll have a debt to pay back, but you won’t be giving up control or tied to an investor for an extended period or the life of the business. It’s also usually much faster than equity funding.

It’s worth noting that there is an often-overlooked third form of small business financing that is technically neither debt nor equity funding. Referred to as invoice factoring or invoice financing, this source of business funding involves selling your unpaid invoices to a factoring company. While the concept relies on debt, it’s paid when your customers remit invoice payment to the factoring company, thus creating a third party for cash flow acceleration. Additional information will be covered in the related section below.

Best Small-Business Funding Options 2021

Once you know which financing options fit your business plan best, you can then move into selecting which types of funding will meet your needs and are likely to get you the immediate cash you require.

1. Bank Loans

Loans work best for established businesses with good credit that want a large lump sum and an extended period to pay it back. Both traditional business loans and Small Business Administration (SBA) loans come from the same funding source—a financial institution like a bank, credit union, or online lender. They’ll have similar requirements and terms too.

Requirements to Get a Traditional Business Loan or SBA Loan

• Good credit score- the SBA doesn’t set limits, but lenders do.
• Time in business- there’s typically a two-year minimum.
• Solid cash flow- you’ll be able to repay the debt without hardship.
• Revenue- most loans start at $50,000, so you’ll have to be able to cover this.
• Documentation- tax records, licenses, bank records, a business plan, and more are needed.

Typical Business Loan and SBA Loan Terms

Each lender will offer something different. Repayment terms can span anywhere from one to 25 years and generally have an interest rate between 5 and 13 percent.

Once you get past the basics, traditional bank loans and SBA loans are a bit different, though. 

Getting a Bank Loan

With traditional business loans, the bank takes a loss if you don’t pay your debt. Because of this, lenders typically look for shorter payment terms and charge more for short-term loans. They’re also pickier about who they’ll lend to and are geared toward funding larger amounts, such as $250,000 and up.

Per the Small Business Credit Survey, approximately 45 percent of funding applications last year were for business loans. However, 43 percent of applicants were denied, and only a small portion received the amount they needed.

Getting an SBA Loan

The SBA doesn’t lend money. It offers a guarantee of payment to lenders. They take the brunt if you don’t pay as a way to encourage banks to lend to businesses that might otherwise be underserved. That’s why your neighborhood bank or credit union might offer both traditional business loans and SBA loans. However, the SBA usually only gets involved when you’ve already leveraged other funding sources, such as your personal assets and if you have equity in your business. The SBA can also work if you need less funding than banks will consider, with packages starting at $50,000 as well as microloans for those who need less.

Small Business Credit Survey data shows 42 percent of applications last year were for SBA loans. Approval rates were much higher than traditional bank loans, with just 35 percent walking away totally empty-handed. Again, though, even those approved generally did not get the full amount of funding they needed.

2. Business Credit Cards

Business credit cards work best for companies with good credit that need smaller amounts to bridge cash flow gaps. They work similarly to personal credit cards in that they’re a form of revolving credit. You’ll be able to spend up to your approved limit. When you hit it, payments made toward the principal will allow you to charge up to the maximum again. However, business credit cards often have higher limits and lower rates than personal cards.

Requirements to Get a Business Credit Card

• Good credit – either business or personal credit score.
• Solid cash flow – you’ll need to be able to keep up with your payments like payroll.
• Income – many card companies are willing to look at all revenue streams.
• Documentation – bank and tax records may be required.

Typical Business Credit Card Terms

Although it’s generally easier to get a business credit card than it is to get a loan, the terms are generally not as friendly. Moreover, most of the protections afforded by the 2009 Credit Card Act do not apply to business cards, so you could potentially see your interest rate skyrocket overnight and may pay more interest regardless. You may also have annual fees and application fees on top of any interest you accrue. Furthermore, you will need to have excellent credit to get good rates, or you may wind up in a tier with high rates and requirements of collateral or personal guarantees.

With that in mind, it’s better to use business credit cards only when you’re certain you’ll be able to pay off the full balance within a single billing cycle.

