Starting you're a new business takes significant planning. With 69% of small businesses failing within 2 years (Tweet this stat!), according to 2013 numbers as reported by Business Finance Store, its imperative you have a clear idea of the reality of starting and financing a business.
Not only do you need to come up with a product or service idea and create a business plan -- you need to figure out how to acquire the financing you need to get your startup off the ground and keep it humming with minimal customers to start.
Too many entrepreneurs underestimate how much funding their business really needs in order to become established; we break it down for you so you can educate yourself before putting out the open sign.
Average Startup Capital
According to the US Small Business Administration, the average startup capital collected by small businesses is approximately $80,000 per year per new business (Tweet this stat!). Financing for small business startups breaks down in the following way:
- 36% is composed of owner and family equity (i.e. savings, shares, and grants)
- 29% personal and business loans
- 9% owner or family loan (may or may not carry interest charges)
- 7% personal and business credit cards
- 5% credit line
Startup costs are defined as those which are incurred before the business opens its doors -- essentially, what the business needs to pay for in order to begin doing business. These costs cover a wide range, including market research, legal fees for setting up the business, logo design, product brochures, equipment, furniture, machinery, commercial space, and initial inventory.
From a legal and accounting standpoint, there are several important distinctions within your startup's funds that have important financial and tax consequences. How you label the items you purchase for your business can affect your tax burden at the end of the year.
- Startup expenses: Expenses incurred before the first month the startup is in business. Many of the costs listed above qualify as startup expenses. Expenses are deductible against income, so they reduce your business's taxable income.
- Startup assets: Your assets include both cash and tangibles. Your assets are the money you have in the bank when you start business, your starting inventory, and your equipment, machinery, and furniture. If you purchase these items before you begin business, rather than after, then they qualify as assets. Assets are not deductible against your income. However, the IRS allows a limited amount of equipment purchases to be labeled as expenses -- once you have reached the current limit, the difference is counted as non-deductible assets.
The Starting Date
The day you open the doors of your new business, you need to have several financial elements in place. You need to have acquired sufficient funding to purchase the necessary equipment, furniture, office space, and inventory in order for your business to function. In addition to paying for these expenses, your business will have a specific cash requirement on opening day -- the amount of money it needs to have in the bank to carry it forward to that day when the business starts making a profit.
- If your cash balance drops below zero, you will need to either increase your financing or reduce your expenses. The more cash you have in hand on your starting date, the better prepared you'll be for slower-than-estimated sales growth or financial emergencies, and the more likely your business will survive after the first week, month, or year.
When estimating the startup costs for your business, it is not enough to calculate how much money you'll need to get everything in place for opening day: the equipment, inventory, research, and marketing efforts.
Whether or not you start immediately making money, you are still responsible for paying your employees, rent, utilities, inventory costs, and more. Your startup funding needs to include a significant cash balance that will carry you through the first lean weeks or months of your business until it starts turning a profit and becomes self-sufficient.