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A working capital line of credit is a type of short-term financing that helps businesses cover their operating expenses, such as rent, payroll, or inventory. It is not intended for large, one-off expenses, like asset acquisitions or opening a new location.

It provides flexible access to funds, allowing businesses to borrow as needed and repay over time. Interest is only charged on the amount used. If your business has seasonal cycles or sometimes experiences gaps in cash flow, you might benefit from a working capital line of credit.

Here’s a closer look at how these credit lines work, including their pros and cons, eligibility requirements, and how they compare to other loan products, such as a working capital loan.

What Is a Working Capital Line of Credit?

A working capital line of credit is a type of revolving credit that businesses can use for operating expenses. It can help cover costs such as rent, utilities, payroll, and inventory until accounts receivable have been collected as part of the cash conversion cycle.

Unlike a working capital loan, you don’t get a lump sum of cash upfront. Instead, you are approved for a certain credit limit. You can then draw funds as you need them (up to the limit) and will only pay interest on the amount you draw. As you pay your balance down, the money becomes available once again.

The schedule to repay a line of credit will vary depending upon the lender, but is often weekly or monthly. On top of interest charges, a working capital line of credit may also come with fees, such as an annual fee and/or transaction fees.

Working capital lines of credit can be secured (which requires collateral) or unsecured (no collateral required).

Recommended: Business Cash Management: Tips for Managing Cash

What Is Working Capital?

Working capital is the difference between a company’s current assets and its current liabilities. Current assets are anything a business owns that could be converted to cash within a year. Current liabilities are any debts and obligations that are due within the year. Whatever is leftover after subtracting current liabilities from current assets is a business’s working capital.

Working capital provides an indication of a company’s short-term health. It also tells you what your business has available to spend on day-to-day operating expenses.

Operating expenses may include:

Because operating expenses can be high, any dip in cash flow (due to delayed customer payments, a seasonal slump in sales, or an emergency expense) can hurt a business’s ability to generate revenue. As a result, it’s important that businesses are always able to cover all of their operational costs.

How to Calculate Working Capital

Working capital is calculated using the following formula:

Current assets include items like cash, accounts receivable, and inventory, which can be converted to cash within a year. Current liabilities include debts and obligations that must be paid within the same period, such as accounts payable and short-term loans.

A positive working capital indicates that a business has sufficient assets to cover its short-term liabilities, ensuring smooth operations. A negative working capital means liabilities exceed assets, which could lead to liquidity problems or challenges in meeting financial obligations. Those with a negative working capital could consider a working capital line of credit to fill in the gaps where funding falls short.

How Working Capital Lines of Credit Work

Here’s a more in-depth look at how working capital lines of credit work.

How Much Can You Borrow?

A working capital line of credit can range anywhere from $1,000 to over $1 million. How much your business can borrow will depend on a variety of factors, including your credit score, revenue, and existing debt. Keep in mind that your credit line is the maximum you can borrow before you need to pay off your balance. However, you only have to pay back the actual amount you borrow.

Rates

Working capital line of credit rates vary depending on the lender and your qualifications as a borrower. Some lenders will quote a weekly rate, while others will provide an annual percentage rate (APR). APRs include interest as well as fees, so it’s a good way to compare credit lines offered by different lenders apples to apples. APRs for working capital lines of credit can range anywhere from 10% to 80%.

Recommended: APR vs Interest Rate: What’s the Difference?

Term Lengths

The term length, or draw period, for a working capital line of credit can range between six months and five years. Since it’s revolving credit, each time you repay any amount you’ve borrowed, the money once again becomes available. When the term is up, you can no longer draw funds. However, if you’ve been making on-time payments, the lender may allow you to renew your line of credit.

Funding Speed

Working Capital Loans vs Lines of Credit

Both working capital lines of credit and working capital loans can be used to cover operating expenses. However, these two lending products work in different ways. Here’s a side-by-side comparison.

Pros and Cons of Working Capital Lines of Credit

Pros of Working Capital Lines of Credit

On the plus side, this type of small business loan can help improve cash flow by providing a pool of funds you can pull from whenever you need them. These lines are also fast to fund. And, as long as you’re investing in your business’s operating costs, you can generally use the funds however you see fit.

In addition to funding quickly, a line of credit offers revolving funds, meaning once you fully pay off your balance, the full credit line will be available again. A working capital line of credit can also serve as an emergency fund — it’s there if you need it, but you won’t pay any interest if you don’t.

Cons of Working Capital Lines of Credit

On the downside, these loans can be costly. They are considered a short-term type of funding, and generally short-term loans are more costly than long-term loans. You may also have to pay small business loan fees, such as an origination fee, monthly maintenance fee, annual fee, and transaction fees.

In some cases, you may also need to put up business collateral. Since a line of credit is a short-term liability, lenders typically ask for short-term assets, such as accounts receivable or inventory. If you’re unable to repay the line, the lender will assume the ownership of your collateral.

Another potential downside is that getting this type of loan and making timely payments on your credit line might not help you build business credit, since some online lenders do not report these loans to the credit bureaus.

Working Capital Line of Credit Requirements

Lenders offering working capital lines of credit generally have the following requirements:

•  Revenue: Minimum amounts will vary with each lender, but you generally need at least $50,000 in annual business revenue.

•  Age of business: Typically, the longer you’ve been in business, the more likely you are to qualify for a working capital line of credit. Banks generally prefer to work with businesses that have been in business for at least two years. However, some online lenders require only six months.

•  Collateral: Having an asset of value that you can put up as collateral can help a business not only get approved for a credit line but also get approved for a higher line of credit and a lower interest rate. It may be possible to get an unsecured business line of credit, but it will likely come with a higher APR.

•  Credit score: Lenders usually look at both personal and business credit scores to determine the creditworthiness of a borrower. Typically, you’ll need a credit score of at least 500 to get a working capital line of credit.

How to Apply for a Working Capital Line of Credit

Applying for a working capital line of credit involves several key steps:

1.    Assess your financial needs. Determine the amount of credit required to support your business operations and ensure it aligns with your working capital requirements.

