Ever since the Startup India campaign was announced in the year 2015, the number of new small and medium businesses has been on the rise. The campaign is based on the action plan aimed at promoting bank financing for startup ventures to boost the culture of entrepreneurship and encourage the startups which will eventually lead to more job creation and reduce unemployment in the country. The youth of the country are incorporating their passion with their ideas to create startup ventures for themselves and do something that they always dreamt of.
However, every startup needs financing, particularly at its initial stage. Financing is required to help startups set up and expand their operations, to develop new products, market their services, etc. India has a well-developed financial system comprising of banks, financial institutions, non-banking financial companies, and venture capital companies. All these institutions cater to the diverse financial needs of the startups as well as existing businesses. Several schemes are being implemented by various financial institutions and banks to cater to the financing needs of the Micro, Small & Medium sized businesses as well.
With an excess of funding options available, it is crucial for entrepreneurs to understand the merits and demerits of each. Plenty of venture capital firms and other angel investors offer wide coverage and can be considered as a great and reliable source of funding for start-ups. Yet, not all startups can live up to the high standards and low risks requirements that investors demand. Many entrepreneurs are unaware that banks and financial institutions are also avenues for funding their startup. Banks have categorised a special type of loan called Startup Business Loan. A Startup Business Loan in the form of a line of credit works in a similar manner to a credit card.
New companies can now avail a range of startup business loans for working capital or even consider asset-backed loans based on their requirements. Banks will even lend to a startup if they are satisfied with the business model, projected growth, profit-making capacity of the company, projected returns from the business, the ability to pay back the loan, management experience and expertise, and other security provided.
Benefits of Startup Business Loan from Banks
Availing a business loan from banks for startup can be advantageous in many ways as compared to availing funds from some other financial institutions.
- The funds from venture capitals are quite expensive for a startup with investors of venture capital asking for as much as 5 to 10 times of the return on their investment. However, a bank loan does not require any equity dilution and the rate of return to the bank is fixed at a nominal amount fluctuating between 13% and 17%.
- Furthermore, banks are easier to approach. With plenty of banks available in India, it is simpler to approach your local banker and request for funds than setting up a meeting with a venture capitalist or other investors and following through with their demands.
- Banks in India have an established and well-structured framework for processing the funding request of entrepreneurs. Therefore, your loan request will be processed more quickly compared to capitalist investors.
- Another significant benefit is that the profit (as well as the loss) of the business belongs only to you. You are not answerable to the bank about the profit and loss of your business.
Types of Startup Business Loan
- Growth Capital and Equity Assistance
Entrepreneurs can now avail this distinct type of loan for their start up from the banks. Many banks and financial institutions offer loan schemes that are specifically designed to fund startups and their special needs. Different banks may assign different names for these Startup Business Loans. For instance, SIDBI offers “Growth Capital and Equity Assistance” schemes that can be used for marketing, brand building, creation of distribution network, technical know-how, R&D, and software purchases.In addition, SIDBI also provides a revolving fund for technology innovation which provides financial assistance to MSMEs towards growth, up-scaling, demonstration, development, expansion, and commercialisation of new innovations in emerging technological areas, unproven technologies, new products, new processes, etc. which have not been successfully commercialised so far. Similarly, there are banks that provide capital financing for startups.
- Equipment financing
Under this type of funding, the equipment that is bought when starting the business is kept as collateral with the bank, thus enabling the lender to charge a relatively low rate of interest with slightly higher risk. The borrower is expected to repay the loan amount used to purchase the equipment as revenues that are generated from their business. Similar to a line of credit, applicants are expected to have a decent credit score, and the documents required to avail equipment financing include a vendor quote, a detailed credit report, and a statement showing the manner in which the customer intends to utilise the equipment. The main benefit of equipment financing loan is that the depreciation of the equipment can be used by the customer as a tax benefit for many years.
