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How to Finance a Business Idea: It's Usually Up to You

If you're wondering how to finance a business idea, another way to put it is, How do I find startup capital? The first step to financing a business idea is turning that idea into an invitation for investment.

In some cases, your startup financing may simply need to be enough money for you to write a business plan and perform the research to support your contention that your idea is new and that a market for it exists. If your idea is compelling as well as unique, a business plan alone - bolstered by substantial research, may be enough to attract investors.

But in most cases, your startup financing will need to carry you to actual commencement of business operations. A point at which potential investors will be able to see your product or service in production and they will be able to judge your personal commitment to the business. This is also the point at which (sometimes not until you have been in business for six months, or up to two years) you can approach a bank or credit company to apply for a loan or line of credit.

That early stage of getting your idea up on its feet can be the most difficult round of financing for any business, if the sum is too large to be covered simply by your own savings. Here are summaries of the most common methods used to raise the initial startup money to get a business idea on its feet:

Borrow Against Your Home, Savings or Insurance

With today's easy access to home-equity loans, borrowing against your house is often the best deal around. Keep in mind that once the home-equity loan is issued, you will immediately begin paying monthly on that loan, as well paying the primary monthly mortgage payment.

If you plan to start your business on the side, while remaining at your job full time, you may be able to borrow a percentage of your 401 k retirement account balance. The interest rate on such loans is usually very competitive, but this is not a plan to enter into lightly. Under certain circumstances, such as your termination from the company, you may be required to repay the entire loan within 30 days.

Another approach is to seek a loan from a bank, credit union or other source using your personally held savings and investments as security. This has the advantage of keeping your investments in place, while they secure the loan that will most likely be issued at a competitive rate, depending on the size of the investments you have pledged as security.

In the case of insurance, if you have a whole life policy, you may be able to borrow against it up to 90% of the cash value. Rates are usually very competitive, but make sure you research the fine print. Don't borrow if your coverage will be discounted, in the case of your death, because of the outstanding loan.

Use Credit Cards to Pay For Your Startup

Unlike business or personal loans, if you have a credit card with an open balance you don't need to provide any sort of security to start charging what you require to launch your business. Is this a practical approach? Sometimes. It depends on the interest rate on the card and the minimum payment you will need to make. You will want to make a payment that is larger than the minimum required payment each month. If you do not pay a portion of the principal each month, on top of the minimum payment, the balance will begin to grow beyond the price you paid for your business purchases. If that is allowed to happen, the revolving credit structure will quickly eat away at your capital.

Borrow From Friends or Family

Finding capital often leads to friends and family members who are willing to provide interest-free start up loans for new companies. To protect your important social ties to these individuals, be sure to clearly explain the benefits and risks of your new venture, and put the loan in writing, so that your friend or family member will be legally affirmed as a primary creditor. If your business does not succeed, this status will help your friend or family member recoup part of their losses in any apportionment of business assets to long-standing creditors.

How to finance a business idea is really a question that comes down to who you are and how you interpret risk. All of these approaches to raising capital involve risk. Your faith in your idea, your personal financial situation, and your level of aversion to risk will ultimately guide you to the choice that you think you can live with. Unfortunately, you cannot find out if your business idea has merit if you don't assume at least some personal risk.

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how to finance a business idea: it's usually up to you