2.    Select a lender. Research and choose a lender that offers working capital lines of credit with terms favorable to your business. This could be a traditional bank, credit union, or online lender.

3.    Prepare financial documentation. Gather essential documents, such as financial statements, tax returns, business licenses, and a detailed business plan. These will be crucial during the application process.

4.    Submit the application. Complete the lender’s application form accurately, providing all required information and documentation to support your request.

5.    Review and negotiate. Upon receiving an offer, carefully review the terms and conditions. Negotiate if necessary to ensure the credit line meets your business needs.

6.    Finalize the agreement. Once agreed upon, sign the contract and set up the line of credit, ensuring you understand the repayment schedule and any associated fees.

Once everything is signed and approved, funds are typically dispersed within one to three business days.

Alternative Ways to Finance a Business

A working capital line of credit is one way to cover a company’s everyday expenses and even out cash flow. Here are some other types of financing options you may want to consider.

Small Business Loans

A small business term loan gives you access to a lump sum of funds you then pay back (plus interest) in regular installments over the term (length) of the loan. Banks typically offer the best rates and terms but have relatively strict qualification requirements, including at least two years of business history and minimum annual revenues. Online lenders generally have more flexible qualification criteria and are faster to fund, but rates are usually higher and loan amounts can be smaller.

Recommended: What to Know About Short-Term Business Loans

Startup Loans

A startup business loan is another option that could help with your working capital needs. These loans can help new entrepreneurs cover a range of business costs, including equipment, inventory, payroll, utilities, and insurance. The U.S. Small Business Administration’s microloan program, for example, offers loans of up to $50,000 for small businesses looking to start or expand. Some online lenders will also offer loans to new businesses.

Merchant Cash Advances

If your business has high credit card sales volume and you need quick access to cash, you might look into a merchant cash advance (MCA). With this type of financing, you receive funds as a lump sum from an MCA provider and repay the advance from future sales. Typically, the lender will automatically deduct a portion of your credit card sales, usually each business day. MCAs are generally easy to qualify for, but costs typically run significantly higher than traditional small business loans.

The Takeaway

A working capital line of credit is a short-term funding option you can use to cover everyday business expenses. It’s a revolving line of credit, meaning you can use the funds up to your credit limit, pay them back (with interest), and use them again.

If you’re seeking financing for your business, SoFi is here to support you. On SoFi’s marketplace, you can shop and compare financing options for your business in minutes.

FAQ

How would you calculate a working capital line of credit?

You calculate how much interest you’ll pay per month on a working capital line of credit using the amount you draw, not the full credit line.

If the lender gives you an annual percentage rate (APR), you would multiply your balance (draw) by the APR, then multiply that number by the number of days in a given month. You then take that number and divide by 365. The formula looks like this:

(Principal Balance X Interest Rate X Days In Month) / 365

Are working capital loans and lines of credit different?

Yes. With a working capital loan, you receive the full amount of the loan upfront and then repay it (plus interest) in regular installments over the term of the loan.

A working capital line of credit, by contrast, gives you access to a certain credit limit. You can take what you need (up to your credit limit), and only pay interest on the amount you borrow. Once you repay the funds, they are available to borrow again.

How are working capital loans and term loans different?

A working capital loan is intended to be used for operating expenses, such as payroll, rent, or inventory. A term loan, on the other hand, can be used for working capital as well as other business expenses, such as purchasing large assets.

Photo credit: iStock/Charday Penn

SoFi's marketplace is owned and operated by SoFi Lending Corp. See SoFi Lending Corp. licensing information below. Advertising Disclosures: SoFi receives compensation in the event you obtain a loan through SoFi’s marketplace. This affects whether a product or service is featured on this site and could affect the order of presentation. SoFi does not include all products and services in the market. All rates, terms, and conditions vary by provider.

Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.

Third-Party Brand Mentions: No brands, products, or companies mentioned are affiliated with SoFi, nor do they endorse or sponsor this article. Third-party trademarks referenced herein are property of their respective owners.

Disclaimer: Many factors affect your credit scores and the interest rates you may receive. SoFi is not a Credit Repair Organization as defined under federal or state law, including the Credit Repair Organizations Act. SoFi does not provide “credit repair” services or advice or assistance regarding “rebuilding” or “improving” your credit record, credit history, or credit rating. For details, see the FTC’s website .

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A debt instrument is a contract that enables one party to loan funds to another party, who promises to repay the loan plus interest. Debt instruments are also referred to as fixed income assets because the lender receives a fixed amount of interest during the lifetime of the instrument.

Debt instruments come in many forms. Some are obvious, such as mortgages and different types of small business loans; while others are less so, such as rental leases, bonds, and treasuries. With some debt instruments, you are the borrower, such as when you take out a mortgage or open a credit card. In other cases, you are the lender, such as when you purchase a bond or treasury.

Here’s what you need to know about debt instruments, the different types of debt instruments, how these instruments work, and the pros and cons of debt financing.

What Is a Debt Instrument?

A debt instrument is a fixed income asset that legally binds a debtor to pay back any amount borrowed plus interest. Debt instruments can be issued by individuals, businesses, local and state governments, and the U.S. government.

Businesses often use debt instruments to raise capital to purchase additional assets (such as manufacturing equipment) or to raise working capital, while local governments may do so to fund the building of infrastructure (such as a new highway or a bridge). Debt instruments also give participants the option to transfer the ownership of debt obligation (or instrument) from one party to another.

Debt instruments can be short-term (repaid within a year) or long-term (paid over a year or more). Credit cards and treasury notes are examples of short-term debt instruments, while long-term business loans and mortgages fall into the category of long-term debt instruments.

Recommended: 10 Steps to Starting a Small Business

Debt Instruments vs Debt Securities

Debt instruments are broad financial tools representing a loan made by a lender to a borrower, including mortgages, business loans, and leases. They may or may not be tradable.

In contrast, debt securities are a specific subset of debt instruments that are tradable on financial markets, such as government and corporate bonds. Debt securities provide liquidity, allowing investors to buy or sell them before maturity.

The key difference is that all debt securities are debt instruments, but not all debt instruments are tradable securities, emphasizing market accessibility and liquidity for debt securities.

