One of the greatest difficulties faced by small businesses is having access to an adequate amount of cash. Unfortunately, there are times when it is not possible to obtain funds from traditional sources like banks, cash advance companies, and factoring companies.
At times like this, many entrepreneurs turn to the only other source of money available to them – their family and friends. Borrowing cash from relatives or others whom you are close to, may not be a good idea. Your relationship will probably change for the worse, and in the event that you fail to return the money, it could even be destroyed.
But if you have no other means to get finance and you do decide to take money from family and friends, here are a few things to keep in mind:
Keep in mind that financial dealings are very different from social relationships. When you borrow money it is important to be absolutely clear about the terms. Discuss the amount you require and the manner in which you will pay it back.
While you need not make a formal legal document, it is a good idea to put down what you have agreed to in writing. This should include details of the amount of the loan and the proposed dates of repayment.
After you take the money, keep the person you have borrowed from informed about how your business is doing. This will reassure the lender that you are treating the loan as a commercial transaction and that you intend to repay the borrowed amount.
Do you need funds to buy inventory, hire an employee or purchase new equipment? It is advisable to keep the lender informed about the end-use of the cash that you are borrowing.
Apart from sharing this information, be totally honest about the state of your business and the risks that it faces. The worst thing that you can do is to lie about your business just to obtain a loan.
Above all, do not ask for more money than the lender can afford to give you. This is especially true when you are borrowing from your parents who may feel obliged to help even if they cannot afford it. If you are not ready with the funds by the committed date, it is essential that you call or visit the person who has loaned you the money and explain why you cannot pay.
If you are unable to repay in time, the greatest mistake that you can make is to avoid your lender’s calls. This will destroy the trust that you share with the person you have borrowed from and it will be difficult to regain this trust even if you finally return the borrowed amount.
Borrowing from friends and family is an exercise fraught with risks. But a substantial number of entrepreneurs do use this source of financing. According to the Hartford Small Business Success Study, 36% of entrepreneurs have used personal sources such as retirement savings, or capital from family and friends for funding.
If you cannot avoid borrowing from relatives and friends, remember to keep your social relationship separate from your business dealings. And above all, make sure that you repay the loan on time.
If you do not pay on the agreed-upon dates, you can be sure that it will affect your relationship negatively. Treat the transaction in a professional manner and make sure that you do not need to be reminded of your obligation. Better still, pay early if your financial situation permits.