3. Business Line of Credit

Lines of credit work best for companies with good credit that need smaller amounts to bridge cash flow gaps but require more flexibility than a credit card can offer. A line of credit is another form of revolving credit. So, you’ll be able to pay the balance and then use the available cash up to your limit repeatedly. However, the main benefit of credit cards is flexibility. For example, you may not be able to pay your lease with a credit card, and certain vendors may not accept cards. With a line of credit, that’s not an issue.

Requirements to Get a Business Line of Credit

• Good credit score – either personal or business.
• Solid cash flow – must be sufficient to cover your limit and other debts.
• Revenue – minimums usually start around $25,000.
• Documentation – bank and tax records may be required.

Typical Business Line of Credit Terms

As with credit cards, terms will vary greatly from one lender to the next. If you don’t fall within the well-qualified tier, meaning you don’t have top-notch credit along with solid cash flow and revenue, you may still qualify. However, you should also anticipate significantly higher interest rates.

It’s also worth noting that some lenders set term limits on their lines of credit. For example, you may be required to pay your balance in full within 12 months.

4. Small Business Grants

Grants work for any business but may require significant time investment with no payout. They can be considered “free” money that your business doesn’t have to pay back. They’re offered by a variety of sources, including the government, private companies, non-profits, and community organizations.

Requirements to Get a Small Business Grant

Because grants are free, competition for them can be fierce.  The possibility of getting one is determined based on who is offering the grant, the case you make, and who you’re up against for the money.

Be sure to do your research before applying for grants. If there are fees involved, a winner is randomly selected, or people vote for a winner, it’s probably not a true grant.

Typical grants have entry requirements, such as belonging to a specific industry, offering a specific type of product or service, having ownership or leadership that fits within a specific demographic, and other qualifications. Ensure you fit the criteria before applying to avoid investing time in grants you won’t qualify for or are unlikely to receive. 

5. Partner Financing

Partner financing is best when the business owner is comfortable giving up some equity, and the company is poised for rapid growth. The relationship you have with your investor(s) and the way they’re compensated will vary. For example, the investors on Shark Tank could be considered either venture capitalists or angel investors. Silent partners are a third example.

Getting Venture Capital Funding

Venture capitalists usually fund deals using money from large corporations, investment companies, or pension funds. They don’t invest their own money. To them, it’s generally a business transaction. They want to earn money off the deal, so they’ll scrutinize your business plan, the people on board, your finances, and more. The average venture capital deal size is nearly $12 million, according to the SBA. Combined with angel funding, the pair make up less than two percent of all business funding. This makes the barrier to entry high and the likelihood of getting venture capital quite low.

However, there are business financing options like Viva’s Venture Debt Financing program that make it easier to get venture capital and don’t require you to give up board seats.

Getting Angel Investor Funding

Individuals who use their own money to fund businesses are angel investors. While they’re in it to make a profit too, they usually have a genuine appreciation for the industries they serve and the businesses they support. Many angels will bring in resources and connections to help a business grow in addition to providing capital. Per the SBA, a typical angel invests $330,000. Again, though, it’s quite challenging to find an angel investor. Moreover, anyone who may invest will be looking at your business from two fronts. First, from a business strength standpoint, and second, from a personal standpoint and whether they think you’ll make good partners.

Getting Silent Partner Funding

Most silent partners are friends or family members of the entrepreneur. These aren’t usually big business deals—they’re people who care about you and want to see you succeed. For that reason, they may not expect to be involved in the business, but they’ll usually expect their money back and dividends.

6. Crowdfunding

Crowdfunding can work for any business depending on the model selected but typically requires a unique sales proposition or deep ties to a community. Just about any amount of money can be raised. Some campaigns are just a few hundred dollars, while others reach well into the millions. Plus, you don’t necessarily have to give up equity in your company or take on debt. Your credit history, cash flow, and other financial details may not make a difference either. Instead, your crowdfunding success usually depends on your ability to get people excited about your brand or products.

The more challenging part with crowdfunding is that it usually works best for companies that sell products rather than services, and most platforms require you to set a goal. If you don’t meet your goal, the crowdfunding platform doesn’t usually give you any of the funding.

Getting Donation-Based Crowdfunding

It’s difficult to get donation-based funding as a business simply because it relies on the kindness of strangers to fund your project, and it’s unlikely that they will unless they feel a personal tie to your story. For example, communities will occasionally come together after a crisis or natural disaster to save established businesses they care about.

