In this article:
- Can You Use a Personal Loan to Start a Business?
- Where to Get a Personal Loan to Start Your Business
- How Much Can You Get in a Personal Loan to Start Your Business?
- The Pros and Cons of Using a Personal Loan to Start a Business
- Alternatives to Using a Personal Loan to Start a Business
- Get Your Credit Ready for Business Financing
Getting funding as a new business owner can be incredibly difficult. Unless you have strong revenues and a few years in business under your belt, you'll have a hard time getting traditional business financing.
What's left mostly includes expensive short-term loans. But one other option you might consider is a personal loan. If you're thinking of starting a business, here's how a personal loan might be able to help.
Can You Use a Personal Loan to Start a Business?
Personal loans are among the most versatile forms of credit available. While some lenders do restrict how you can use your funds—including for starting a business—there are others that don't include business purposes on their exclusion list.
Lenders may state on their website whether they allow borrowers to use loan funds to start a business. If you can't find that information, it's best to carefully look through your loan agreement and be honest about your intentions on any forms you fill out.
If you're still unsure, contact the lender to let them know what you plan to use the money for and ask if it's allowable under their terms and conditions. The lender may prohibit borrowers from using their loans for business purposes and could require immediate debt repayment if it's determined you did it anyway.
Where to Get a Personal Loan to Start Your Business
You can get a personal loan through several types of lenders. Regardless of the loan's source, however, it's important to keep in mind that personal loan interest rates can vary depending on your creditworthiness.
If you have excellent credit, you may be able to qualify for a loan with an interest rate in the low single digits. But if your credit is fair or poor, you may have a hard time qualifying for a rate under 30%.
As a result, it's crucial that you take some time to shop around and compare offers. Using Experian CreditMatch™, you can get matched to personalized loan offers from multiple lenders in one place based on your credit profile.
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In addition to that, here are some general places you can look:
- Traditional banks: Some big banks such as Bank of America and Chase don't offer personal loans. But others, including Citi, Discover and Wells Fargo, do. Additionally, many community banks offer them. If you bank with an institution that offers personal loans, check to see if you can get a good offer based on your relationship with the bank.
- Credit unions: Credit unions generally offer better terms than banks because they're not-for-profit organizations owned by their members. Instead of returning profits to third-party shareholders, they funnel that money into offering better loan terms, including lower fees and interest rates. That's no guarantee you'll get the best rate, but if you're a member of a credit union, it's a good idea to check to see what's available.
- Online lenders: Some of the best personal loan offers come from online lenders, which include traditional banks, online lending platforms owned by banks, and other lenders that don't offer traditional banking products. What's more, many of these lenders allow you to get prequalified before you apply. This process doesn't impact your credit and makes it possible for you to more easily compare rates to find the best option for you.
How Much Can You Get in a Personal Loan to Start Your Business?
Personal loan amounts can vary depending on a few different factors, including by lender. Depending on where you look, you may be able to get as little as a few hundred dollars up to $100,000.
That doesn't necessarily mean you can borrow up to the maximum amount, though. Lenders will review your credit history, income and other debts to determine how much they're willing to lend to you. For example, if you have a relatively low credit score or a high debt-to-income ratio, you may be limited on how much you can borrow.
Fortunately, if you're working with lenders that offer prequalification, you can usually find out what you qualify for during that risk-free process.
The Pros and Cons of Using a Personal Loan to Start a Business
Personal loans can be a good way to get the funding you need for your business, but there are some potential pitfalls to watch out for. Here are some benefits and drawbacks to keep in mind.
Pros
- They're relatively inexpensive. The average interest rate on a two-year personal loan is 9.65%, according to the Federal Reserve. That's cheaper than most financing options available to new business owners.
- They don't require collateral. A lot of business loans require you to put up collateral to get funding. In contrast, most personal loans are unsecured, so you don't have to worry about losing a major asset if you can't repay.
- They're fast. In many cases, you can get your personal loan funds within a few days of getting approved. In contrast, some business loan options can take weeks.
Cons
- They don't build business credit history. If you're hoping to build a credit history for your business so you can get a business loan in the future, you may want to opt for a business credit card instead.
- They typically offer shorter repayment terms. Personal loans typically max out at five to seven years on repayment terms, and some are even shorter. Depending on how much you borrow, the monthly payment may be unaffordable.
- Some charge upfront fees. Some personal loan companies charge an origination fee, which is deducted from your loan disbursement. Depending on the lender, that fee can be as high as 8% of the loan amount.
Alternatives to Using a Personal Loan to Start a Business
Depending on your situation and goals, here are some other ways you may be able to fund your new business idea:
- Business credit card: Business credit cards offer a revolving line of credit you can use over and over again. Some even provide an introductory 0% APR promotion, so you can take time to pay off startup costs without interest. Plus, you may be able to earn rewards and enjoy other perks. However, interest rates can be upwards of 20%, depending on your credit.
- SBA microloan: The SBA microloan program offers loans up to $50,000 and is specifically designed for startups and expansion. Of course, lenders can set their own eligibility criteria, so you may still need to meet requirements for time in business and revenues to get approved.
- Nonprofit microloan: Microlending platforms like Kiva offer small loans with low or even 0% interest rates. The catch is that you need to get people in your community, such as friends and family, to fund a small portion of the loan.
- Crowdfunding platforms: If you're developing a product, consider using websites like Kickstarter and Indiegogo to get initial funding for your business plan. Instead of paying the money back, you'll give funders early access to your product.
Get Your Credit Ready for Business Financing
Before you start the process of seeking funding for your business, check your credit score to see where you stand. If it could use some improvement, take some time to address the items that are harming your credit profile and work to increase your credit score before you apply.
The higher you can get your credit score, the more options you'll have and the more affordable the interest rate will be.