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The Cost of Starting a Business
About 500,000 businesses launch in the United States ever month – and about half of them won’t make it past five years. Every year, 10 to 12 percent of businesses with employees close.
This is the reality of the American Dream vs. American capital. To ensure the former, you need a lot of the latter. The Kauffman Foundation puts the average cost of starting a business at $30,000 — a hefty lump sum when you’re already paying your own living expenses.
After watching industry trends and identifying a need, entrepreneurs burst onto scene with an idea for a new, improved product or service. As of February 2015, the Small Business Association reported that there were 28, 443,856 small businesses in the United States.
- Electronic shopping and mail-order houses
- Software publishers
- Computer systems design and related services
When is the right time to put your money into a business, either yours or someone else’s? What do you need to know before you do it? Predicting startup and operating costs as well as ongoing investing costs can help you avoid a mistake – or help you create your dream company.
- A small business refers to an independent company with less than 500 employees
- 36 percent of business owners are women, compared to 64 percent for men
- More than 50 percent of U.S. employees work at a small business
Becoming an Entrepreneur
The inspiration to stake it out on your own comes from myriad sources. It’s an overnight idea for some and the pursuit of a dream for others.
The desire to be independent, set their own hours, dictate the rules and develop a unique culture motivates many owners. Manta, an online small business directory, and tech giant Dell surveyed 3,000 small-business owners in 2014, and found 37 percent of respondents were motivated by sense of accomplishment from “fulfilling a lifelong dream.”
InfusionSoft, a company creating tools for small businesses, 2014 report found entrepreneurs are driven by the need for wealth accumulation, a passion for a specific project or community, the production of a unique idea and the desire to provide for the long-term financial stability of their families.
What often stems from the desire to be your own boss and embrace independence will demand long-hours, intense work and barely making by. If financial need is not an initial motivation, it is likely it will become one at some point in your venture.
Your Business Plan
Embarking on a journey without a roadmap can be dangerous—especially when that journey involves tens of thousands of dollars and your valuable time and energy. Creating a business plan is vital for achieving stability and success. While it requires intense research, it gives you the momentum to maintain growth and future financial goals.
The plan functions like a large-scale to-do list with the first priorities at the top, a detailed explanation for executing each step and a vision for where you want to be in the first, fifth and even tenth year of business.
Completing your business plan helps determine the size of company you want to build and how to run the business, from overseeing employees to choosing which vendors to use. It also demonstrates you are aware of the environment you will be competing in. Present your completed plan to potential investors to show an exact schedule for how and when you expect to bring in revenue.
- Executive summary
- Market analysis
- Company description
- Description of product or service
- Sales strategy
- Pro forma (precise summer of financial projections)
Getting Cash for Startup Costs
Wannabe business owners scrape together startup capital from a variety of resources. They turn to personal savings, loans from friends and family, business loans from banks, grants, venture capitalists, commercial lenders and financial assistance from the Small Business Administration.
Savvy entrepreneurs find ways to save when they can and spend it’s unavoidable. Using your money can prevent a long and painful repayment period. The more money borrowed, the more time it will take to start reaping profits. Instead of putting off a business launch, some business owners max out their credit cards and mortgage their homes to get enough capital. Other options, like using a portion of retirement savings, can be less risky.
Money stored in a 401(k), IRA or annuity is often an untapped resource. If you have a structured settlement or single premium annuity, selling payments may cover costs like renting an office, buying equipment and paying employees.
- Pay yourself during the transition from working part-time at another job to full-time at your business.
- Bail yourself out when business savings run out.
- Start repaying a business loan.
- Increase cash flow to cover operating costs and pay vendors in a timely fashion.
- Increase production of inventory as seasonal demand grows.
- Cover payroll.
- Cover period of waiting for clients to repay business for products or services.
- Pay taxes when you did not reserve enough cash before the IRS deadline of April 15.
- Handle operational costs during slow period.
- Protect investment by avoiding selling shares.
- Expand the business.
- Avoid bankruptcy.
Requirements for Owning a Business
As a business owner, you’re responsible for proving a safe, secure work environment for your employees. You’re also responsible for meeting payroll and paying all the bills.
You should also learn any legal regulations your business – and you as its owner – must follow. You’ll have federal and state laws to guide you, but you likely will also encounter other municipal laws.
Chances are you will need business insurance. Note that the more employees you have, the more liability you will take on.
Once you pick your official company organization, you’ll need to register your business with the state and federal governments and secure an Employer Identification Number from the IRS. An EIN is business ID number – think Social Security number for businesses, one that gives you tax advantages and instills credibility.
Next you need to figure out what permits and licenses you need to open. Your location and industry will determine much of what you need.