- Rollover for Business Startups
This, in other terms, can also be called as retirement money. Under this loan scheme, you can borrow up to 100% of your retirement savings. This lets you use retirement funds without early withdrawal taxes or penalties. Entrepreneurs can now use their retirement savings and grow as their business succeeds. This can work both as the fund for growing your business and once your business starts to succeed, you can begin to save your retirement money once again from the profits you will earn from the business.
- Business Instalment Loan
Business instalment loan is offered by many of the leading banks such as Standard Chartered and ICICI Bank. This lets you address your immediate cash and expansion needs. This broadly falls under the category of personal loans and similar to personal loans, it is an unsecured loan. However, banks offer secured version of this loan at lower interest rates.
Startup Business Loans: Eligibility Criteria
Sometimes, even banks hesitate to grant loans to start–ups. It is an inherently high-risk investment and they are naturally wary of losses. Consequently, banks have set high margins for their eligibility criteria to grant Startup Business Loans to entrepreneurs. Failing to meet the specified eligibility criteria may result in denial of the loan for you. The gist of the various eligibility criteria are mentioned here:
Your startup must meet the definition of a startup laid down by the Government of India. For instance, the definition states that “Startup means an entity, incorporated or registered in India…” Other important parameters include limitations such as the start-up must be new and not more than five years old. Startups should not have an annual turnover exceeding Rs. 25 crore in any preceding financial year. They should be working towards innovation, development, deployment or commercialization of new products, processes, or services driven by technology or intellectual property. Such enterprises are eligible for Startup Business Loan from various banks and other financial institution offering the loan.
The enterprise must not be formed by splitting up or reconstructing a business already in existence. A company is no longer deemed to be a startup if its turnover for the previous financial years has exceeded Rs. 25 crore or it has completed 5 years from the date of incorporation/registration. Further, a startup shall be eligible for tax benefits only after it has obtained certification from the Inter-Ministerial Board that has been set up for this very purpose.
With such eligibility criteria, getting loans from banks may seem difficult for many startups. However, there are tons of other funding options available as well. Some of them are listed here.
Many small-business owners use credit cards for funding. If your credit score is not stellar, you might be limited to secured credit cards, which typically have lower limits and higher fees than regular credit cards. To take advantage of this method, you must have a credit score of more than 650, ideally over 750. Raising funds using a credit card is a convenient option, albeit it comes with the same risks as those associated with using the card for large purchases. But it also means that you get the benefits. You only have to pay interest on the credit you use. Credit cards also come with various promotional introductory rates and reward programs. It is crucial to remember that credit cards are an expensive way of financing a small business, particularly if you have bad credit. That is because that bank which issues the card determines annual percentage rates based largely on your personal credit scores. Research has also shown that small businesses that rely heavily on credit card financing typically fail.
Crowdfunding has become a popular way for small businesses to raise money, thanks to various sites such as Kickstarter and Indiegogo, which helps you to procure funds through online campaigns. Instead of you paying back your donors, you can choose to give them gifts, which is why this system is also called rewards crowdfunding. Besides this reward method, new avenues are also opening up for equity crowdfunding, in which you tap a public pool of investors who agree to finance your small business in exchange for equity ownership. This became an even broader option recently with new securities regulations that allow small-business owners to reach out to “mom-and-pop” investors – a concept from developed economies that is gaining traction in India. Crowdfunding is also extremely helpful for entrepreneurs who have a product or product idea and want to test the market for it. It gives the option to later validate the opportunity if it presents itself.
Many new small-business entrepreneurs access financing through personal loans, often via a growing number of online and offline lenders when they are unable to avail funding from banks or investors. But like credit cards, personal loans usually have high rates of interest, especially for borrowers with poor credit rating. As with credit card financing, you must have a credit score of at least 650 to even consider this method. For those that do, the bank or institution will fund your loan fast, often within a week.
Grants from private foundations and government agencies are another way to raise startup funds for your small business. They are not always easy to get, but free capital might be worth the hard work for some new businesses. Entrepreneurs have to prepare a business proposal and then present it before the agencies they desire to raise fund from. If the private foundations and agencies like the plan, they may approve the fund.
