Equity funding trades cash for some portion of your ownership (equity) in the business. Selling stock in your company is an example of equity funding. Another example is allowing someone to join you in partnership, bringing in funds to purchase a partnership share. You can bring money into your company by offering ownership opportunities to a small number of family and friends in what is typically called a "closely held" corporation. You may also seek venture capital funding from outsiders. Some business startups also "go public," offering shares of stock to the public, although this funding method is typically used to fund growth in an existing business, rather than a startup.
Debt Funding creates cash by borrowing, from a bank or mortgage company, or from friends and family, or from vendors (like equipment manufacturers).
The major difference between equity and debt financing is that debt must be paid in a timely basis, while investors may not be paid if the company is not making a profit.
Equity Funding Types
Here are some common sources of equity funding:
- Personal Savings
You can use your own personal savings to create ownership in your new company. You will probably want to do this in order to keep control over the decisions made by the company, particularly if it is a corporation with a board of directors.
- Family and Friends
You may want to ask family and friends if they will invest in your new company. You can make this investment formal, by giving them shares. In this case, the income from their investment will be treated like all other investment income for tax purposes.
- Private Investors
You can seek investors, sometimes called "angel" investors or "venture capital" sources. Usually these people are most interested in technology companies or other companies where they can easily and quickly get a great return on their investment.
You may want to form a partnership and ask one or more individuals to join you. Partnerships work best when the partners are all in the same field (such as attorneys or consultants} where they can share duties and also share in the profits.
Debt Funding Types
Here are some common sources of debt funding:
- Bank Loans
The most common type of loan is bank financing. And sometimes the only way to get a bank loan is with a loan guarantee from the Small Business Administration (SBA) Read more about the process of getting a bank loan in this article.
- Family and Friends
Family and friends may be willing to loan you money for your business startup. If you are seeking bank financing, they may also be willing to become a co-signer on your loan. As a co-signer, the family member becomes responsible for paying back the loan if you can't pay.
- Vendor Financing
In addition to bank loans, you may be able to get financing for equipment purchases from the vendors. They may call this financing a "lease," but it is essentially the same as a loan, with interest rates disguised as fees and other costs.
- Credit Cards
As a last resort, or in addition to the other sources of funding, you may want to consider using available credit cards to finance business startup purchases. Using credit cards can be dangerous, because you can get too many and end up with huge interest payments, fees, and penalties for slow or non-payment. Misuse of credit cards is also a fast way to ruin your credit rating.
Crowdfunding is a new type of funding that doesn't quite fit with either equity or debt funding. Using an online site like Kickstarter.com, you present a project or product and ask people to give to it. You don't have to give up ownership and you don't have loans to repay. You do have to give donors something small in return.