How Do Debt Instruments Work?

If you’ve ever taken out a loan or opened a credit card, you probably already understand the basics of how debt instruments work. Debt instrument contracts include detailed provisions on the deal, including collateral involved, the rate of interest, the schedule for interest payments, and the term of the loan (or timeframe to maturity).

While any type of vehicle classified as debt can be considered a debt instrument, the term is most often applied to debt capital raised by institutions, such as companies and governments. In this scenario, the investor is the lender: You issue money to a business, municipality, or the U.S. government. In exchange for capital, you are paid back the amount you loaned over time with interest. Examples of this type of debt instrument include U.S. treasuries, municipal bonds, and corporate bonds.

Recommended: Lease or Purchase Equipment

Types of Debt Instruments

Below is a breakdown of some of the most common debt instruments used by individuals, governments, and companies to raise capital.

US Treasuries

U.S. Treasury Securities (also called treasuries) are government debt instruments issued by the U.S. Department of the Treasury to finance government spending as an alternative to taxation. Treasury securities are backed by the full faith and credit of the U.S., meaning that the government promises to raise money by any legally available means to repay them.

U.S. treasuries tend to be more affordable than many other debt instruments. Investors can buy them in increments of $100 either through brokerage firms, banks, or the U.S. Treasury website. There are three types of treasuries: treasury bills, treasury notes, and treasury bonds. Each treasury comes with its own maturity option.

Municipal Bonds

Municipal bonds are offered by various U.S. government agencies (towns, cities, counties, or states) to fund current and future expenditures. Programs often funded by municipal bonds include the building of schools, roads, and bridges. Think of a municipal bond as a loan an investor makes to a local government.

There are two types of municipal bonds: general obligation bonds and revenue bonds. General obligation bonds are not paid back by any revenue resulting from the completion of the project. Instead, they are paid back to investors through property taxes or overall general funds.

Revenue bonds are paid back by the issuer through either sales, taxes, or some other type of revenue generated by the project.

Municipal bonds are attractive to many investors because they are tax-exempt bonds — meaning the investor doesn’t have to pay taxes on any interest received.

Recommended: How to Buy Bonds: A Guide for Beginners

Corporate Bonds

A corporate bond is a debt security that a corporation can use to raise money. Funding is typically available to anyone who is interested. As with other bonds, corporate bonds are essentially an IOU from the company to the investor. It differs from stock in that, instead of being paid dividends when the company is profitable, investors are always paid regardless of whether the company is doing well.

Typically, corporate bond investors are paid interest until the bond matures. When it matures, the entire principal is paid back. For example, a $1,000 corporate bond with an interest rate (or coupon rate) of 5% would bring an investor $50 every year until the bond matures. This means that, after 10 years, the investor would see a gross return of $500.

With secured bonds, the company puts up collateral (such as property or equipment) as security for the bond. If the company defaults, secured bond holders can foreclose on the collateral to reclaim their money. With an unsecured bond, a holder may or may not be able to fully reclaim their investment.

Alternative Structured Debt Security Products

There are many types of structured debt security products on the market, many of which are issued by financial institutions. A common occurrence is for these institutions to bundle assets together as a single debt security product. By doing this, they are able to raise capital for the financial institution while also segregating the bundled assets.

Recommended: What Are the Different Types of Debt?

Leases

A residential or commercial lease is a legally binding contract between an owner of a property and a tenant, where the tenant agrees to pay money for a set period of time in exchange for use of the rented property. A lease is a type of debt instrument because it secures a regular payment from the tenant, thus creating a secured long-term debt.

Mortgages

Mortgages are a type of debt instrument used to purchase a home, commercial property, or vacant land. The loan is secured by the property being purchased, which the lender can seize if the borrower defaults on the loan.

As with many other consumer loan products, mortgages are amortized, meaning the borrower makes a series of equal monthly payments that provides the lender with an interest payment (based on the unpaid principal balance as of the beginning of the month) and a principal payment that will cause the unpaid principal balance to decrease each month so that the principal balance will be zero at the time of the final payment.

Recommended: What Is a Financial Instrument?

Pros and Cons of Debt Instruments

Understanding the pros and cons of debt instruments helps borrowers make informed decisions about their financing options.

Pros

Debt instruments can be mutually beneficial in that both parties become better off as a result. If a company takes out a small business loan and invests those funds wisely, for example, it can increase its profitability. Ideally, the increase in profits exceeds the cost of the loan, a concept known as leveraging in business. Borrowing money also allows a company to raise capital without losing equity.

Debt instruments also benefit individuals and governments. Without mortgage debt, many people would never be able to buy a house; without student loans, many individuals would not be able to go to college. For governments, debt instruments allow them to build infrastructure for the public good.

On the lender’s or investor’s side, debt instruments can provide a regular and guaranteed source of income and are considered a safe investment, provided the loan is secured.

Cons

But there are downsides to debt instruments, as well. Loans often come with restrictions on how they can be used and, if you don’t have good credit, interest rates can be high. Borrowing money also involves risk. Most commercial institutions will require you to put up collateral in the form of a property asset. If you lose your income or your business hits hard times and you cannot repay your loan, the lender can reclaim its debt by liquidating whatever you proposed as security, which means you can lose a valuable asset.

On the lender’s or investor’s side, debt instruments also come with risk. Unless you purchase a secured bond, you may not receive your principal back as the investor. Also, during periods of high inflation, bonds can actually have a negative rate of return. And, if you invest in corporate bonds, there is always the possibility that the issuer will default on payment.

The Takeaway

A debt instrument is a way for an investor to get a return on their money by loaning to either an individual, business, municipality, or the U.S. government. If you have a credit card or mortgage, or you own any bonds or treasuries in your investment portfolio, debt instruments play a role in your life.

Small business owners can also take advantage of debt instruments. You might not be able to issue corporate bonds at this stage of the game, but you may be able to access an affordable small business loan.

If you’re seeking financing for your business, SoFi is here to support you. On SoFi’s marketplace, you can shop and compare financing options for your business in minutes.

FAQ

What are some examples of debt instruments?

