Looking to raise capital for your small business? There are several ways to seek funding, each with its own set of advantages and challenges. In this article, we’ll explore common methods for how to raise capital for a small business.
In this article:
- Self-funding or raising capital through friends and family are common ways for business owners to get their operations off the ground.
- Crowdfunding, incubators/accelerators, and small business loans are alternative funding options that provide capital through public support and mentorship, each with its own trade-offs.
- Investors such as angel investors, venture capitalists, and revenue-based financiers offer capital in exchange for equity, with varying levels of control and financial expectations.
Self-Funding or Raising Capital through Friends and Family
For brand new businesses, typically owners use their own savings, personal assets, or income to get the business established. Alternatively, you can consider raising money from friends or family in exchange for equity in the business, though there’s always the risk of straining personal relationships if clear terms and boundaries are not set.
Crowdfunding
Crowdfunding from the public on platforms like Kickstarter or Indiegogo can be an option for certain small businesses, especially creative or product-based businesses with an established customer base. Crowdfunding is an excellent way to raise capital to bring a certain product to market — or expand existing products — without giving away equity in the business. However, there is significant time investment in planning and marketing the campaign, as well as fees charged by the platforms.
Crowdfunding as a result of a business venture is, in most cases, considered taxable income by the IRS. You’ll want to consult with a tax professional if you choose to raise capital by this route.
Incubators and Accelerators
Business incubators or accelerators are programs that provide startups with things like funding, mentorship, office space, and networking opportunities in exchange for equity. Top incubators include Y Combinator and Techstars. While these examples are major business incubators, your own city may have entrepreneur centers that offer their own accelerators. We suggest checking with your local Chamber of Commerce or a local university’s marketing departments to see if such entrepreneur centers exist.
Revenue-based Financing
This is a financing model where investors provide capital in exchange for a percentage of future revenues or sales until a predetermined amount is repaid. Unlike debt financing, interest is not paid on the balance, nor are there fixed payments. And unlike equity financing, the investor does not own shares in the business. With this in mind, revenue-based financing is typically more expensive than debt financing in the long run, as repayment is a percentage of revenues rather than a fixed amount.
Investors
Angel Investors
Angel investors are wealthy individuals who provide seed money to early-stage startups, often in exchange for equity. Unlike a loan, an angel investor puts money into a business with the expectation of a payoff only if the business is successful. Many angel investors are passionate about helping bring great ideas to life.
An angel investor’s involvement in the business will depend on that individual. Some may want a more involved role — typically in the form of mentorship — in the business, while others may take a hands-off approach.
Websites like the Angel Investment Network connect angel investors with entrepreneurs looking to raise capital.
Venture Capital
Venture capital is a type of private equity investment for startups and small businesses with the potential for exponential growth. The investors on Shark Tank are a popular example of venture capitalists. While securing venture capital means access to significant funding and expertise, the trade off includes significant dilution of ownership, loss of some control (VCs often want a say in business decisions), and high pressure for fast growth and profitability. Most small businesses will not seek this type of capital unless the ultimate goal is to grow into a major corporation.
Small Business Loans
While not technically the same as raising capital, a small business loan is another option for you to access capital in order to grow your business. Term loans, lines of credit, and SBA loans are all funding options you can consider for your small business.
Make smart business decisions with the help of Landmark CPAs
No matter which funding method you choose, talk to a Landmark CPA to understand the tax implications for raising capital. Get started working with us here.