You’ve developed an innovative business idea and determined that there is a viable market for it. Exciting! Next you must determine the amount of funds needed to start and run your business until it becomes self-sustaining. There is a lot to consider when starting a business, most importantly – how best to fund it. Not as exciting. Obtaining SBA-backed or conventional loan bank financing is often a part of the equation which can be intimidating and downright daunting to newly minted business owners with little-to-no experience. A good place to start is to educate yourself on the various financing options out there to assist you in formulating your funding plan.

Common forms of start-up capital include use of personal funds or “bootstrapping,” loans from friends or family, venture capital, conventional bank loans, and those backed by the Small Business Administration (SBA). Regardless of which funding path you take, understanding financing options is a good first step. Let’s take a closer look at the various options available and points to consider.

A Cautionary Tale

It is interesting to note that a whopping 54% of startup businesses are funded with personal funds. It is likely that many of these folks were simply taking the path of least resistance and not because it was the prudent thing to do. Using personal funds can work when done in a strategic and balanced manner, however, overreliance on “bootstrapping” is one of the most common financial pitfalls made by new entrepreneurs to fund their startup. The owner starts off using their own money, but when additional funds are needed, they put off applying for a business loan until they’ve taken on too much high interest credit card debt.

While well intentioned, this all-too-common scenario potentially creates a derogatory personal and/or business credit score , making it difficult for them to obtain a loan. “Now you’re in a position where you have high interest unsecured debt, but you don’t yet have business repayment ability established. It can be a difficult situation for a lender to step in and make a loan at that point. If possible, it is much easier to establish business debt and credit history at the start” says Katrina Winberg, SBA Lender and SBA Managing Director at Cogent Bank says.

SBA Loans Vs Conventional Loans

For conventional business loans, such as a term loan or a business line of credit, lenders make loan decisions based on a minimum of 2-3 years of actual financial performance which excludes new businesses in most cases. SBA-backed loan decisions can be based on projected financial information, which is why they are so popular among startups and entrepreneurs. “The SBA exists to assist small businesses and is the top resource for financing start-ups, via participating SBA lender financial institutions.” says Winberg. SBA-backed loans are obtained via SBA lending financial institutions with a portion of the loan guaranteed by the SBA.

While SBA-backed loans are easier to obtain than conventional loans for startup businesses, SBA loans have higher interest rates but are worth it for many startup entrepreneurs since it can be challenging for new businesses to obtain credit.

Another benefit of SBA-backed loans became evident during the coronavirus pandemic. The SBA covered six months of payments for every SBA borrower to help them survive, which was not always the case for conventional business loans. Winberg says those with conventional business loans had to rely on their lender to agree to provide a deferment, and if granted, was typically for a lot less time.

SBA loans also offer steady payments for the duration of the loan. Conventional loans may offer steady monthly payments; however, there may be a final balloon payment that could be a financial hurdle too steep for a young business to climb. For these reasons, many startups begin with an SBA loan and then switch to a conventional loan with a lower interest rate when they become financially secure.

Apply for a Business Loan Early in the Process

Your startup financing options may include a business bank loan with financial institutions such as Cogent Bank. Such loans may be backed by the SBA, particularly for startup businesses. Historically, business owners had to apply for a conventional bank loan first and receive a decision to decline the loan before applying for an SBA loan. Winberg says that is no longer the case today; you can apply for an SBA loan at the onset.

SBA Loan Programs

The SBA offers multiple loan programs with certain eligibility requirements, including the following hallmark programs:

• 7 (a) loans: SBA’s primary program for providing long-term financing up to $5 million available through 7 (a) lending institutions for a variety of purposes. Some of the more common uses include:  
• Acquiring, refinancing, or improving real estate and buildings
• Short- and long-term working capital 
• Refinancing current business debt 
• Purchasing and installation of machinery and equipment, including AI-related expenses
• Purchasing furniture, fixtures, and supplies 
• Changes of ownership (complete or partial)
• Multiple purpose loans, including any of the above

• 504 loans: Long-term, fixed-rate financing up to $5 million available through 504 lending institution in conjunction with mission-oriented community-based SBA Certified Development Companies. 504 loans can be used for a range of assets that promote business growth and job creation. These include the purchase or construction of:

• Existing buildings or land (including improvement or modernization)
• New facilities
• Long-term machinery and equipment with a useful remaining life of a minimum of 10 years, including project-related AI-supported equipment or machinery for manufacturing products.
• Consolidating debt under the conditions listed in 13 CFR 120.882, paragraph (e) and
• Repaying or refinancing debt defined as “qualified debt.”

• Microloans: Loans of $50,000 or less to help businesses and certain non-profit childcare centers. These loans are provided by intermediary lenders such as government programs, nonprofits, and online platforms, and can be used for a variety of purposes including:
  • Working capital
  • Inventory
  • Supplies
  • Furniture, fixtures, or equipment
  • Machinery

The above information is a thumbnail sketch of SBA loan programs and purposes. It is important to work with a lender such as Cogent to discuss your unique situation to determine eligibility and which program is best for you.

Your Business Plan

Whether you’re applying for a conventional or SBA business loan, you’re going to need a business plan with revenue and cost projections. It should explain your experience within your industry, your credit, and include a clear executive summary. The SBA’s website is a good resource to help you calculate your startup costs and determine funds needed.

For an SBA-backed loan, prepare financial projections for the first two years, with the first showing monthly figures. A personal financial statement is also important to lenders. The length of your business plan is less important than offering enough detail that helps the lender understand your business and your financial projections.

