Getting access to the capital you need to propel your startup can be tricky. Fortunately, banks as well as federal, state and local governments offer hundreds of different loans designed to meet the needs of all kinds of business ventures.
As you prepare to apply for, spend and repay a loan, here are five guidelines for responsibly managing the money you need and the operations you will fund:
1. Saving Cash for Emergencies
Before you take out a small business loan, make sure you have saved some money for a business emergency fund. Any unexpected cost or situation that requires cash will be easier to handle if you have a fund ready to go.
You may not have profits coming in right away, and you need to pay your vendors before you receive the cash for products or services. You may have to wait while loan paperwork is processing. The bottom line is that it’s a good idea to have some cash on hand.
2. Covering Operating Costs and Loan Payments
As you figure out how much to borrow, be sure to compare all expenses, including loan payments, to expected profits. Make sure you know how you will pay employees, purchase inventory and keep the business running while you’re making payments to your lender. Predicting all costs can help you to make sure you have the funding ahead of time, rather than running out of cash when you’ve already invested large amounts of time and money.
Once you’ve determined that you will be making enough cash to cover expenses, make sure that the timing of when you will be receiving income and paying bills balances out. You can put together a cash flow projection to insure that there are no gaps.
3. Spending the Loan
Receiving approval for a business loan is a major accomplishment, but also a step that brings with it even bigger responsibilities. The type of loan and lender agreement you sign will be one factor in deciding where the cash will go. Also, your business plan will be your guide as you begin making purchases.
Here are some examples of typical items you may use your loan for:
- Purchasing equipment, machinery, furniture, fixtures, supplies or materials
- Operational expenses
- Accounts payable
- Purchasing inventory
- Short-term working capital needs
- Construction financing
If you have other business debts you were planning on repaying with the loan, know that there will be restrictions concerning refinancing of existing business debt.
4. Waiting to Use a Loan for Rent
If you can get your business running while working in a garage, your house or cheap space, start here. A small-scale investment will protect your long-term finances.
Focus your spending on the necessary items you need to prepare and start selling your products or services. Put off the luxury of having a large working space until after your business has experienced some success, and you have sales you know you can depend on.
5. Repaying Your Loan
Your lender will provide you with options for how to repay your loan. Make sure you fully understand the timeline, interest accumulation and conditions associated with your loan, as well as penalties you may face if you cannot repay the loan in a timely fashion.
Having your emergency fund will help you if your business encounters unexpected difficulties. Try to cut back on costs, rather than skipping loan payments, when finances are tight.
Some business owners may choose to rely on credit cards to pay off loans, but the interest payments will add up over time. An alternative to using credit would be selling off a part of an annuity to quickly get the cash you need to get back on track.
Conversely, if you are making more than you projected and want to repay your loan faster, make sure you are aware of any penalties that early repayment may incur.