What Is Franchise Financing?
Franchise loans help franchisees get the money they need to be able to cover necessary startup costs for a new franchise like franchise fees, getting a location, and buying equipment and inventory. Even though franchises are built from an established brand, franchisees are often required to cover many up-front costs to open a new franchise.
While there are no specific loans for franchisees, some loans and financing options may be better than others. Luckily, franchise owners may find it easier to obtain a business loan or financing than an independent small business because of an established brand’s proven business model. Here are some of the best franchise financing and loan options.
Best Types of Franchise Financing
1. Franchisor Financing
If your franchisor offers financing for franchisees, this is often a great option to fund those up-front costs for several reasons. First of all, if your franchisor offers financing solutions, the loan products are likely designed specifically for your business. Franchisor financing programs may include funds for equipment or to cover fees.
Perhaps most importantly, while every lender wants your business to succeed, your franchisor is uniquely motivated to help your business both succeed and thrive. If you work with your franchisor to secure financing, you may not need to ever look elsewhere for business funds.
2. Commercial Bank Loans
A regular business loan is another way to get financing for a franchise. Applying for a business loan can be time consuming, but since franchises have a lower risk of failure, banks are often more inclined to approve loans that are being used for a franchise. You may also be able to find favorable interest rates and unique perks at a local bank or credit union. However, if you need capital quickly to start your new franchise, a bank loan is not the right option.
3. SBA Loans
Some types of SBA loans can be used to buy a franchise. Many different franchises are approved by the Small Business Administration as being eligible for 7(a) loans. Funds from a 7(a) loan can be used for a wide variety of business purposes, including franchise fees, purchasing equipment and inventory, and hiring employees. For larger purchases like real estate or particularly expensive pieces of equipment, a CDC/504 loan is another option to consider.
SBA loans are a great option for franchise businesses, but the SBA has specific requirements for their loans that you may or may not meet. In addition, it can take a long time, up to several months, to receive funding. If you need financing quickly, it may be best to look elsewhere for a business loan.
4. Alternative Loans
Alternative loans can help you to fund your franchise quickly and without the hassle of traditional lenders. Alternative lenders may have less stringent requirements and may be able to provide capital within a few days rather than a few weeks or months. You may be able to get an unsecured term loan, such as a working capital loan or secured financing, such as an equipment loan. You may also be able to get a more flexible form of financing, such as a merchant cash advance or a line of credit.
The drawback of alternative lenders is typically higher interest rates or shorter repayment terms. However, if access to capital is the gap between you and a great business opportunity, alternative loans can be the best option.
5. Equipment Loans
Equipment loans can be a great option if your major business roadblock is purchasing expensive equipment. Small business owners can get an equipment loan for everything from an espresso machine to a computer to a tractor, and the equipment itself serves as the collateral. Equipment loans are secured loans, so they can be easier to get if your credit history or cash flow are not the best.
6. Personal Loans from Family & Friends
Loans from family and friends can help you to fund your new business. While you can typically use a loan from a friend or family member for various business purposes, the risk to your personal relationships is much higher than with a business loan. Even if the loan is informal, draw up a contract with repayment terms to ensure that your personal relationships are protected.
How to Start a Franchise with No Money
While many types of new businesses, particularly startups, can have a hard time getting business loans, lenders can be a little more flexible when it comes to giving loans being used for franchises. Since franchises have a lower risk of failure, some lenders can be more flexible about approving loans being used for them.
Your odds of getting a loan for your franchise largely depends on the quality of the franchise. Loans for larger, well-known franchises are more likely to be approved while smaller, newer ones may be more difficult. However, large franchises with national or international name recognition are extremely expensive to get involved with.
Many types of franchise loans require collateral, but in many cases, things like your franchise’s location and equipment can help fulfill that need. However, there are some circumstances where a lender could ask an applicant to provide additional collateral.
Although lenders may be more willing to approve a loan for a franchise, that doesn’t necessarily mean franchise loans are easy to get. Many lenders put a lot of emphasis on an applicant’s personal credit score. In many cases, lenders won’t approve a loan to someone with a credit score below 650. Even if you have good credit, you’ll also need to be able to make a sizeable down payment. Most lenders will expect you to make a down payment of at least 20%.
In short, lenders are often more likely to originate small business loans for new franchises than for new independent small businesses. However, you will still need to have some money and good credit history to get started with a bank loan, credit union loan or online financing. If you truly have no money, a loan from a friend or family member might be the best option.
Applying for Franchise Financing
Each franchise is a little bit different. Some franchises let their franchisees seek loans on their own, but many franchises have established relationships with lenders or directly offer financing options to their franchisees. If the franchise brand you’re working with is able to recommend a lender to you, their existing relationship may improve your chances of being approved or help you get better terms on your loan.
Since traditional business loans can be used for franchises, lenders will want to see much of the same information as you would if you were seeking a loan for a business you started completely on your own. As the borrower, be ready to provide detailed business information on your loan application such as:
- Your business plan
- Your credit score and credit history
- Copies of your personal financial records and tax returns
- Your resume, as well as resumes for any partners you may have
If you already own and operate a franchise, the lender will likely want to know how your business is doing. You may be required to provide business financial documents, such as a cash flow statement or your quarterly tax returns.
Before you officially agreed to become a franchisee, you should have been given a Franchise Disclosure Document (FDD) that includes detailed information about your chosen franchise’s performance history. Lenders will absolutely want to see this.
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