You have this awesome idea for a business…
…You’ve performed your due diligence: you know there’s a market for your idea; you’ve researched the competition and know how you’re going to best them; and you’ve run the numbers and are sure you’ll see mad profits within a year. Just one problem…
…you don’t have the money to self-fund your venture.
And you know that startup capital is by far the most difficult funding to get from traditional sources. But wait! Your parents (or grandparents, or Uncle Charlie) have some money put away. What about asking them to help you?
Plenty of entrepreneurs – who are often speaking from personal experience – will tell you that borrowing money from family to get your new business off the ground is never a good idea. In fact, many could tell you horror stories about how their families were ripped apart by someone loaning someone else in the family money for a business venture that didn’t work out.
You don't want things to get too messy!
Or is there a chance that the majority of those tales of misfortune are the result of the borrower and lender not going into the lending relationship in a way that decreases the possibility of conflict and increases the chance for a harmonious outcome?
Below are four questions that need to be answered if borrowing from family is your only option for starting your business. Answering these questions and taking the steps suggested doesn’t guarantee there won’t be issues, but it will reduce the likelihood of someone not being invited to Thanksgiving dinner!
1. Have you really covered all your bases?
This is a question every entrepreneur needs to ask, whether borrowing from family or not. Some of us have a tendency to get really excited about a business idea, and we can become blind to potential challenges. Before you ask mom and dad for ten grand, do whatever it takes to look at your idea objectively and make sure you can identify potential obstacles – and that you have a plan for overcoming them.
2. Do you have a compelling proposal?
3. Can they afford to lose the money?
The biggest reason people approach family members over a bank or VC is that they’re more likely to say yes. Unfortunately, some will even say yes when doing so might mean financial peril if things don’t go as planned. If you’re asking your grandmother to invest her entire life savings, you’re taking a much bigger risk than when you take out a loan from a bank. You might have a fantastic idea, but you can’t predict what’s going to happen in your industry, the economy, etc. No one’s looking to stick the bank with an unpaid debt, but they won’t have their hearts broken like grandma might.
4. Are you and your family member both willing to sign a formal deal?
Bonus tip!…
Keep communicating. While it’s not something we like to think about, we all know there are no sure things. You can have the best intentions, the best laid plans, and formalize everything, and your venture could still fail.
The key to keeping the family together is communication. If things aren’t going so well, it can be difficult to tell the person who lent you money, because you don’t want to worry them. But they deserve to be kept in the loop and told the truth. They’ll respect you for it, and it will go a long way toward making things less traumatic if the business fails.
No one likes to be surprised at the last minute with news that their investment is lost. That’s the kind of thing that will have you eating Thanksgiving dinner at Denny’s!
Have you had experience (good or bad) with borrowing from family for your business? We would love to hear from you so please share your story in the comments.