Common examples of debt instruments include personal loans, business loans, mortgages, leases, bonds, treasuries, promissory notes, and debentures.

What is the difference between a debt instrument and an equity?

With a debt instrument, the investor does not own any portion of the company. With equity, the investor is buying a portion of the company.

What are the features of debt instruments?

Debt instruments have three characteristics: principal, coupon rate, and maturity. Principal refers to the amount that is borrowed. The coupon rate is the interest amount paid by the borrower to the lender. Maturity is the end date of the debt instrument. It refers to when the debt is completely paid off with interest.

Photo credit: iStock/insta_photos

SoFi's marketplace is owned and operated by SoFi Lending Corp. See SoFi Lending Corp. licensing information below. Advertising Disclosures: SoFi receives compensation in the event you obtain a loan through SoFi’s marketplace. This affects whether a product or service is featured on this site and could affect the order of presentation. SoFi does not include all products and services in the market. All rates, terms, and conditions vary by provider.

Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.

Third-Party Brand Mentions: No brands, products, or companies mentioned are affiliated with SoFi, nor do they endorse or sponsor this article. Third-party trademarks referenced herein are property of their respective owners.

Tax Information: This article provides general background information only and is not intended to serve as legal or tax advice or as a substitute for legal counsel. You should consult your own attorney and/or tax advisor if you have a question requiring legal or tax advice.

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Minority small business grants are designed to provide funds and opportunities to business owners who belong to historically marginalized communities. Unlike loans, these grants offer capital you don’t have to pay back. Plus, many grants also provide free coaching and other forms of support.

Read on for a closer look at how small business grants for minorities work, key places you can find these grants, and how to apply for a small business grant.

How Small Business Grants for Minorities Work

Minority business grants are for people who identify as Asian, Pacific Islander, Hispanic, Latino, Native American, Black, multiracial, and other non-white races or ethnicities. They are designed to provide financial resources to individuals who may otherwise find it difficult to get ahead in the business world.

Grants do not have to be paid back the way a loan would. Depending on the source, this money can be used for a variety of purposes, including:

•  Startup costs

•  Equipment

•  Marketing

•  Payroll

•  Office space

•  New product line

Applying for small business grants will likely require some legwork. However, those willing to put in the effort could be rewarded with an injection of capital that could help their businesses thrive.

Recommended: Survey of Hispanic-Owned Businesses

Private Small Business Grants for Minorities

There are many grants for minority business owners that you can apply for. Here’s a list of options that can serve as a jumping off point.

1. NAACP Black-Owned Business Grants

The NAACP partners with other companies and organizations to offer several grants. Since the group is continually looking for new partners, small business grants for Black entrepreneurs change from time to time — so keep an eye out for new ones.

A good place to start is the Hello Alice and NAACP partnership site, where you can find a running list of Black minority business grants.

Qualifications vary by grant, though all require that businesses be Black-owned.

2. GrantWatch

GrantWatch provides a database of small business grants that allows you to search by grant topics. When using the group’s search function, you can select “small business” as the recipient and “BIPOC” (which stands for Black, Indigenous, and People of Color) as the category to home in on grants designed specifically for minority business owners.

As GrantWatch rounds up thousands of grants, including those for nonprofits, individuals, and small businesses, there isn’t one standard set of qualifications.

3. Galaxy Grants

Galaxy of Stars is a community of minority and women business owners offering support to entrepreneurs. Additionally, they provide a grant opportunity for minority business owners worth $4,250 to start or grow a company. Unlike many other grant options, you only need to fill out a brief form with the absolute basics to enter. Any and all women small business owners are encouraged to apply.

They offer additional grants or financial awards on occasion, so you may want to bookmark this site and check back from time to time.

Recommended: Small Business Loans for Women

4. First Nations Development Institute

The First Nations Development Institute offers grant opportunities to Native Americans in 45 states, the District of Columbia, and U.S. Territory American Samoa. Their grants change throughout the year, and not all grants are specifically for small business owners, as some can support small business ventures or business-minded students. New grants opportunities are posted periodically on the website.

5. IFundWomen

IFundWomen is a funding marketplace exclusively for women-owned businesses. The platform provides access to small business grants from corporate partners, along with expert business coaching and connections to other women business owners. By filling out the IFundWomen Universal Grant Application, you put your business in the running for all the grant opportunities that come their way. In addition to upcoming grants, you will be the first to hear about new funding opportunities and receive additional resources from the IFundWomen community.

6. Amber Grant

The Amber Grant is a funding initiative designed to support women entrepreneurs, including minority women, in launching and growing their small businesses. Created in honor of Amber Wigdahl, a young woman who passed away before realizing her entrepreneurial dreams, the grant offers $10,000 in monthly awards. Additionally, an annual $25,000 grant is awarded to one of the monthly winners.

7. Comcast RISE

The Comcast RISE grant is a program designed to support minority-owned small businesses with marketing, media, and technology resources. The goal of Comcast RISE (Representation, Investment, Strength, and Empowerment) is to empower minority entrepreneurs by offering critical tools and resources to help them succeed, grow, and thrive in an increasingly competitive marketplace.

8. FedEx Small Business Grant

FedEx offers an annual grant competition that provides funding to minority and other small business owners. Winners can receive up to $50,000, along with valuable business services like FedEx Office® print and business services credits.

9. Fast Break for Small Business (LegalZoom and NBA)

LegalZoom partners with the NBA to provide $10,000 grants and $500 in LegalZoom services to minority-owned small businesses, aiming to assist businesses with legal compliance and growth. The grant can be used to help start, run, and grow businesses — known as the perfect play.

10. Asian Women Giving Circle Grant

The Asian Women Giving Circle Grant supports Asian-American women entrepreneurs focused on arts and social change. It offers funding for projects that raise awareness and bring positive social transformation within the community. Each grant is $8,000, and typically 8-10 grants are awarded annually.

Recommended: 30 Small Business Grants for Women

Federal Grants for Minority Small Business Owners

Many federal government agencies offer grants to businesses, including minority-owned businesses. Here are two resources that can help you find federal grants.

