Financing a Franchise May Be Easier Than You Think

Perhaps the most essential building block to starting a new business is sufficient capitalization. So what are the best ways to ensure you have enough money to start and run your business until you begin to earn a profit?

Preparation must come first, so by the time you sink any money into your new business, you will have completed your due diligence and set a solid path to success. This includes extensive research into your future business, including interviewing many people along the way to help you settle on a business that best matches your skills, experience and interest.

If, like many budding new business-owners you select a franchise, you will have consulted a franchise coach, an accountant, plus the many experts with the franchise company, trained to help you start a successful business.

Since many franchises are purchased by people who have never owned their own business before and may even be new to the particular industry, traditional bank lending may not be a viable option. The good news is that many other financing options are available to finance your new business.

Most franchisees put together a package that may include:

  • A loan from the U.S. Small Business Association (SBA)
  • Traditional savings
  • Home equity loan, or
  • Increasingly common, rollover of a 401K or IRA.

While using retirement funds to help you start a new business should not be undertaken lightly, this procedure has many advantages, according to Sherri Seiber, chief operating officer of FranFund Inc., a Fort Worth-Tex.-based firm that has advised thousands of franchisees on funding their new businesses.

The use of a retirement fund rollover allows you to self-fund your new business and save the costs associated with a loan. Demand for loans, at its highest level since the Great Recession, still exceeds supply, according to an article in the June Franchising World magazine.

“This rollover program is the No. 1 way businesses under $150,000 to $200,000 are getting funded,”Seiber said. “Sixty-five to 70 percent of our clients use this (method) alone or in conjunction with a loan.”

Some people use a rollover as a way to inject equity into a loan application.
The main caveat is that you could lose your retirement savings, and as Seiber notes, if you don’t believe you can be successful in your new business, this path is probably not for you —and, of course, you may not want to go into that business at all.

Seiber said the Employee Retirement Income Security Act of 1974, allows people to roll over a portion or all of their 401K or IRA (not a Roth IRA) into a new 401K profit-sharing plan sponsored by your new corporation, which buys stock in the new corporation without penalty or paying additional tax.

So the 401K becomes a stockholder in the new business. The operating account of this new corporation can be used for any legitimate business expense, including paying yourself a salary during the start-up phase before you begin generating revenue.

Seiber noted that most of her clients do very well funding their franchises this way. FranFund has only a 3 percent to 4 percent annual attrition rate, but not all these are failures, she said. Of course, most of FranFund’s business comes from referrals, and most of her clients have completed extensive due diligence beforehand.

The final question you have to ask yourself is if you really believe you have what it takes, meaning skills, experience and work ethic, to make a success of your new business. If the answer is a resounding yes, then why not invest in yourself?