(This column originally appeared in Entrepreneur)
Opinions expressed by Entrepreneur contributors are their own.
As I write this, commercial interest rates — the rate businesses pay for working capital, equipment and property loans — have more than doubled over this past year.
My clients are now seeing commercial rates exceed 10% — that’s going to be a big challenge for those that rely on debt to fund their operations and expansion, let alone those entrepreneurs looking to startup and grow their businesses.
The financing environment will be tough in 2023. Less businesses will get approved for loans as the financial services industry contracts in response to continued high interest, inflation and a slowing economy. But it’s not a catastrophe. There will be money out there if you’re willing to pay for it. Here are your best choices to consider.
Big bank loans
For starters, if you don’t need a loan, then you should definitely go to a traditional bank. I’m kidding, of course. But traditional banks — and you know the names — are the most risk-averse of all lenders. They are going to lend money to businesses that have collateral, history, solid credit and the ability to pay the loans back almost without question. Interest rates and terms, assuming you meet those requirements, will always be the most favorable compared to other financing options.
Small bank loans
Besides the big banks, there are independent and community banks and credit unions all of which offer different types of loan arrangements and may be more amenable to dealing with a smaller company that isn’t as qualified to get a loan from a big bank. But still, these banks, though a little more entrepreneurial, tend to also be very risk averse and will require significant due diligence.
The best option in 2023 is to seek out a loan from a lender certified by the Small Business Administration. Those loans (called Section 7a or 504) can be offered at market or slightly above market interest rates. Because most of the amounts are guaranteed by the federal government, the banks offering these loans can do so to smaller companies with less of a financial history or collateral available and are less at risk. But it’s still not a slam dunk and you’ll have plenty of hoops to jump through.
If you’re looking for a very short-term loan to satisfy an immediate financing need (a big inventory purchase, a down payment on a lease, a deposit on a new piece of equipment) you can try an online banker like Kabbage, Fundbox and OnDeck. These companies charge extremely high annual interest rates, but no sane business person would borrow from them for the long term. The upside is that these services provide funds very quickly — in some cases within 24 to 48 hours — and (as opposed to many banks) are more technology-oriented to gather data, monitor their loans and communicate issues.
If you’re in the retail world then you might want to consider a merchant advance, which are short-term loans provided by popular payment services like Square, PayPal and QuickBooks Merchant Services. Your loan qualifications are determined by your actual sales volume to which these payment services are privy because, well, they’re already handling your cash. Like online lenders, interest rates are much higher than what traditional banks offer but the funds are quickly deposited in your account and payback is done automatically through the sales transactions you record with the service.
If you’re a very small business or a minority business owner or someone located in a lower-income part of the world then you should definitely look into the State Small Business Credit Imitative. Thanks to prior pandemic-related legislation, $10 billion is being distributed this year and next by the Treasury Department to states (based on a number of factors) that will then be allocated to local nonprofits and other organizations that support small and minority-owned businesses. You can Google your state and the State Small Business Credit initiative to find out what organizations are getting this funding and then apply directly to those organizations. Grants and equity investments are also available through this program.
For startups and very small businesses, you can also look for microloans offered by nonprofit organizations like Kiva, for example. These amounts are — by definition — very small but organizations like this one also provide good consulting services and can connect you to other places that offer finances for companies at your early stage.
Although these companies don’t charge as much interest as some of the short-term online lenders mentioned previously, interest rates are still higher but so are approval rates. Collateral — oftentimes receivables (for companies that “factor these amounts) and inventory — will be required. The best place to find these lenders (and other more traditional forms of financing) are platforms like Lendio and Fundera which offer a “marketplace” of different vehicles provided by their partners and an easy way to apply for them all.
What about credit card financing? You know you’ll pay a hefty interest rate but don’t knock it entirely — it may be a bad choice unless it’s for very short-term needs. Just make sure you’re not building your business around credit card debt because as interest rates continue to rise, so will credit card rates.
Family and friends
Finally, there are friends and family. A lot’s been written on this so I don’t have to tell you of the potential perils. You already know them. But getting a loan from a reasonable friend or family member can provide you with a reasonable rate of interest and flexibility. It all depends on the people involved.
The takeaway is that 2023 will be a tough year for financing. But not impossible. Just make sure you can afford it. And give yourself the flexibility to renegotiate in the future when rates do eventually come down.