Grants.gov

Grants.gov is a database that helps grant seekers find and apply for federal funding opportunities. It stores information on more than 1,000 grant programs offered by a range of federal grant-making agencies, including the U.S. Department of Commerce and the U.S. Small Business Administration (SBA). To apply, you’ll need to create an account, as well as a unique entity ID, which lets you apply for federal grants and bid on government contracts.

Recommended: Small Business Grants in Arizona

United States Department of Agriculture (USDA) Grants

Though not limited to minority business owners, the USDA provides financial backing and technical assistance for rural businesses to create quality jobs and improve the quality of life in rural areas. USDA Rural Business Development Grants are available to small and large for-profit businesses, as well as nonprofit and tribal entities. The funds can be used for a wide range of projects, from agriculture innovation to housing, water quality, health care, and rural job creation in general.

How Do I Apply for a Small Business Grant?

Small business grant applications vary widely. Some grantors require full grant proposals, while others only ask for a small amount of information. Here are some steps that can help you get started.

1.   Check the grant’s requirements. These are often very specific, so be sure you meet the basic program requirements, including location, business size, industry, and any founder requirements. Some may even require that you have a membership to a specific organization before applying.

2.   Collect all of your documents. You’ll likely need to supply a business plan that lays out why you’re applying for the grant and how you plan to use the funds. In addition, you may need:

•  Employer Identification Number (EIN)

•  DUNS number

•  Revenue history

•  Organizational chart, including the number of employees

•  Bank statements

•  Tax returns

•  List of contracts your business holds

3.   Fill out the application. This is typically the most time-consuming part of the process. You may need to answer multiple questions about why you need the funds, your plans for their use, and how your business contributes to the community.

Recommended: 6 Step Guide to Getting a Small Business Loan

Other Resources for Minority Business Owners

In addition to the above grants for minority business owners, here are some other helpful resources you may want to look into.

National Minority Supplier Development Council

The National Minority Supplier Development Council strives to provide business opportunities for certified minority businesses through training, networking, and funding opportunities. With over 1,500 corporate members, the NMSDC plays a key role in advancing minority-owned businesses and driving economic inclusion.

SBA Microloan Program

The U.S. Small Business Administration’s (SBA’s) microloan program provides up to $50,000 to new and existing startups. It is fully funded by the SBA but administered by an intermediary network of nonprofit community-based lenders, rather than traditional banks.

Unlike many traditional loans, SBA microloans are available to small business owners with no credit history, as well as lower incomes. The program is also geared toward businesses otherwise underserved by traditional banks, including women- and minority-owned businesses and those in low-income communities. Exact eligibility requirements vary by lender.

To apply for a microloan, work with an SBA-approved intermediary in your area.

Operation Hope’s Small Business Development Program

Operation Hope’s Small Business Development Program is an intensive course providing training in business basics like financial counseling, personal development, and access to professional services. It focuses on empowering minority business owners by giving them the tools to succeed in competitive markets.

SBA’s 8(a) Business Development Program

The SBA’s 8(a) Business Development Program aims to help socially and economically disadvantaged people or entities by assisting in applying for federal contracting opportunities. They also offer mentoring and business training.

To qualify, businesses must be minority-owned, meet size standards, and demonstrate the owner’s economic disadvantage and management control over the company.

Alternatives to Small Business Grants

Small Business Loans

If grants aren’t available for your business right now or you need faster funding, you may want to look into different types of small business loans. While banks typically have strict qualification requirements, such as at least two years in business and a minimum amount of revenue per year, online lenders tend to be more flexible, as well as faster to fund (though rates are typically higher).

Business Line of Credit

A business line of credit is a type of small business funding that allows businesses to borrow up to a predetermined limit as needed, rather than receiving a lump sum. Similar to a credit card, funds can be drawn and repaid repeatedly, with interest charged only on the amount borrowed.

Microloans

Microloans are small, short-term loans designed to help small businesses and startups with limited access to traditional financing. Typically ranging from a few hundred to $50,000, microloans are often offered by nonprofit organizations, community lenders, or government programs like the U.S. Small Business Administration (SBA).

Recommended: Microloans for Women-Owned Small Businesses

The Takeaway

There are many grants available to small businesses owned by minorities, meaning you can access cash that you don’t have to repay. While it does take some time researching and applying for grants, it can be a valuable source of funding to get your small business off the ground or help it expand. Since competition can be stiff, you may also want to investigate other sources of capital for your business.

If you’re seeking financing for your business, SoFi is here to support you. On SoFi’s marketplace, you can shop and compare financing options for your business in minutes.

FAQ

What is the best source of funding for small businesses?

The best source of funding for small businesses depends on the business’s needs and goals. Common options include small business loans, grants, venture capital, angel investors, and business lines of credit. For flexible, non-repayable funds, grants are ideal, while loans and lines of credit offer structured financing.

Does the government give money to startups?

Yes, there are government programs offering small business loans and grants to startups. Those in specific sectors like technology, research, or those owned by minorities and women may have an easier time finding government assistance, though.

What organization helps small business owners borrow money?

The Small Business Administration (SBA) helps small business owners borrow money by providing access to loan programs, such as 7(a) loans, 504 loans, and microloans. The SBA partners with banks, credit unions, and other lenders, offering guarantees to reduce the risk for lenders and making loans more accessible.

Photo credit: iStock/mapodile

SoFi's marketplace is owned and operated by SoFi Lending Corp. See SoFi Lending Corp. licensing information below. Advertising Disclosures: SoFi receives compensation in the event you obtain a loan through SoFi’s marketplace. This affects whether a product or service is featured on this site and could affect the order of presentation. SoFi does not include all products and services in the market. All rates, terms, and conditions vary by provider.

Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.

Third-Party Brand Mentions: No brands, products, or companies mentioned are affiliated with SoFi, nor do they endorse or sponsor this article. Third-party trademarks referenced herein are property of their respective owners.

External Websites: The information and analysis provided through hyperlinks to third-party websites, while believed to be accurate, cannot be guaranteed by SoFi. Links are provided for informational purposes and should not be viewed as an endorsement.

SOSMB-Q324-063

Foundations, charities, and nonprofits all operate with a mission-driven focus, aiming to serve public or community interests rather than generating profits. And while they are similar, there are distinct differences between the three as well.

