Starting a new business can be exciting, yet entrepreneurs often face the initial hurdle of securing the required capital. One-third of small business owners find insufficient capital to be their primary obstacle. Knowing how to obtain funding for a business is crucial, especially when traditional loans or investors are not an option. That is when using the equity from your home can be advantageous.

If you have a sound business idea and a well-thought-out business plan, consider using the equity in your home as a financial resource to launch or expand your enterprise. With a strategic approach and careful planning, your home can serve more than just a shelter but also as a valuable financial resource to help you achieve your business goals.

Funding Your Business Using Home Equity

Many homeowners in the United States have seen a nearly 80% increase in the value of their homes from 2012 to 2022. This increase has given them a substantial boost in home equity, representing the difference between the value of the property and its outstanding mortgage debt. Given this equity boost, turning to your home for cash can effectively fund your business dream.

Selling your property is the most direct method to access your home equity cash. While straightforward, this means surrendering ownership. However, this means giving up ownership. For those who want to retain their home, several alternatives are available:

• Cash-Out Refinance: This process involves replacing your existing mortgage with a new one that reflects your home's current market value, which has increased over time, allowing you to cash in on the difference between the original mortgage and the new value. For example, if you initially bought a house for $200,000 with a mortgage covering 80% of the cost, now valued at $300,000, refinancing at the new value could result in a significant amount of money after settling the original mortgage. However, remember that closing costs and your financial eligibility are essential in this process. Refinancing can be a smart way to leverage your increased equity, but it's important to carefully consider all factors before deciding.
• Home Equity Loans andHELOCs: Alternatively, if refinancing isn't suitable, a Home Equity Loan will provide you with a lump sum of cash, typically with fixed interest rates and payment schedules, making it easier to plan your payments. On the other hand, a Home Equity Line of Credit (HELOC) acts as a flexible line of credit, allowing you to withdraw funds as needed and defer the principal payments until later. However, HELOCs usually come with variable interest rates, making predicting the exact amount you'll owe more challenging.
• Home Equity Investments (HEIs): Another modern option, particularly if other loans are inaccessible, is a home equity investment (or home equity sharing agreement). This modern option is not based on your current home equity but rather on the expected future value of your home. Unlike loans and HELOCs, this agreement does not require monthly payments. Instead, you'll receive funds in return for an equity stake in your property, which will be repayable when you end the agreement by selling your home or repurchasing the equity stake.

There are distinct advantages to each method. Using home equity can be more straightforward when financial institutions hesitate to grant a small business loan. Obtaining a business loan often requires extensive paperwork, from detailed business plans to financial statements, to prove creditworthiness. And while banks prefer to lend to established businesses, your home equity can be a less restrictive source of funds.

What are some Home Equity Fundraising Alternatives?

Although home equity can be a viable way to secure funding, other options are available. You could explore several alternative funding options to find one that aligns with your business finances and goals. Consider some alternative funding options to home equity for raising capital.

Bootstrapping

Bootstrapping is a common approach for those who prefer to maintain complete control over their business growth. It involves self-funding, which may include using personal savings or taking on personal debt. Statistics show that 45% of startups that eventually raised over $100 million started by bootstrapping. This method allows small business owners to retain complete ownership and decision-making power.

Crowdfunding

Crowdfunding has transformed how ideas are brought to life. Per projections, the global crowdfunding market is expected to reach a transaction value of $1.2 billion by 2024. Platforms like Kickstarter and GoFundMe allow you to showcase your project to the world and attract financial support from those who believe in your vision. By presenting your business idea with enthusiasm and conviction, you can gain global backing and transform your concept into a fully funded enterprise.

Angel Investors and Venture Capitalists

Angel investors are private individuals who invest their money in start-up companies, usually in exchange for convertible debt or equity ownership. In the United States, start-ups that received angel investment funding last year received an average of around $450,000 in capital investment. Angel investors are typically interested in businesses with the potential for significant growth. A well-planned business strategy and convincing financial projections are essential to attract angel investors.

Venture capital firms seek to invest in startups and businesses with promising potential. In 2024, venture capital funds raised in the United States are projected to reach $265 billion. In exchange for equity in the company, a venture capital firm can offer financial support, expertise, and networking opportunities.

Business Line of Credit and Business Credit Cards

According to the Federal Reserve Banks’ 2023 Small Business Credit Survey, lines of credit have become American entrepreneurs' preferred financing choice, with 43% of all applications for this flexible funding option. A business line of credit allows businesses to borrow up to a specified credit limit and pay interest only on borrowed money. They can be a convenient way to manage cash flow fluctuations and finance short-term working capital needs.

On the other hand, a business credit card can be a practical tool for managing business finances. Most offer a revolving credit limit and can be used for purchases, cash advances, and sometimes balance transfers. They're a good way to build a business credit score if you can manage them carefully to avoid high interest rates or late fees.

Microloans

Microloans are small business loans often available for up to $50,000. It aims to help entrepreneurs who may not qualify for a bank loan due to a lack of credit history or business experience. Microlenders often offer favorable terms, including lower interest rates and robust mentoring programs.

Small Business Administration (SBA)

The SBA is known for supporting small businesses through lending and grants programs. While the grants programs can be highly competitive, SBA loans are more readily accessible. While these loans may carry slightly higher interest rates than conventional bank loans, they offer a range of sizes and terms, making them a flexible option for small business financing.

Final Thoughts

Using your home as collateral means accepting the risk that comes with business failure. Statistics show that about 20% of new businesses fail in their first year and 65% within ten years. Therefore, entrepreneurs should carefully consider their willingness to risk their home to potentially fund their business and be prepared for all possible outcomes when making such a significant decision.

On the other hand, several options are available for business funding beyond home equity. Venture capital firms, SBA loans, bootstrapping, and business lines of credit are just some channels that can provide the necessary capital for business growth. However, each funding source impacts your business's financial health and autonomy differently. Therefore, conducting thorough research and seeking guidance from a financial professional to make an informed decision supporting your business goals is crucial.