Micro Loan from NPOs and NGOs
Micro-lenders and non-profit lenders can be a less difficult route, especially if you have unreliable financing sources. These lenders primarily focus on minority or traditionally disadvantaged small and medium business owners as well as small businesses in communities that are struggling economically. Raising funds from such a source may take 3 to 4 weeks for the application to be processed. Each lender usually has targeted businesses that they lend to and if you qualify, your loan may be sanctioned without any demands for high returns.
Friends and Family
This is perhaps the most common way of financing a new small business in India. The idea is to borrow money from friends or family you trust and they trust you in return. You may have to persuade them that you will be able to pay them back. Business is a personal venture and to avail the loan, you can easily borrow money from your family and acquaintances and repay them once your business starts to grow. It is important not to expect a lot of funding this way, particularly for riskier ventures. Further, inability to repay could sour relationships.
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How to Approach Banks for Startup Loan for New Business
Prior to approaching a banker or investors with a request for funding, you must prepare a proposal that explains the business model, promoters’ background, revenue model, estimated sales, estimated growth rate, estimated profits and so on. In short, the proposal must comprise everything related to the business. Startup business borrowers can meet their borrowing requirements and avail the best possible terms if they approach banks or financial institutions in an appropriate manner. You must clearly understand the various criteria that banks employ to screen, rate and process their loan applications and the importance of furnishing precise and correct information. As commercial credit bureaus (particularly CIBIL) expand their database, it will become progressively easier for financial institutions to track past repayment and default behaviour of business loan applicants.
Also Read: 16 Profitable Small Business Ideas From Home
What Banks Need to Know About the Business and Entrepreneurs
It is advisable for entrepreneurs to be as open and transparent with their bankers or financial advisers as they can. This will enable the banks to grasp the full information about you and your business to give you appropriate advice at the time of need. Withholding important information such as possible liabilities with other lenders or the fact that you have already pledged your assets will inevitably cause difficulties, even if it is at a later stage. Then, you will have only wasted your time and probably closed the door to future dealings with the bank. Banks may need things like a letter of introduction, your profile and your business profile, brochure of your business, bank and other references, and proof of company ownership and registration.
Start-up Business Loan: Frequently Asked Questions (FAQs)
Q. What is the purpose of Start-up Business Loan?
Ans. A start up business loan basically caters to the main funding of a business which you wish to start. The start-up can be of anything and a loan for this will only boost your business initially giving the necessary machinery and equipment to your start up.
Q. What are the Government based start-up business loans offered in India?
Ans. Some Government based start-up business loans in India are
- CGTMSE Scheme
- Mudra Yojana
- Stand Up India Scheme
- Bank Credit Facilitation Scheme
- National Bank for Agriculture and Rural Development (NABARD)
Q. How to qualify for government based start-up business loan?
Ans. There are certain requirements that one must fulfill in order to apply for a start-up business loan-
Your Credit Score plays a vital role to apply for a start-up loan. It should preferably be above 650
- Your documentation needs to be complete
- Decide on the Loan Amount that you feel will be sufficient for a start up
- Once you are ready with the above mentioned points, you can apply for a start up business loan at Paisabazaar.com
Q. What is the loan amount that can be availed through a Business Startup Loan?
Ans. The minimum and maximum loan amount depends on the financial lender you choose and the requirement that you have. The minimum loan amount can start from Rs.50,000 and the maximum loan amount can be decided as per the terms and conditions of the financial lender.
Q. What are the things to compare before applying for a start-up business loan?
A. Few things to keep in mind before applying for a start-up business include the service charges and fees charged on the business loan, the Interest Rate charged on the loan amount and the prepayment charges just in case you wish to pre close the loan beforehand.
Q. Can start ups get a bank loan without the need for collateral?
Ans. There are some business loan schemes that provide loans without a security, Mudra and CGTMSE are loan schemes where one does not need to provide any asset as a security before applying for a business loan.