Each structure has distinct legal, operational, and financial characteristics, in addition to important tax differences. Read on to learn what separates foundations, charities, and nonprofits from one another.

Defining Each Entity

A foundation is a type of nonprofit organization that typically provides grants or funding to support specific causes, projects, or other nonprofits. It can be private or public and usually relies on endowments or donations for funding.

A charity is a type of nonprofit organization focused on providing aid, services, or relief to improve public welfare. Charities often address social issues like poverty, education, health, or disaster relief and are primarily funded by donations.

A nonprofit is an organization that operates for a specific mission or cause, rather than for profit. Profits are reinvested into the organization’s goals. Nonprofits can include charities, foundations, trade associations, and advocacy groups.

What Is a Foundation?

Foundations are charitable organizations, but they don’t qualify as public charities. Often funded by a person, married couple, family, or corporation, foundations enjoy tax-exempt status as long as they meet certain state and federal requirements.

Foundations are similar to nonprofits, except money for a foundation usually comes from a family or a corporate entity. In fact, foundations can donate money to nonprofits from their revenues, often in the form of grants or gifts.

How Foundations Work

Foundations make grants to other charities and nonprofit organizations. They can take the money they started out with, invest it, and then distribute it.

There are subsets of private foundations: operating and nonoperating. A private nonoperating foundation grants money to other charitable organizations and is the more common form. Foundations don’t directly perform charitable programs or services, either. A private operating foundation distributes funds to its own programs that exist for charitable purposes.

Recommended: How to Start a NGO

What Is a Charity?

A charity is a type of nonprofit organization dedicated to improving public welfare with a focus on social issues. Their primary goal is to benefit society or specific groups, not to generate profit.

Charities rely heavily on donations, grants, and volunteers to carry out their work. In many countries, charities are eligible for tax-exempt status, meaning they don’t pay taxes on the funds they raise. Charities operate under strict regulations to ensure transparency and that funds are used for their intended purposes.

How Charities Work

Charities aim to make a positive, lasting impact on the communities or causes they serve. They work as nonprofit organizations, meaning any surplus income is reinvested into their programs and services.

Charities rely on volunteers, staff, and partnerships with other organizations to carry out activities such as providing aid, education, healthcare, or advocacy. They are accountable to donors, beneficiaries, and governing bodies, often required to report on how funds are used.

What Is a Nonprofit?

A nonprofit organization is dedicated to furthering a social cause or advocating for a shared point of view. It is a business or corporation that has been given tax-exempt status by the Internal Revenue Service (IRS) because it pursues a religious, scientific, charitable, educational, literary, public safety, or cruelty-prevention mission or area of work.

How Nonprofits Work

Once you’ve registered your nonprofit, you must file IRS Form 1023. PDF File, which is the formal request that the IRS recognize you as a 501(c)(3) organization eligible for tax exemptions under this rule.

Nonprofit organizations receive their funds from governments, various institutions, and individuals. The surplus received is mainly funded in its operations. None of the members or employees are supposed to get the benefit from a surplus.

It’s called a nonprofit for this reason. Employees are not supposed to “profit.” In fact, many of the people who work for a nonprofit are volunteers.

Recommended: Funding Sources for Nonprofits

Pros and Cons of Each

Foundations

Foundations allow you to support an important cause or establish a family legacy. Individuals who already donate large sums to charity may wonder if they could make a bigger impact by starting their own foundation. A foundation allows you to strengthen and focus your philanthropic ideas.

However, setting up a foundation requires a lot of work. You will usually need to hire outside professionals — such as attorneys and accountants — who can provide expert advice on how to form and run your foundation.

Private foundations must pay a 1% to 2% annual excise tax on their net income. The exact percentage depends on a foundation’s annual grantmaking. Your records will need to be meticulous.

While different states may have different annual reporting requirements, the IRS mandates annual reporting by all private foundations. This process typically takes eight hours to complete and often requires an accountant or attorney to finalize and submit the necessary paperwork.

Charities

Pros of charities are that many charities qualify for tax-exempt status, which enables them to direct more resources toward their programs. They also rely on volunteers, which fosters community involvement. This creates a sense of purpose and social responsibility among donors and participants.

However, despite their good intentions, charities can face challenges in efficiency and accountability. Limited funding and reliance on donations can make it difficult to sustain long-term programs or scale operations. Administrative costs can reduce the amount of money directly benefiting the cause, leading to criticism about resource allocation. And finally, regulatory oversight and competition for donor funds can also make it harder for smaller charities to thrive.

Nonprofits

Nonprofits can be highly fulfilling – you are pursuing a mission you believe in. When your organization has nonprofit status, particularly when recognized at the federal level by the IRS, it can take advantage of tax and financial benefits:

•  When donations to an organization are tax-deductible, donors have an incentive to contribute.

•  Nonprofit organizations may be given favorable terms and discounts by landlords, service providers and retail companies.

•  IRS-recognized nonprofit 501(c)(3) public charities do not have to pay corporate income tax.

However, fundraising is difficult and you may find yourself in fierce competition for donations. You will also come under pressure to be very open, even revealing financial statements to the media and general public. This type of accountability can result in unflattering press coverage, particularly if your organization is experiencing some financial or administrative challenges.

Recommended: What Are Nonprofit Business Loans?

Structural and Operational Differences

Structural differences between foundations, charities, and nonprofits include foundations often focusing on grant-making, charities providing direct aid, and nonprofits covering a broader mission range.

Operationally, foundations primarily manage endowments, charities rely on public donations and volunteers for hands-on work, and nonprofits may serve educational, advocacy, or membership-based roles beyond charitable activities.

Tax Implications and Regulations

Foundations, charities, and nonprofits all typically qualify for tax-exempt status under Section 501(c)(3) in the U.S., meaning they are exempt from federal income tax. However, each has different regulations.

Foundations must meet stricter guidelines, including mandatory annual distributions and they may be subject to excise taxes. Charities focus on public benefit and must prove their charitable activities to maintain tax-exempt status. And finally, nonprofits can include a broader range of organizations, and some, like trade associations, may not be fully tax-exempt, depending on their purpose and activities.

