If you are considering purchasing a franchise, one major hurdle to overcome is how to fund the new business. If you have tried to obtain a loan or refinance a business, you know the lending environment today is very different from what it was even 5-6 years ago. In essence, it is harder to obtain financing, even for those with great credit ratings. There is money out there, but it harder to access that it was previously.
When looking at funding the new business, you first need to evaluate all the financing options available and determine which will be the best route for you to take. Because lack of sufficient capital in the initial stages of starting a business (whether your own concept or a franchise) is one of the leading reasons businesses fail, you want to make sure to have adequate financing in place before you purchase. The International Franchise Association (IFA) has a dedicated website to help you look at all available funding options to help you choose which option(s) is right for you: http://franchise.org/IFACreditAccess.aspx.
Below is a brief overview of some of the financing options available to franchisees:
1. Cash. Obviously, if you have enough cash, you have greater options both with conventional financing options, and in quickly getting your business started. As they say, cash is king. But you don’t want to make the mistake of using all your cash up front and not having the ability to access additional capital or to obtain financing down the road.
If you don’t have the cash available, you may want to consider taking on a partner who does have sufficient capital. This is a risk that you will have to carefully weigh when determining if a person is the right partner for you and the business.
2. Veteran Programs. If you in the military and close to retirement, or are the spouse of an active member of the military, you may qualify for the Patriot Express Pilot Loan Initiative. This program is an SBA-guaranteed loan program in which the SBA guarantees up to 85% of the loan, up to $500,000 at the SBA’s then-current lowest rates. The SBA website contains eligibility criteria and requirements.
In addition, the IFA has started the VetFran program to help honorably discharged military personnel finance their purchased franchise. Franchisors who participate in the VetFran program will typically offer reduced initial fees and/or reduced ongoing and other initial expenses.
3. SBA Loans. This option is especially viable if you are looking at a franchise system that has registered on the SBA Registry. The process to obtain financing is faster and easier with a registered franchise system.
4. 401(k) and IRA. This is a risky option, but has its advantages if properly done. Before moving forward with this option you should speak with a qualified tax attorney or accountant who can discuss the tax implications in using retirement funds.
5. Equipment Leasing. Remember, you don’t always need to purchase everything up front. If the franchisor allows you to lease, this can be a great alternative.
6. Conventional Loans/Commercial Lending. This type of funding is often difficult to obtain because your credit score is the most important factor in determining to grant or deny a loan. Even then, a great credit rating will not often overcome a high debt to income ratio. You will often need to put 20-30% down in order to qualify.
7. Franchisor Financing. This option is rarely made available. However, if it is, the financing and terms will be set out in Item 10 of the FDD.
8. Other Options. In addition to the above there are home equity loans, signature credit lines and online loan portals.