Taking a Loan vs Saving to Start Up a Business

by Krantcents · 11 comments

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Starting your own business is the dream of entrepreneurs all across the world. Everyone talks and considers starting their own business, but it takes serious guts to actually go out and do it. There are so many things that can potentially go wrong, and the fear of failure scares some from the potential success. There are countless different ways to fund your business, such as taking a loan, or saving up. It’s important to weigh the positives and negatives of each.

Think about all of the businesses you come in contact with on a daily basis. Nearly every Fortune 500 company in existence today was at one point just an idea in a single person’s head. Some businesses might require hundreds of people to get off the ground but others like Apple were started by two guys in a garage.

One thing nearly all new businesses will have in common though is their constant battle with capital. No matter how successful a business becomes or how big it gets, there will always be shareholders demanding more money or employees looking for more benefits. Starting a business is no different, and obtaining capital is often the biggest hurdle to getting a business off the ground. So what’s the best way to fund your small business?

Taking a Loan to Start Up a Business

The nice part about taking a loan to start your business is that you won’t have to risk any of your own money. But don’t think that banks are just willing to lend out money to anyone for any reason. You’ll need to present a compelling business plan and provide some type of collateral. Banks know that small business lending is riskier than traditional loans like mortgages and auto loans so they charge a premium for that additional risk.

You can expect to pay double or even triple the going rates for mortgages if you’re able to secure a loan. And in order to minimize your personal liability, you’ll want to consider forming an LLC or corporation (for small businesses, form an S-Corporation, not a C-Corporation). That way, you won’t be responsible for debts incurred by your business. There are still some things you can be personally responsible for though (even if you do form an LLC) so it would be wise to consult with a tax professional. The National Association of Tax Professionals’ website at natptax.com is a good reference for finding a qualified representative in your area.

The last thing to consider when taking a loan to fund your business is how much money you want to borrow. It’s often a lot easier to get one large loan rather than several smaller ones so make sure that you conservatively calculate your operating expenses. According to debtconsolidation.com, most businesses don’t even make a profit for the first two years so it’s important that the amount you borrow will cover your monthly expenses until you’re turning a profit.

Saving to Start Up a Business

If you don’t have the credit to get a business loan or you just don’t feel like dealing with the bureaucracy of a bank, you can always save the money yourself. The main benefit to starting a business with savings is that you won’t ever have to make monthly interest payments to a bank. That will actually reduce your monthly operating expenses and enable you to turn a profit much quicker.

There are some drawbacks to this option though. Unless you have a large source of income, it could take some time to save up enough to start your business. And as the saying goes, “time is money!”  By the time you’ve saved enough money, there could be competition that’s got a head start on your new business or the market might not be what it used to be for your product or service.

Comparing the Two Options

Generally, saving to start a business is considered the safe and easy route. Although there’s obviously risk either way, defaulting on a loan could have long-lasting negative effects on your ability to borrow with tools as simple as a credit card. Whereas if you were to lose all your personal savings, you’d be pretty disappointed but you wouldn’t have creditors coming after you and people banging on your door for the money you owe them. There is also the possible risk of bankruptcy that cannot be ignored. If you borrow far more than your means and you quit your regular job you will have no source of income to pay it off. The risks are real, and you should really consider the state that you live in as some are very favorable (let you keep your primary home), while others will take away everything.

Ultimately, you should assess your personal situation and determine which option is best for you. If you’re willing to take on the risk, a business loan will enable you to get off the ground ASAP but the interest payments could make up a significant portion of your monthly expenses. It’s generally considered to be true that the more risk that you take the higher your potential rewards can be. But do not make an assumption that you should uselessly risk your money, everything should begin with a solid business plan that is well thought out in every aspect. You can look up at sba.gov on how to create your own business plan from scratch. This will ensure that you have a solid roadmap for years to come, will have a strategy to prepare for the unexpected, and have the highest percentage chance of success.

Photo by:  Flickr

About The Author

My name is Dona, I’ve always been hard working, but lived a rather unexceptional life until I decided to get up and go. I quit my job, and started my own business. It was difficult and time consuming, but the hard work paid off, and I feel it’s the greatest accomplishment I ever made.

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Nick @ Step Away from the Mall January 14, 2014 at 9:42 am

I’m a big slow-grow guy. I’d definitely prefer saving up over loans. A big part of me would feel more cramped by having borrowed money than by having a smaller business. I guess I’m just happy being a turtle… :)

Krantcents January 14, 2014 at 3:26 pm

There is nothing wrong with that! I think a combination of borrowing and savings is the best choice though. It is the basis for mortgages and real estate which is how I made my money.

Snarkfinance January 15, 2014 at 4:17 am

The decision should be completely dependent to the business in question, there is no blanker statement applicable here (as you point out). For some people or business models, saving is simply out of the question. Also, I would encourage aspiring entrepreneurs to look for partners with capital to contribute in return for shares… no loan liability, and increased expertise which translates into a higher possibility of success. (it is better to own a fraction of a growing profitable business than all of one that isn’t)

Krantcents January 15, 2014 at 6:59 am

I agree! Also, you can use a combination of savings and borrowing.

Shane @ Financial Debauchery January 15, 2014 at 9:09 pm

Starting a business is no easy feat. Risks are abundant; one wrong decision and everything can domino to flop then and there. But I’d still prefer starting a business over spending my entire life working like a routine-driven automaton, really. And then we arrive to the issue of funding. I personally prefer saving up, but who am I kidding, I on my own don’t have the most vast of financial resources. So what I’m doing now is looking into starting a partnership. It’s challenging as I have to be sure to partner with someone who can contribute success. But I find it a more viable option on my end than dealing with everything alone.

Krantcents January 16, 2014 at 7:47 am

The most important part of stating a business is making sure you have something viable! Then the issue of funding should be considered. If the idea is sound, there is no problem funding it.

Alexis Marlons January 18, 2014 at 2:21 pm

I’d rather save money instead, especially for first timers. You will just get too pressured to pay bank commitments while doing the business when you are not sure yet how successful it could be.

Krantcents January 18, 2014 at 9:19 pm

I think a combination of savings and borrowing is the best. Savings alone takes too long and borrowing alone is too risky or leveraged. Very similar to what uccurred with the real estate bubble when the values went down.

Caleb February 17, 2014 at 8:10 am

There is always a risk in staring your own business. Whichever route that you choose to travel, money will be spent and risks will be taken. I believe that it all depends on your own personal situation on which way to go. It is an important decision that must be made which will have last repercussions on your own business.

Krantcents February 17, 2014 at 8:17 am

Most entrepreneurs are risk takers and are willing to do what is necessary to make it successful.

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