In order to be tax-exempt, the organization must exist for one of the following reasons, according to the IRS:

•  Religious

•  Charitable

•  Scientific

•  Testing for public safety

•  Literary

•  Educational purposes

•  Foster national or international amateur sports

•  Prevention of cruelty for children or animals

Donations to both foundations and charities are typically tax-deductible, as well.

Funding and Donation Processes

Foundations are typically funded through large endowments or donations from wealthy individuals or corporations. They primarily distribute grants to other organizations or projects aligned with their mission.

Charities rely on donations from the public, grants, and fundraising events. Their funding is often more diverse and directly supports their programs, services, or aid initiatives.

Finally, nonprofits may receive funding through membership fees, services, sponsorships, and donations. Not all nonprofits focus on public fundraising; some rely on private funding or grants. Each type of organization allocates funds based on their specific mission.

Recommended: How to Set Up a Fundraising Bank Account

Choosing the Right Structure for Your Organization

Choosing the right structure — foundation, charity, or nonprofit — depends on your organization’s mission and funding approach. If your goal is to provide grants or financial support to other causes, a foundation could be ideal. Charities, on the other hand, are suited for organizations that focus on direct services or aid to the public, relying on donations and public support. And finally, a nonprofit structure is broader and can support a variety of missions, including advocacy, education, or trade associations, with more diverse funding options.

Consider tax implications, regulations, and your long-term goals to determine which structure best aligns with your organization’s purpose and operational needs.

The Takeaway

Foundations, charities, and nonprofits differ in many key ways. How you receive money is not the same – and what you do with the money you receive differs, as well.

Like businesses, nonprofit organizations sometimes need cash to achieve their objectives and to expand. Many nonprofits qualify for grants, which is money you will not need to pay back.

Funding can also come in the form of a loan. Loans are a tool that can help a nonprofit grow and succeed. Nonprofits may qualify for small business loans, which are offered by banks, credit unions, and online lenders.

If you’re seeking financing for your business, SoFi is here to support you. On SoFi’s marketplace, you can shop and compare financing options for your business in minutes.

FAQ

What is the difference between a foundation and a nonprofit organization?

A nonprofit is a charitable organization with a specific social goal that uses its revenues and surplus to fund its operations rather than benefiting the organizations’ members, shareholders, or employees. A foundation refers to a charitable organization that sources funds from its founders, which could be a corporate entity or a family.

Is a foundation a nonprofit?

Yes, a foundation is a nonprofit corporation or a charitable trust that makes grants to organizations, institutions, or individuals for charitable purposes such as education, culture, education, science, and religion.

Can a nonprofit have “Foundation” in its name?

Yes, but it’s not recommended because it could create confusion and deter donors. Foundations usually can’t accept private donations. It’s even more important to never imply that your nonprofit is a government entity. Refrain from using names that include words like “national” and “federal,” as well, as they are used for government purposes.

Are all nonprofits considered charities?

No, not all nonprofits are considered charities. While charities are a type of nonprofit focused on public benefit, other nonprofits, such as trade associations or social clubs, may serve specific member interests rather than charitable causes. Nonprofits vary in purpose, but all reinvest profits into their mission rather than distributing them.

Photo credit: iStock/SDI Productions

SoFi's marketplace is owned and operated by SoFi Lending Corp. See SoFi Lending Corp. licensing information below. Advertising Disclosures: SoFi receives compensation in the event you obtain a loan through SoFi’s marketplace. This affects whether a product or service is featured on this site and could affect the order of presentation. SoFi does not include all products and services in the market. All rates, terms, and conditions vary by provider.

Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.

Third-Party Brand Mentions: No brands, products, or companies mentioned are affiliated with SoFi, nor do they endorse or sponsor this article. Third-party trademarks referenced herein are property of their respective owners.

External Websites: The information and analysis provided through hyperlinks to third-party websites, while believed to be accurate, cannot be guaranteed by SoFi. Links are provided for informational purposes and should not be viewed as an endorsement.

SOSMB-Q324-062

Purchase order financing is a funding solution that helps businesses fulfill large customer orders without upfront capital. This financing option is particularly useful for businesses experiencing rapid growth or dealing with large, one-time orders.

Purchase order financing comes at a relatively high cost, however. Here’s what you need to know about this type of funding, how it works, its pros and cons, plus alternatives you might consider.

Purchase Order Financing Definition

Purchase order financing, also known as PO financing, is essentially a cash advance that a company can use to fulfill its purchase orders. With this type of financing, a lender will pay a third-party supplier up to 100% off the cost involved in producing and delivering goods to your customers.

While you often need strong credit to get a traditional small business loan, that’s not necessarily the case with PO financing. Purchase order financing companies are typically willing to work with small businesses and startups with bad credit. These lenders tend to be more concerned about the creditworthiness of your customers, since they will be repaying much of the loan.

Recommended: Typical Small Business Loan Fees

How Purchase Order Financing Works

To understand how purchase order financing works, here’s an example. Let’s say you receive a large order from a customer but discover that you don’t have enough inventory on hand to fill it. After reaching out to your supplier, you determine that you don’t have enough available cash to purchase the goods needed to fulfill the order, either.

Rather than turn your customer away, you reach out to a PO financing company. As part of your application for funding, you send the lender your purchase order as well as your supplier’s estimate. If the lender approves you for PO financing, they will then pay your supplier all or a large portion of the invoiced amount. If, for example, the lender approves you for just 90% of the supplier’s costs, you would need to cover the remaining 10% on your own.

The supplier then fills the order and sends the product to your customer. Next, you invoice your customer, who sends payment directly to the lender. The lender then deducts their fees and sends you the balance.

Who Uses Purchase Order Financing?

You might consider PO financing if your business needs to purchase goods or supplies from a third party, but you don’t have enough cash reserves to make those purchases.

Types of companies that may use PO financing include:

•  Startups

•  Business owners with low credit scores

•  Wholesalers

•  Distributors

•  Resellers

•  Importers/exporters of finished goods

•  Outsourcers

•  Government contractors who are fulfilling government orders

•  Companies with seasonal sales

Pros and Cons of Purchase Order Financing

There are advantages and disadvantages to small business purchase order financing. Here’s a look at how the pros and cons stack up.

