You probably know the old expression: You have to spend money in order to make money. That’s definitely the case when it comes to business startups. Before you can generate any revenue from your product or service offerings, you need to have some capital to spend on raw materials, staffing, distribution channels, supplies, and beyond.
How do you generate money when your business is brand new, or still in the planning stages? The short answer is that you take out a loan. The question is, what kind?
The answer may depend on the type of business you run. For example, an LLC in California may have different loan products available to it than a Corporation or a Sole Proprietorship. Broadly speaking, though, most startups will have a choice to make between a personal loan and a business loan.
It may seem like the small business loan is, by definition, the most appropriate option. The reality is a bit more complicated. Here’s what entrepreneurs need to know.
Understanding the Options
It might be helpful to begin with a clarification of terms.
Small business loans are exactly what their name suggests: Financial loans made available to small businesses. Business needs are diverse, so there are many different types of loan products to choose from. Some may be focused specifically on payroll needs or on purchasing new equipment. Others are more open-ended. Small business loans may be either short-term or long-term, and they may be either secured or unsecured. (An unsecured loan means no collateral must be presented.) As for the amount of the loan, some small business loans are very limited, but others can total as much as $25 million.
When you apply for a small business loan, you must supply quite a bit of documentation related to your business’ financial performance. By contrast, applying for a personal loan can be a little bit simpler. Basically, you’ll need to supply a little bit of personal financial information, including reports indicating your income and credit history.
While obtaining a personal loan is a little bit easier in terms of the initial paperwork, the options are also a little more limited. Most personal loans that are offered for business purposes will range in value from $1,000 to $50,000. Timelines usually span from 12 to 60 months. The vast majority of personal loans are unsecured.
Weighing the Pros and Cons of Different Loan Types
So which type of loan is right for your startup? Consider the pros and cons of both loan types.
Pros and Cons of Business Loans
One of the main reasons to consider a small business loan is that it allows you to keep your personal finances and your business finances separate. This is especially relevant if a lawsuit is ever brought against your company, because it means your personal assets (including the assets your family shares with you) are shielded. Lawsuits are not uncommon in the startup world, so this protection is pretty significant.
Another reason to consider getting a small business loan is that borrowing money and then making prompt repayments can help you build your business credit score. This can open up more opportunities for you to borrow more money, at more favorable terms, down the line.
Finally, small business loans offer you the chance to borrow larger sums of money over longer spans of time, meaning they are more flexible than personal loans.
As for cons, it’s important to note that many small business loans are secured, meaning you have to put forward some kind of collateral. And, as we’ve already indicated, actually applying for a small business loan is considerably more difficult and time-consuming than filing for a personal loan.
Pros and Cons of Personal Loans
By contrast, if you happen to have pretty good personal credit, obtaining a personal loan can be quite a bit easier and less complicated. And that’s not the only potential pro of seeking a personal loan. You will also, in most cases, be able to find an unsecured loan, meaning no collateral is required.
There are also some cons to taking out a personal loan. For one thing, lending limits are usually lower, meaning you won’t be able to take out nearly as much money. Compared with business loans, personal rates usually have much higher interest rates. And, when you take out a personal loan, you won’t be building your business credit when you make repayments.
Considering Your Options for a Startup Loan
Ultimately, your options may be determined by the type of business structure you have, and by your credit history. The amount of money you need may also be a major factor. Regardless of your circumstance, it’s always wise to weigh all the options before you commit to a startup loan type.
Amanda E. Clark is a contributing writer to LLC University. She is a graduate of Eastern Michigan University and holds degrees in Journalism, Political Science, and English. She became a professional writer in 2008 and has led marketing and advertising initiatives for several Fortune 500 companies. She has appeared as a subject matter expert on panels about content and social media marketing. She regularly leads seminars and training sessions on trends and tactics in professional writing.
