Inflation and the economic downturn have put immense financial pressure on startups and SMBs. In fact, 46% of businesses that have applied or plan to apply for a line of credit say they will use the funds to cover inflation costs.
With the business loan approval rate at big banks hovering around 15%, entrepreneurs need other options. This is where alternative funding comes into play, allowing companies to get funds from sources other than traditional banks. Also known as alternative financing, it spans solutions from peer-to-peer loans to revenue-based financing.
Alternative funding options are critical, not only due to the economic climate. While 57% of business founders got their company off the ground by investing their savings, three months after launch, they looked to additional sources of business financing. Additionally, racial bias also limits business owners’ access to traditional bank loans, making alternatives not just a nice-to-have but a necessity.
- Alternative and Peer-to-Peer Lending
As a $2.8B market, alternative lending platforms are an option for every entrepreneur looking for financing options outside the traditional bank. Peer-to-peer (P2P) lending platforms are an excellent example, connecting borrowers with individual investors who fund the loans.
Prosper is a P2P lending platform where you can get personal loans from $2K to $40K, as well as a credit card. The online application process is easy to complete, and you don’t need collateral. However, a credit score lower than 600 might prevent you from getting your application approved.
Funding Circle is another alternative lending platform that’s geared toward small business funding. To be approved, you must have a personal credit score of at least 660, no bankruptcies on your record in the past seven years, and your company must be at least two years in business. If you meet these requirements, then you’re eligible for a loan from $25K to $500K, with a fixed interest rate and monthly payments.
- Tax Credits
If your company is investing in research and development activities, then you might be eligible to get R&D tax credits that you can use to fund your business. Startups can also get up to $250K to offset their payroll taxes, but they qualify only if their gross receipts in the fiscal year do not exceed $5M and they have a maximum of five years of gross receipts.
In the US, R&D tax credits are applicable to businesses in many industries, including:
- Software development
- Cloud computing
- VR (virtual reality), AR (augmented reality), and gaming
- IT (information technology)
- Biotechnology and pharmaceuticals
In Canada, businesses can apply for the Scientific Research and Experimental Development (SR&ED) tax program.
- Venture Capital
Venture capital (VC) investors fund companies in exchange for equity, usually taking no more than 50% of company ownership. VCs typically fund early-stage companies with a high potential for growth and help them using their expertise and vast network of business connections.
Raising VC funding is complex, and relationship-building is an essential part of the process. Connecting with VCs from firms big and small and building trust over time will increase your chances of success.
Although the number of VC investors has increased by nearly 6x in the last 15 years, VC-funded companies make up less than 1% of companies in the US. And despite the attention-grabbing headlines of multimillion-dollar funding rounds, most startups fund their business by leveraging different types of financing without relying only on VCs.
- Angel Investors
Angel investors and VCs are often put in the same bucket, but there are key differences between the two.
For one, VCs provide funding from a group of partners, while an angel investor is a single person that uses their funds to support businesses. Additionally, angel investors take on startups that are at a very early stage and haven’t received any outside funding so far.
A similarity between the two is that angel investors also invest in the company in exchange for equity. They also provide business advice and introduce founders to people in their network that can drive the company forward.
Grants are an alternative funding solution for business owners that want to avoid debt and giving up their ownership stake in the company. They can be company or government sponsored and usually require you to submit a business plan as part of the application. Grants are also available to support veteran-, women-, and minority-owned businesses.
Among company-sponsored options, the FedEx Small Business Grant helps small businesses that have been operating for at least six months, have fewer than 99 employees, and use shipping for their business.
Startups and small businesses can also apply for the Small Business Innovation Research (SBIR) and Small Business Technology Transfer (SBTT) grants. Businesses must have fewer than 500 employees to apply.
- Merchant Cash Advance
A merchant cash advance (MCA) provides a company with immediate funds that it repays from debit and credit card sales daily or weekly, including fees. MCA providers include Rapid Finance and Greenbox Capital.
Because the APR (annual percentage rate) on an MCA can go as high as 350%, you should only consider it in an emergency, such as a cash flow shortage.
A bad credit score doesn’t make you ineligible for an MCA, as providers pay more attention to your revenue. Higher sales numbers will also help you get a lower interest rate (also known as factor rate). However, an MCA won’t help you build your business’s credit history since it’s a cash advance and not a term loan.
- Revenue-based Financing
Revenue-based financing solutions such as Lighter Capital provide companies with funds in exchange for a percentage of monthly revenue. It’s a similar solution to an MCA, although revenue-based financing is geared toward startups rather than merchants and collects money monthly, not daily.
It’s a suitable alternative funding solution for companies that are already generating revenue. Funding amounts can go as high as $3M, but expensive interest rates mean that business owners could pay double the original amount, if not more.
- Startup Incubators
A startup incubator is a program designed for founders to help them build their idea into a company, raise seed funding, find mentors, get legal advice, and more. For example, incubator Launch House recently announced a $10M fund for startups, offering a maximum of $150K per investment.
Many incubators also offer startups with office or co-living spaces, which is an excellent opportunity for founders to network with others in their industry.
Considering there are hundreds of business incubators in the US alone, it’s helpful to start by narrowing down your choices depending on your industry and location. Startup incubators in tech include Idealab and Z80 Labs, but if your business has already taken off, you can look into joining a startup accelerator, which is a more suitable option for existing companies.
Indiegogo, Kickstarter, and GoFundMe are all options for business owners who want to raise money via crowdfunding sites. Depending on the platform, campaigns provide incentives to attract investors, such as early access to a product or service.
For startups that want to avoid their brand being associated with mainstream crowdfunding platforms, there are options like SeedInvest and StartEngine that only feature vetted companies. Such equity-based crowdfunding campaigns are regulated by the SEC, which limits startups to raising a maximum of $5M over 12 months.
Fund Innovation and Growth With BoastClaim R&D
Companies that aren’t making the most out of tax incentives are leaving money on the table.
For example, analytics company Pisano Insights got a 20% larger claim by using BoastClaim, our AI platform that collects data and analyzes it to help businesses claim their R&D tax credits. Additionally, the company saved its employees more than 50 hours of work, which they could then invest in their business operations.
By claiming all available tax credits and saving time in the process, startups and SMBs are free to direct their attention to fueling more innovation.