Credit and finance options for young entrepreneurs
Ask a question.
Dear Your Business Credit,
I will be graduating from college soon and want to start a business. I don't have a credit card, so I haven't built up much of a credit history. What types of financing options are available to someone like me? -- Self starter
Dear Self starter,
Before you start looking for financing, it's important to figure out what your expenses will likely be and how much they will cost you. That will help you go after the right financing options.
Try writing a simple business plan, including a budget and revenue projections for the first year. Since you may have student loans to pay, as well as living expenses, you'll want to conserve cash by minimizing your business overhead.
As you create the budget, ask yourself if each of your planned expenses is a "want" or a "need." You may want to rent an office in a co-working facility immediately, but if you won't realistically be able to generate any revenue in the first three to six months, you may be better off working from home until then. (This can be a little isolating, especially if you are running a one-person business. Joining a group for entrepreneurs such as Lean Startup Meetup to help you connect with others trying to achieve great things on a shoestring.)
Once you know how much money you need to spend on the business, you can start figuring out how to get it. It's not realistic to expect to get a bank loan for a brand-new startup, especially if you have a limited personal credit history. Bankers will want to know you will be able to pay them back -- even with the credit climate thawing a bit -- and it will be hard to provide any proof, such as a high credit score.
Your best option may be to earn the money for your startup -- either before you start selling anything or while you're building a customer base. In a business where you'll be selling a product that generates immediate cash, whether it's T-shirts or gourmet coffee, paying for your overhead out of cash flow may be a good option. This is what's known as bootstrapping.
If you are starting a professional services business, it'll take a few months to complete projects and get paid for them, so you will need some other source of cash during that period. Taking a job that generates some income may do the trick.
For basic expenses such as office supplies, a credit card may be enough to cover your needs. CreditCards.com publishes a list of student credit cards designed for young people who have not had a chance to build much of a credit history. If you are younger than 21, you will need to show proof of income or have an adult co-signer, such as a parent, on the account.
Make sure you understand the terms of the deal you're getting. Some credit cards can be expensive to use, especially if you can't pay off the full balance each month. The 2012 Year-End Economic Report by the National Small Business Association found that the percentage of small businesses using credit cards for financing falling. It dropped from 34 percent in 2011 to 31 percent a year later, the lowest percentage since the survey started asking about this in February 2008. Among respondents, 49 percent believed the terms of their credit cards had worsened in the past five years.
Crowdfunding can be another good option for startups. In this form of financing, you can create a campaign on a site such as Kickstarter, Indiegogo or RocketHub, soliciting small donations from customers, supporters and friends by contacting folks in your social network. If you reach the funding goal you set by a deadline you select, you get to keep the money. If not, you forfeit it.
It's not always easy to raise money this way. Research released in March 2013 by Ethan Mollick, an assistant professor at the University of Pennsylvania's Wharton School, looked at more than 48,000 crowdfunding campaigns on Kickstarter. It found that the bigger the founder's social network, the greater the odds of success. It also helps to get featured on the site and to be able to offer evidence that a project is high quality by, for instance, posting a video teaser of a film project. But the work you put into building a strong campaign can pay off. If you succeed in raising money, you won't have to pay back your donors.
If you need more substantial funding, bringing in an equity investor may be a good idea. Some young entrepreneurs enter local business plan competitions with the hope of meeting financial professionals who can help them. Often, these competitions recruit private investors, known as angels, and venture capitalists as judges. Others may put you in touch with lenders who are interested in reaching out to the small business community, though this is less common. Check in with the business school at your university to find out if there is a contest at your school. Many competitions are open to alumni, so even if you missed this year's deadline you may be able to enter the next one.
Meet CreditCards.com's reader Q&A experts
Does a personal finance problem have you worried? Monday through Saturday, CreditCards.com's Q&A experts answer questions from readers. Ask a question, or click on any expert to see their previous answers.
- How to protect yourself and your business from 'tech support' scams – Tech support scams, where you receive a phone call from somebody requesting access to fix your computer and demanding pay, is a growing trend. Don't fall for it! Here's how to protect yourself ...
- How to protect your business against e-commerce chargebacks – There are several steps you can take if your business has become a regular victim of fraudulent online chargebacks. Start by taking a look at your payment acceptance methods ...
- What merchants should do when they suspect card fraud – Suspect fraud on an otherwise approved credit card purchase? As a merchant you may be liable if you don't follow the card network's guidelines. Here's what you should know ...