Pros

•  Enables you to take customer orders you otherwise could not fulfill. Purchase order financing allows you to serve customers despite seasonal dips in cash flow and/or take on an unusually large order from a customer.

•  Can be easier to get than other types of business loans. While PO financing companies will look at your business’s financials and credit history, they are typically more interested in the creditworthiness of your customers and the reputation of your supplier. As a result, it can be easier for startups and businesses with less-than-stellar credit to qualify for PO financing compared with other types of business funding.

•  You don’t need to make regular loan payments. Since PO financing is more of a cash advance than a loan, you won’t need to pay the money back in regular installments like you would with a regular term business loan.

Cons

•  Can be costly. PO financing fees may seem relatively low at first glance, often ranging between 1% and 6% of the total supplier’s costs per month. But when that rate is converted into an annual percentage rate (APR), purchase order financing rates are actually fairly high, potentially 20% or significantly more.

•  Cost depends on your customer. Since fees are charged per month, how much you will end up owing the PO financing company will depend on how long it takes your customer to pay their invoice. This can make it difficult to estimate the total cost upfront.

•  You’re cut out of the process. With this type of financing, the lender and supplier often take over most of what you normally do. In many cases, the lender will pay the supplier, the supplier will ship the product to the customer, and the customer will pay the lender. As a result, you won’t have the usual amount of quality control.

Recommended: 5 Crowdfunding Sites to Help Fund Your Business

Applying for Purchase Order Financing

Purchase order financing is primarily offered by online financing companies. Some banks offer PO financing, but typically only to large companies or existing clients.

To qualify for PO financing, you usually need to:

•  Have a purchase order of $50,000 or more

•  Sell finished goods (not parts or raw materials) that you don’t make yourself

•  Sell to business-to-business (B2B) or business-to-government (B2G) customers

•  Have profit margins of at least 20%

•  Have creditworthy customers (some lenders will conduct a detailed credit check on your customers)

•  Have reputable and trustworthy suppliers

If you meet the basic criteria for PO financing and want to apply, you’ll typically need to have the following documents:

•  The customer’s PO

•  Your supplier’s invoice

•  Your invoice to your customer

•  Your purchase order to your supplier

•  Information about your business

•  Financial statements (such as your balance sheet, income statement, and cash flow statement)

•  Tax returns

Recommended: What Is EBITDA?

Alternatives to Purchase Order Financing

If PO financing doesn’t sound like the right financing solution for your business, you’re not necessarily out of luck. There are a number of other small business financing options that can help smooth out dips in cash flow and help you grow your business. Here are some to consider.

Invoice Factoring

Invoice factoring is a type of invoice financing that involves “selling” some or all of your company’s outstanding invoices to a third party, called an invoice factoring company. The factoring company will typically pay you 80% to 90% of the invoice amounts, then collect payment directly from your customers. Once the factoring company gets paid by your customers, the company will pay you the remaining invoice amount — minus any fees.

Small Business Loans

With a traditional term business loan, you receive a lump sum of capital upfront and then pay it back (plus interest) in regular installments over a set term. While banks typically have strict criteria for business loans, online business lenders tend to have more flexible qualification requirements and are faster to fund. A short-term business loan from an online lender can help solve a short-term cash crisis, but rates and terms are generally higher than bank loans.

Merchant Cash Advances

A merchant cash advance (MCA) might be an option if you do business using credit card transactions. With an MCA, you get a cash advance in exchange for a fixed percentage of future credit card receipts. Typically, the MCA provider automatically deducts a daily (or weekly) percentage of your debit and credit card sales until the advance, plus fees, is repaid in full. While an MCA can be a quick source of cash, this is one of the most expensive ways to finance a small business.

Business Lines of Credit

You can also use a business line of credit for short-term financing. Similar to how a credit card works, a line of credit allows you to draw up to a certain limit and only pay interest on the money you borrow. You then repay the funds and can continue to draw on the line. A business line of credit can be used for a variety of immediate needs, such as managing cash flow, buying inventory, or paying employees.

Recommended: Guide to Debt Instruments

The Takeaway

Purchase order financing provides funds to buy needed items to fulfill business needs. If it isn’t right for you, you may want to shop around and compare other small business financing options.

If you’re seeking financing for your business, SoFi is here to support you. On SoFi’s marketplace, you can shop and compare financing options for your business in minutes.

FAQ

Is PO financing a loan?

Purchase order financing is not a traditional loan. Since it doesn’t provide you with a lump sum of capital you then pay back in installments, it’s considered a cash advance.

What documents are required for purchase order financing?

To apply for purchase order financing, you’ll need to provide a number of documents, which may include the customer’s purchase order, your supplier’s invoice, information about your business, financial statements (such as your balance sheet, income statement, and cash flow statement), and personal and business tax returns.

Can purchase orders be used as collateral?

Yes, purchase orders can be used as collateral in purchase order financing. Lenders consider the purchase order as a guarantee of future payment from a customer, advancing funds to cover supplier costs. The order itself serves as security, ensuring repayment once the customer fulfills their payment obligations.

What is the difference between purchasing order financing and invoice financing?

Purchase order financing funds suppliers upfront to fulfill customer orders, covering the cost of goods before they’re sold. Invoice financing, on the other hand, provides cash advances based on unpaid customer invoices, helping businesses access cash after a sale is made but before the customer pays the invoice.

Photo credit: iStock/Kerkez

SoFi's marketplace is owned and operated by SoFi Lending Corp. See SoFi Lending Corp. licensing information below. Advertising Disclosures: SoFi receives compensation in the event you obtain a loan through SoFi’s marketplace. This affects whether a product or service is featured on this site and could affect the order of presentation. SoFi does not include all products and services in the market. All rates, terms, and conditions vary by provider.

Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.

Third-Party Brand Mentions: No brands, products, or companies mentioned are affiliated with SoFi, nor do they endorse or sponsor this article. Third-party trademarks referenced herein are property of their respective owners.

SOSMB-Q324-061