How To Finance Your Franchise - Part 1 (Options)

As a prospective franchisee, your potential for success can depend in large part on how you set up your initial financing. However, finding cash flow for your startup – including franchise fees – isn’t as easy as stopping by your local bank.

In this first of a two-part series on financing we look at the common options and discuss the pros and cons of each.

Commercial banks

Commercial banks will make franchise loans, but there are catches even if you have a sterling credit rating. Having a local banker or bank that you’ve done business with over the years is a crucial first step. If you don’t have that connection, securing a loan is going to be much more difficult.

First and foremost, your local banker will want to know if the franchise you’ve chosen is something he or she can bank on. If the chain has numerous franchises with consistently lucrative track records, then your request may pique the bank’s interest.

You will likely be required to invest at least 20 percent of your own money. And then there’s the collateral – your home or other major asset(s) – that you must put up to insure the bank is covered should you default on the loan.

Expect to provide a personal financial statement and tax returns for the past three years, as well as down-payment verification.

If securing a bank loan fails, don’t panic. There are some very viable options. Sometimes it’s best to start with the franchise itself.

Franchise-backed financing

There are franchises out there that will help their franchisees get started. The upside? They may not request collateral. On the downside, your finance entry fee may be priced at a higher rate.

Sometimes franchise fees are waived or reduced for military veterans. Some franchises also have been known to provide equipment discounts, an initial gratis supply of goods, and cash upfront to get started.

Make sure to research ALL possibilities.

SBA loans

The SBA is another great possibility for financing a franchise -- 10 percent of SBA loans go to franchisees -- and there are several types of loans available.

The 7(a) loans are less risky because they are government-guaranteed.

For veterans, the Department of Veterans Affairs’ loans – called the Patriot Express – include a fast approval time, have the SBA’s lowest rates, and soldiers on active duty transitioning back into civilian life can secure loans for up to $500,000. Spouses and survivors are also eligible.

For more detailed information on SBA loans, visit www.sba.gov/category/navigation-structure/loans-grants .

Your 401(k)

It is possible to roll over your retirement egg into a C corporation, which will own and operate the business. Retirement funds like the 401(k) should be a last resort, however. If you’re even considering this option, discuss it first with an expert who can discuss tax implications and the long-term impact on your financial security.