Franchise Financing: Funding Options
Starting your own franchise business is impossible without enough capital to cover its initial costs.
Want to know your best options?
In this article, you will learn how you can finance the purchase of a franchise, where you can find financing assistance, and some of the risks you need to consider before embarking in.
1. Bank Financing
The first place to look for a franchise financing is a commercial bank. It can give you a traditional term loan, where you can borrow a substantial amount of money to cover your initial franchise costs. The amount will be paid, with additional interest, in a set amount of time.
RISK: Banks are secured lenders that have strict requirements. Most banks require collaterals, a factor where many borrowers become unqualified for the loan application.
2. Franchisor Financing
You can also turn to your franchisor for internal financing. They can offer financial assistance directly or through third parties to help you get started. In some cases, internal financing has interest rates that are higher compared to other options but, you may not need to set a collateral.
3. Home Equity
Another great way to fund a business is through home equity, given that you own a home and at least have 30% equity in it. You can borrow up to 90% of your equity for as low as 3% interest rate. There are two types for this kind of financing:
Home Equity Loans – a loan that has a fixed rate and is paid monthly until the total amount is settled. It is a one-time loan that cannot be expanded for additional borrowing once received.
Home Equity Line of Credit (HELOC) – a loan that is provided incrementally where you can draw additional funds up to the credit limit. You will only pay for the interest of what you’re spending.
RISK: This financing uses your home as collateral. If you can’t repay the amount you borrowed, you risk losing your home.
4. Retirement Fund
If you have an eligible retirement account such as 401(k) or Individual Retirement Account (IRA) you may consider using it to fund your franchise business. But, instead of taking an early withdrawal, it will make more sense if you set up a C corporation that will own and manage the business.
5. Rollovers as Business Startups (ROBS)
It works by rolling over your money from your retirement account into the corporation to invest it in your franchise, without paying for taxes or an early withdrawal penalty. It is also not a loan so there’s no debt or interest to pay for.
RISK: If the franchise fails, you could lose your entire retirement fund so it’s wise to consider this option carefully.
6. Small Business Administration (SBA) Loan
If you want to raise your chance of securing a financing, you can look to SBA loans. Such loans have long repayment terms and low interest rates, and are backed by the government. SBA doesn’t make the loans itself, but will guarantee up to 80% of it. It increases the confidence of lenders to approve a loan.
Alternative Funding Sources
Family and Friends – Not a lease option, you can ask a family member or a friend to invest in your franchise as a partner or offer you a loan which you agree to pay back.
NOTE: While this type of financing is negotiable, it’s best to create an agreement that writes in detail its terms and conditions that will protect all involved parties. You can also opt for an administrative service that will manage your loan.
Equipment Leasing – This is a popular option for most companies, regardless of size. It reduces the capital you need for your franchise and preserves your credit for other business needs.
Do you own a franchise business? Which funding method did you use? How did it help you? Let us know in the comments section below.
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