“We don’t want long, extensive business plans, just the core facts. Provide an executive summary clearly explaining your vision, the product, or the services that you’re providing, your intended market, competition, and price point, as well as projections in terms of estimated revenue and return. The bank will then perform due diligence, looking at industry standards and matrices to make sure that it aligns with the industry as a whole,” Winberg says.

Key facts to include in your business plan are:

• Business location and competition

• Experience in the industry, including any credentials and/or professional licenses

• Repayment plan

• Sources of your investment in funding your business

• A secondary source of repayment, such as collateral (your home and investments) or family and friends

Free Professional Assistance

You may seek help from a certified public accountant to validate your projections and assumptions, as well as an attorney to examine your legal structure. If these costs are beyond your means, or you need additional help, Winberg recommends Small Business Development Centers in Florida which provide advice and resources, including non-cost consulting in affiliation with colleges and universities.

The Florida SBDC Network is the largest network of small business consultants in Florida, with offices located around the state. She also recommends SCORE, the largest network of volunteer, expert business mentors that helps businesses plan, launch, and manage. You can find a SCORE business mentor through the SBA’s website.

Common Misconceptions Regarding SBA-Backed Loans

Winberg says it is important to dispel misconceptions regarding SBA-backed loans. Let’s look at a few of the most common myths in SBA lending.

• SBA Loans are 100% Funded by the Government: This is not the case. The SBA guarantees a portion of the loan based on the loan program chosen. The bank would lose money if there were a default on an SBA loan, with the government partially reimbursing the bank for the loss.
• All SBA Lenders Have the Same Loan Requirements: This is also not the case. Winberg says some lenders impose tighter lending requirements, such as an equity injection, cash flow coverage, and different loan covenants. An applicant could be surprised to discover their lender requires a higher down payment than those listed in SBA guidelines. They also might not realize that collateral is just as important as income, the business plan, and other factors.
• No Pledging of Personal Assets: This is not true. SBA loan applications have been declined because the principal owner/s refused to pledge their own assets to secure the loan. “The most common scenario is an applicant who has equity available in their home and isn’t comfortable pledging their residence as collateral,” Winberg says. “The SBA is taking a risk and expects the borrower to pledge the equity in their home to show their commitment to their new business.”
• Personal and Business Assets are Valued at Market Value: This is also not true. The value of personal and business assets used as collateral are discounted by the lender when calculating loan-to-values. In the event of default on the loan, collateral such as inventory, property, and equipment would be liquidated at below market rates and used to reduce the loan balance. Rarely are these funds adequate to pay the loan in full, resulting in a loss for the lender.

Experience and Licensing Can Help

While your credit, the financials, and projections in your business plan are all important when you apply for a business loan, the right credentials can also weigh heavily in your favor. Winberg says someone who has a great deal of experience within their field and is using that background to launch their startup would find that working in their favor when they apply for a business loan.

The same is true for professional licenses. Winberg notes that dentists, physicians, and other professionals have substantial upfront costs when starting a business. They might also have significant education debt and not much in assets but could still qualify for a loan.

“We put significant credence in professional accreditation. In terms of people who are starting businesses, they’ve invested in themselves. Yes, they have debt, but they also come away with a professional degree or a certification that’s going to allow them to generate income regardless,” Winberg says.

Other Funding Options

1. Home Equity Line of Credit (HELOC): While business lines of credit and other conventional business loans require a few years of revenues and a business credit history, you may be able to tap into other assets. As alternative financing for startups, Winberg says she’s seen many entrepreneurs obtain a HELOC to fund a startup, or to have it on hand as a source of capital that would cost them much less interest than a credit card or a short-term loan. It is important to put the HELOC in place well in advance of starting your business to ensure it is available when needed.
2. Venture Capital: You might find a deep-pocketed individual to fund your startup in exchange for an equity stake or a share of the profits, although that typically happens with existing businesses that have a track record and sales data to prove their viability. Much like the dream financing portrayed on the hit TV show, Shark Tank, venture capitalists typically fund existing businesses that need high dollars to expand or take their business public.
3. Loans from Family or Friends: While self-explanatory, careful consideration should be given before taking this option. The upside includes no formal applications and flexible terms. On the other hand, it won’t help you build your credit history and could potentially damage relationships if things don’t go as planned.

We’re More Than a Lender, We’re a Business Partner

Cogent Bank is a Preferred Lending Participant, also known as a PLP Lender for SBA-backed loans. This gives us unilateral authority for most SBA loans and allows for an expedited approval process for our borrowers.

Cogent does so much more than lending. We have an experienced business development team that’s worked together for decades. As a Florida-based local bank, we understand that sometimes a business customer is just looking for guidance and someone to listen to their concerns.

“At Cogent, we spend time evaluating and advising our borrowers” Winberg says. “Local banks are nimbler, with any necessary conversations with credit and leadership done more readily. For that reason, I think locally run banks have an advantage in terms of their creativity and customized solutions for small businesses.”

Whether you’re bootstrapping, pursuing a loan, or blending funding strategies, Cogent Bank is here to help. To meet Katrina and the rest of our team, please contact us today to learn more!

 Disclaimer: The information contained herein is for informational/educational purposes only. The views and opinions expressed in this document may be those of the individuals and may not necessarily reflect those of Cogent Bancorp and its subsidiaries and affiliates, or the entities they may represent. Content contained herein may be used in connection with the advertising and/or marketing of products offered by Cogent Bank. The material is not intended to provide or substitute for legal, tax, or financial advice or to indicate the availability or suitability of any Cogent Bank product or service. You should consult with a legal, financial, tax, or other appropriate professional(s) for your specific needs and/or objectives before making any decisions.

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