How much do you believe in your idea? It’s a simple question with a not-so-simple answer. When prompted, most entrepreneurs and inventors would probably respond with a canned response that echoes the value proposition of their product or service. They'll list key differentiators, market position, sales projections, and more. But, this doesn't really get to the root of the question--how much do you really believe in your idea, and what are you willing to sacrifice for it?
As the driving force behind the product or service, you are financially responsible for giving your idea room to grow and, you hope, succeed. Many entrepreneurs and inventors think in lofty terms, imagining where the business will be in years to come, without considering what it means for them in the short term. But that's a costly mistake, because when it comes time to seek out financing, the burden rests solely on your shoulders.
The Collateral Crunch
Lenders need collateral in order to give you a loan, and that collateral can come in different forms. Think of collateral as a security measure for the bank that helps assure the lender that you have an additional source of loan repayment should your cash run out.
Collateral will typically be equipment, business buildings, accounts receivable, and inventory, but if the business is just starting, it’s not likely that these sources of collateral exist. This is when the lender will turn to home and personal assets for collateral. This is common practice and something nearly all entrepreneurs have to deal with when seeking a business loan.
A personal guarantee puts your assets on the line, making you the loan's co-signer. If your business goes under, you will be personally responsible for repaying the loan, and the creditors will be coming after your personal assets for repayment. Many entrepreneurs choose to start a business with personal savings or other forms of borrowed money (friends and family come into the picture here) rather than risk this scenario.
But, for those entrepreneurs that need capital to give their idea wings, it's worth asking if your belief in your idea outweighs your hesitancy of offering up your personal assets for collateral.
How Much Should You Risk?
All small-business owners should expect to sink some personal funds into the endeavor, but there is a limit for everyone on how much you should risk. You may think you are on the brink of the Next Big Thing, but is it worth putting up your house, your mother's house, every credit card you have, and then some as collateral in order to make your idea come to life? This is essentially the question that lenders will be driving at when they ask about collateral.
If the answer to that question is no, that's OK. It doesn't mean that you need to give up on your idea, just that you may need to slow down and scale back. Break your idea into phases, and work on the first before moving on to the next. The amount of money you need to fund the first step is probably significantly less than for the idea as a whole.
Bottom line: Before you go out to borrow money, you should ask yourself if you are willing to put everything you have on the line to make your idea come to life.