One in five small businesses has asked friends or family for a loan during the last 12 months.
New figures from Bibby Financial Services suggest that business owners are turning to friends and family to fill the gap left by other external funding sources. Almost 30 per cent of those surveyed either failed to secure bank finance or did not apply because they presumed that they would be turned down, while 14 per cent received less than they needed.
Friends and family have always been an important source of start-up capital, but it seems that business owners are increasingly seeking their help as an alternative to the intransigent banks. Borrowing from friends and family comes with its own set of pitfalls. Read our top tips to help you avoid potential problems.
1. Be professional
It is vital that you treat loans of this sort in a professional, efficient manner. It might seem counter-intuitive, but you should consider finance of this sort in exactly the same way as you would think about a bank loan. By adopting this stance you can help to ensure that all parties understand and are happy with the arrangement.
2. Be realistic
Think carefully about the amount you need to borrow. Be honest with your potential lender about what you need, and when you will be able to pay it back. Make sure that you work out exactly how much you will be bale to afford to pay in interest. Honesty from the outset is very much the best policy.
3. Be explicit
It is very important that both parties understand and agree to the terms of the loan. How much is being borrowed, and over what period? What will the lender receive in return? For example, will they be paid interest, or will they receive a profit share? Be explicit about this agreement. Codify it into a written document, and ensure that this is signed, dated, and witnessed. This might seem like overkill, particularly when borrowing from family, but this small step can help to minimise the potential for arguments later.
4. Be prepared
Before approaching a potential lender, make sure that you have a comprehensive idea of what you want. Give particular consideration to what you are prepared to offer in return for the loan. All too often, borrowers find themselves giving up equity in their business in order to plug a short-term funding gap. Think carefully about whether or not you are willing to do this before you begin negotiating.
5. …and don’t forget the alternatives
Finally, it is important to remember that friends and family are not the only potential options open to firms that need to raise money. If you do not want to deal with a bank, you might wish to consider peer-to-peer, or crowdsourced lending. This is a major growth area in business finance, and one that can provide businesses with cheaper, more flexible loans.