Seek out the advice of an attorney and insurance agent to learn about any of the potential liabilities that accompany owning a small business. You may be responsible for providing unemployment insurance, workers’ compensation.
The first big decision you have to make is how to structure your company. Let your CPA, accountant or financial advisor help you formulate the structure that’s right for your particular size and shape of business.
- Sole proprietorship
- A cooperative
- An incorporated company
- A limited liability company (LLC)
- A partnership
- An S Corporation
How Soon Will Your Business Show a Profit?
If you’re like most business owners, you want to reach profitability sooner rather than later. It’s not easy.
- Year 1
- Owners make less than their previous salary. They re-invest most of their profits directly into their new business.
- Year 2
- Owners make less than their previous salary. They re-invest most of their profits directly into their new business.
- Year 3-4
- Owners sometimes increase their salary. They can make more profit from from selling shares of the business or selling off part of their ownership.
With such a range of costs and fluctuating circumstances, predicting how much you will earn is difficult. Your business plan should allow for flexibility, but also include ways to re-strategize and meet long-term goals.
- Total startup costs (including how much you borrow)
- Number of people you employ
- Expenses of maintaining business, including vendor costs
- Sales of product/service
- Speed of business growth
- Economic climate
Building Up Credit
The longer you’re in business, the more creditworthiness you’ll be able to show potential investors and lenders, not to mention day-to-day vendors. Having a history of paying bills on time not only establishes you as a good credit risk when times are tough, it also gives your daily and weekly business associates a reason to give you discount prices. (They’ll want to reward your loyalty as well.) While you can’t speed up time, you can take steps to build your business credit from the start.
Apply for business credit as soon as possible. This may mean settling for a smaller loan, minimal line of credit or getting a store credit card. Even if you have a larger amount you want to borrow, you may be able to increase your credit after months of using credit responsibly.
Banks will be more likely to lend extend business credit to applicants with a high personal credit rating. Your history shows banks that you know how to use credit wisely and pay your bills in a timely fashion. If you already have some blemishes on your history, do your best to correct any errors and pay back debts you’ve been ignoring.
Register with the Dun & Bradstreet Credibility Corporation and secure a DUNS number to track your credit use. You can use your number to show off your favorable credit record to vendors. And you’ll need this number to apply for grants and government contracts.
Investing in a business isn’t a task for the faint-hearted. It will be easy to feel discouraged when you face initial hiccups.
Business plans may be thwarted by a vendor mix-up, customer complaint or your first major financial hurdle. You jump through hoops to get the right paperwork approved and licenses in hand. You wait on loans or responses from potential investors. And it could be years before your credit score improves enough to pay for a comfortable workspace.
To sustain your business, keep manageable goals and the long-term vision in mind.
Making the commitment to start and develop your own company can be incredibly rewarding. The time and energy you dedicate toward your passion can help your business evolve into a competitive industry force.
10 Cited Research Articles
- Small Business Association. (2014 March). Frequently Asked Question. Small Business Association. Retrieved from https://www.sba.gov/sites/default/files/FAQ_March_2014_0.pdf
- Davidson, E. (2015, April 28). The average time to reach profitability in a start up company. Small Business Chronicle. Retrieved from https://smallbusiness.chron.com/average-time-reach-profitability-start-up-company-2318.html
- Acevedo, L. (2015, April 29). The requirements of starting a small business. Small Business Chronicle. Retrieved from https://smallbusiness.chron.com/requirements-starting-small-business-2211.html
- Biery, M. (2014, December 21). 10 Best industries for starting a business in 2015. Forbes. Retrieved from https://www.forbes.com/sites/sageworks/2014/12/21/10-best-industries-for-starting-a-business-in-2015/
- Spors, K. (2011, August 25). Five ways to build business credit. Retrieved from https://www.entrepreneur.com/article/220192
- Ingram, D. How to prepare and file small business taxes. Small Business Chronicle. Retrieved from https://smallbusiness.chron.com/prepare-file-small-business-taxes-4341.html
- U.S. Small Business Administration. Choose Your Business Structure. Retrieved from https://www.sba.gov/business-guide/launch-your-business/choose-business-structure
- Clifford, C. (2014, April 22). What motivates entrepreneurs to do what they do? Retrieved from https://www.entrepreneur.com/article/233298
- Infusionsoft. (2015, May 7). Infusion small business market surveys. Retrieved from https://keap.com/resources/small-business-marketing-trends-report
- Lavinsky, D. (2014, January 30). How to write a business plan. Forbes. Retrieved from https://www.forbes.com/sites/davelavinsky/2014/01/30/how-to-write-a-business-plan/#521ceaec7d04