How To Buy A Franchise When You’re Short On Funds

While buying a franchise is typically less expensive than starting a new business from scratch, there are still one-time and ongoing costs that rack up before you even open your doors to customers. Franchise fees, insurance premiums, inventory, equipment, business licenses, and royalty payments are just a handful of the costs associated with franchising.

The good news, though, is that there are financing options out there that help with the financial burden of business ownership. And even better, many of these options have low interest rates and favorable repayment terms, so purchasing a franchise is more affordable. You may even be able to tap into funds that you already have access to.

In this article, we’re going to explore several ways to purchase a franchise when you don’t — or think you don’t — have the funds to do so.

8 Ways To Fund A Franchise

From tapping into your retirement funds to getting a low-cost, government-backed loan, here are seven ways you can fund your franchise.

Franchisor Financing

Many franchisors across various industries offer financing options for new and existing franchisees. Franchisor financing is a win-win for everyone: the franchisee gets needed capital while the franchise continues to grow with the addition of new locations.

The amount of money and type of financing offered vary by franchise. Some franchisors offer in-house financing programs, while others may assist franchisees in getting low-cost Small Business Administration loans (more on these later).

Like other types of financing, you must be qualified to receive financial assistance through your chosen franchisor. Borrower requirements vary by franchise, but you should expect to have some funds to put into the business and meet any credit requirements.

SBA Loans

Qualifying for a conventional bank loan is difficult for many aspiring entrepreneurs. Fortunately, you may be able to get the low rates and long repayment terms of conventional loans through the Small Business Administration (SBA).

The SBA itself does not distribute loans. Instead, this government organization provides a guarantee on loans provided by banks, credit union, and other lenders, known as intermediaries. Because a large percentage of each loan is backed by the SBA, it’s easier for franchisees and other small business owners to be approved.

There are several types of SBA loans for franchisees, including:

• 7(a) loans: SBA 7(a) loans provide up to $5 million with repayment terms up to 25 years. Funds can be used for nearly any purpose, including the purchase of real estate or equipment or paying franchise fees. Interest rates are extremely competitive and are based on the prime rate plus up to 4.75%. Rates are based on the amount and duration of the loan.
• CDC/504 loans: With a 504 loan, a nonprofit Certified Development Company (CDC) provides up to 40% of the amount needed by the franchisee. A traditional lender, such as your bank or credit union, provides up to 50% of the amount. With this option, you could contribute as little as 10% to receive the funding you need. While you can’t use funds to pay franchising fees, you can use this loan to purchase, expand, or update commercial real estate for your franchise. You can also use funds to purchase equipment for your business. CDCs can loan a maximum of $5.5 million with terms up to 25 years.

Although qualifying for an SBA loan is easier than getting a conventional loan, the process can be time-consuming, taking anywhere from weeks to months for approval and funding of the loan.

You must also meet all of the requirements for 7(a) loans and CDC/504 loans, including but not limited to having a solid personal credit score, putting up collateral, and meeting the guidelines of a small business as defined by the SBA. You should also be prepared to pay any fees required by the lender, including appraisal fees, service fees, and closing fees.

Home Equity Loans & HELOCs

If you own your own home, you could use your equity as collateral for a startup loan for your franchise. Equity is the difference between what is owed on the property and the value of the property.

For example, if your home is appraised at $500,000 and you owe $300,000 on your mortgage, you have $200,000 worth of equity in the property that you could potentially leverage for your business venture. Equity is built up if your home value increases as well as when you pay down your mortgage.

With a home equity loan, you won’t be able to borrow the full amount of equity, though. Most lenders will only give you 80% of the value of your home, less what is still owed. Funds can be used for any purpose, including covering startup costs and franchising fees for your new business.

While interest rates are low, you do put your home at risk if you default on your loan.

HELOCs

You may also consider a home equity line of credit, or HELOC. Instead of a lump sum, you have access to a flexible line of credit that is backed by the equity in your home.

You’ll be able to withdraw funds as needed up to your set credit limit for a certain period of time. This is known as the draw period and usually lasts one year. After the draw period ends, you enter the repayment period. Since HELOCs are a form of revolving credit, you can reenter the draw period once you’ve repaid borrowed funds.

In addition to having equity in your home, you must also meet the other requirements of your lender. This includes having a high personal credit score, a low debt-to-income ratio, and a solid repayment history.

Rollovers As Business Startups (ROBS)

Another way to get the money you need to buy a franchise is by using funds you already have in your retirement account. Normally, drawing from your account early results in penalties. However, you can avoid these penalties and access your funds in just weeks with a Rollovers for Business Startups plan, also known as ROBS.

Here’s a brief breakdown of how it works:

• A new C-corp is established
• A new retirement fund is created
• Funds from your existing retirement account are rolled over into the new account
• These funds are used to purchase stock in the C-corp, giving you access to the cash you need

Qualifying for a ROBS plan is easy — you simply need a qualifying retirement account, such as a 401(k), 403(b), or IRA. You don’t have to worry about having a high credit score, a certain amount of income, or any other requirements needed for other types of funding.

Because this isn’t a loan, you also don’t have to worry about paying interest to a lender. The downside, though, is that if your business fails, you risk losing your retirement funds.

While you won’t have to pay interest to a lender or penalties for the early withdrawal of funds, you will need to work with a ROBS provider. For a one-time setup fee, a ROBS provider can help you set up your C-corp and retirement account. You may also need to pay a monthly fee to cover maintenance and reporting on your account.

Online Loans

The internet has made it easier than ever to shop for loans to purchase a franchise. Unfortunately, as a startup, you might find it difficult to find a competitive business loan.

Lenders evaluate risk by looking at factors such as your personal and business credit profiles, annual revenues, and time in business. If you haven’t yet launched your business or you’re in the very early stages, finding funds with favorable rates and terms can be a challenge.

One option you do have, though, is to take out a personal loan for business. When you apply, you use your personal information — personal credit score and history and annual income, for example — to qualify for funding. That loan can then be used to purchase your franchise or fund other startup costs.

As you grow your business and need more funding, make sure to check out the best small business loans for additional financing options.

Partnerships

If you don’t have the funds to purchase a franchise, consider bringing on someone who does and forming a partnership. A friend, family member, colleague, or anyone with money to invest can become a partner.

Be aware, however, that forming a partnership means that you will be handing over partial ownership of your business. This means that you won’t be the only one making the decisions … or taking the profits.

When you find a business partner, make sure that you work with an attorney to draft all documents and agreements. Having the right documentation doesn’t just protect each partner; it also ensures you remain compliant with Securities and Exchange Commission regulations.

Low-Cost Franchises

If you have some money in savings or another source of funding, shop around for lower-cost franchising opportunities. The big players — think, McDonald’s, Chic-Fil-A, and other established franchises — are typically the most expensive to purchase and operate. Instead, focus your sights on more affordable opportunities that will allow you to break into business ownership.

In addition to finding low-cost startups, you can also look for franchises that offer discounts to new owners. For instance, some franchisors offer discounts on franchising fees to women, minorities, or military service members and veterans. Start researching for potential cost-saving opportunities.

Final Thoughts On Funding Your Franchise

Even though buying a franchise is one of the easiest ways to dive into business ownership, finding the right source of funding to get your business off the ground can be a challenge.

However, as you can see from the methods above, affordable funding is out there. The important thing is to research all of your options, get creative with your funding if you have to, and choose the option that’s best for your business over the long term.