You don’t need to be in a strong position business-wise to get donation-based crowdfunding, but you will need to have an emotion-evoking story that compels people to take action.

Getting Equity-Based Crowdfunding

If you like the idea of venture capital or angel investors but don’t want to give any single person power over your business, equity-based crowdfunding may be for you. In these cases, you’ll generally provide investors with shares or some form of special membership in exchange for their investment. Unlike donation-based crowdfunding, which is often based on investors’ emotional buy-in, equity-based crowdfunding investors are in it to generate a profit. They may want to scrutinize your business plan, history, finances, and more.

Getting Reward-Based Crowdfunding

The most common type of crowdfunding for businesses is reward-based. For example, you may offer investors the first run of your product or increase the gifts they receive with each funding level. Most consumers who fund projects are ordinary people rather than investors, so although they may care about your business plan and the strength of your company to some degree, they’ll be more interested in the reward they receive and the idea of getting something new or groundbreaking before their peers.

7. Community Development Finance Institutions

Community development finance institution (CDFI) funding is best for minority-owned businesses and those in disadvantaged areas. Managed by the United States Treasury, and with the aim of promoting community development and economic revitalization in low-income areas, the CDFI Fund gives CDFIs financial and technical-assistance awards for participating in the loan program. In return, CDFIs must match each dollar given to recipients through the fund with a dollar of private funding.

According to the CDFI Fund, there are more than 1,000 CDFIs in the country. They include a mix of traditional banks, credit unions, loan funds, and venture capital funds. Their goals are aligned with the CDFI Fund—to stimulate economic growth in disadvantaged areas.

Getting CDFI Funding

Because CDFI funds are earmarked for the disadvantaged, chances are you will not qualify if your financial needs can be met through other funding options for small businesses. However, those applying for loans through CDFIs typically have higher approval rates than traditional bank loans. Unfortunately, the Small Business Credit survey was unable to quantify this, as just three percent of applications applied to CDFIs for funding last year.

8. Equipment Financing

Equipment financing is best for businesses that require capital to purchase or lease vehicles, office equipment, specialized machinery, and other equipment necessary to carry out work. There are two main forms of equipment financing: loans and leasing.

Equipment Loan

With an equipment loan, you’ll usually make a down payment and then make payments toward the principal and interest. You own the equipment and can usually claim tax deductions on interest as well as amortization. 

Equipment Lease

With an equipment lease, you may not need to make a down payment. However, you will make recurring payments akin to paying rent on the item. You won’t own the equipment when the term ends, but lenders will often give you the option to purchase. You can usually write off your payments in full at tax time, but you’ll usually pay more to lease than you will to buy.

Getting Equipment Financing

Many lenders offer equipment financing. If you don’t qualify for a traditional loan, you may still qualify for an equipment loan that leverages the item you’re purchasing as collateral. This is referred to as asset-based lending.

9. Invoice Financing/ Factoring

Understanding how invoice factoring works is crucial for businesses that need to fill cash flow gaps and those that require a quick injection of cash to aid with business growth initiatives. With this financing option, which is a convenient alternative to traditional lending, you’ll sell your B2B invoices to a factoring company. The factoring company pays you right away—often within 24 hours of invoice submission—and then waits on payment from your customer. There’s no debt to pay back because your customer is the one responsible for paying the invoice. You simply keep moving forward.

It’s also worth noting that some factoring companies will allow you to pick and choose which invoices you factor. So, you could factor one outstanding invoice now and then not factor again for six months, continuously factor all your invoices, or anything between. You’ll usually just pay a small factoring fee on the invoices you submit as opposed to annual fees or monthly fees and interest.

Getting Invoice Financing

It’s much easier to qualify for invoice financing than it is other types of funding because your customers are the ones paying the bill. That means businesses with no credit or poor credit, those that already have debt, and even startups can qualify.

Get a Free Invoice Factoring Estimate

Rates for invoice factoring vary depending on considerations like the value of the business invoices being factored and volume. If factoring sounds like the right solution for your business needs, get started with a free business funding estimate from an alternative lender like Viva.