You need three things before you actually approach lenders to get financing for a franchise: a good credit report, a sound business plan, and some cash of your own. Most prospective business buyers are expected to come up with anywhere from 15 to 30 percent of the estimated cost of buying and starting up a business. People often rely on accumulated savings, home equity, or the generosity of family and friends to come up with that initial portion of the cost. What sources can you avail of to help you finance your franchise operation? View the following list of relevant orhanizations set up to help first time entrepreneurs or potential franchisees enter into the franchise industry.
1. Small Business Association (SBA) Funding
First-time business buyers typically require a Small Business Association (SBA) loan guarantee when applying for financing. The U.S. Small Business Administration (SBA) was created in 1953 as an independent agency of the federal government to aid, counsel, assist and protect the interests of small business concerns.
The loan guaranty offered by the SBA reduces the risk of the lender (typically a participating bank) because the SBA assumes liability for non-payment of the loan up to the amount of the guaranty. When a small business applies for an SBA Loan, it is actually applying for a commercial loan that is structured according to SBA requirements – that is how it receives the SBA guaranty. Many banks work with the SBA for loan qualification, so simply ask your local lending institutions about the program.
There are several loan programs available through the SBA. The most commonly used for franchise financing are the SBA's 7(a) program.
- What is the 7(a) program?
The 7(a) program qualifies small start-ups and existing small businesses for loans from commercial lenders, and helps small businesses, who might not be able to get a loan through ordinary lenders, to qualify for financing. It is a flexible program that can be applied toward all types of business expenses, including start-up costs, machinery, fixtures and real estate – the types of things required by any franchise with a storefront.
The SBA's web site offers numerous helpful resources for prospective business owners. To find out how to qualify for an SBA loan to finance a franchise, and for other information about the SBA, visit the agency's web site for more information: http://www.sba.gov.
Hundreds of franchisors work directly with the SBA to streamline and expedite the qualification process for franchise financing. This could even be an influential factor is choosing which franchise to pursue. You can view which franchisors are on the SBA registry at this web site: http://www.franchiseregistry.com.
There are also other financial resources out there to help prospective franchise buyers.
FranFund (http://www.franfund.com/ ) is a consulting service that does all the legwork for finding and comparing loan options. The firm reviews your financial situation and funding requirements, then presents several lender alternatives. They can help with the loan application too.
You can find a one-stop-shop for franchise loans at FranchiseFinancing.com which provides services from pre-qualification to loan packaging, approval and actual funding. The company works with SBA and pro-franchise lenders, and offers several of its own programs. They are experts are winning financing for franchise start-ups, so prospective franchisees have a high success rate for securing financing using this service.
4. Using your IRA or 401(k) as funding:
One option for franchise financing is to use retirement savings, such as an IRA or 401(k) account. It is complicated though, and it is crucial that anyone using this method strictly follow the rules to be in total compliance with IRS regulations.
The franchisee must form a C corporation that will operate the franchise, then that C corporation creates a 401(k) retirement program. An employee of the C corporation (the franchise owner) then rolls over funds from existing IRA or 401(k) accounts into the new retirement fund. The C corporate 401(k) program then buys stock in the franchise business, and this capital infusion is used is to fund the business.
Since there can be tax and penalty ramifications regarding the use of retirement savings, it is important that everything is done according to the letter of IRS law. A good resource for people looking for help with this approach to franchise funding is the Guidant Group.
Guidant specializes in helping entrepreneurs leverage their existing IRA, 401(k) or other retirement savings to start up a franchise. Since there are tax and penalty risks connected to early or improper distributions from retirement accounts, working with an expert, such as Guidant, helps avoid any IRS violations.
And last, but not least, always have your accountant and lawyer review any finance packages and terms.