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If you’re looking to start a small business, you typically have two options: You can start an independent business of your own or you can open a franchise. A franchise is a business model in which a franchisor — usually an established business and brand — allows a franchisee license to use its name and idea and to sell its goods or services. In return, the franchisee typically pays an upfront fee and ongoing royalties.

There are several advantages of buying a franchise vs. starting your own business. Get to know the potential benefits so you can make an informed decision about whether a franchise is right for you.

💡 Recommended: How to Get a Loan to Buy a Business

Built-in Brand Recognition and Reputation

When you start a business from scratch, you must work hard to get the word out about the goods and services you offer. This can take a lot of marketing effort and years of building trust with a customer base. It’s no wonder that advertising is one of the major costs of starting a business.

A franchise, on the other hand, is leaning on the brand recognition and reputation of a well-known business. There is likely already an active customer base, and with it, a built-in understanding of what the business is and what it provides. Customers already know what to expect.

Proven Business Systems and Operations

A franchise is already a proven business model. You don’t have to develop it from scratch, nor do you have to spend the time to explore the best ways to operate the business successfully. Those steps have been taken for you.

Depending on how the business is structured and the agreement you make with your franchisor, you may get everything you need to operate the business, including equipment, supplies, and detailed business processes.

Other franchises may not offer a turnkey system. However, you will still have access to institutional knowledge, whether that is provided to you in material form or through the business founder.

Recommended: Business Line of Credit

Training and Support Programs

As part of the operational assistance a franchisor may offer, there may be training and ongoing support to help you manage your business and bring on employees. Training will typically cover daily operating, the use of equipment, point-of-sale software, business systems, and other daily tasks.

Training programs are available to help the franchisee open their business and then on an ongoing basis to help ensure the continued success of business operations.

One advantage of a franchise is that franchise owners may be joining an existing network of other franchise owners. In addition to the ongoing support offered by the franchisor, this group may be able to share best practices and tips they have learned.

Marketing and Advertising Assistance

The franchisor will likely supply marketing strategies, materials, and techniques to drive sales effectively. For example, they might provide signage to include in ground locations or guidelines for advertising in local markets and budgeting suggestions.

Franchisees who are part of large chains can take advantage of the parent company’s broader marketing campaigns, which could include regional or national advertising in print, on the radio, online, or on television.

Established Supply Chains

Maintaining a steady supply chain can be a big challenge for independent businesses, who must establish relationships with trusted vendors and negotiate prices on their own. Franchisees can often take advantage of established supply chains. What’s more, the parent companies can often negotiate for better deals on products purchased in bulk. These lower costs can translate to lower operating costs for franchise owners.

Recommended: Business Equipment Financing

Financial Benefits and Performance Data

In addition to the financial benefits provided by immediate market share and increased purchasing power, franchises may benefit from better access to loans for startup businesses. A franchise presents lower risk than a brand new business. A franchisee is buying into an already successful business model, so they have lower failure rates than other entrepreneurs.

The low risk of opening a franchise may make it easier to secure loans, such as SBA loans. Some franchisors even have an in-house financing arm, though these options may not offer the lowest interest rates.

Franchisors may also offer access to performance data that gives franchise owners insight into marketing data, costs, and cash management. With this data on hand, owners can work with franchisors to help ensure continued growth and success.

The Takeaway

A franchise can provide many advantages for individuals looking to start a business of their own, established customer base and ongoing support from a successful parent company in the form of training, marketing support, buying power, and access to performance data.

They are not without disadvantages. For instance they often have high startup costs, ongoing royalty payments, and franchise rules that owners must continue to abide by. Weigh potential benefits against these risks to help determine if owning a franchise is the right business move for you.

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 small business loans in minutes.

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 the main benefits of buying a franchise?

The main benefits of buying a franchise are access to a successful business model, an established customer base, and ongoing support from the parent company and the network of other franchise owners.

Is buying a franchise less risky than starting a business?

Buying a franchise may be less risky than starting a business of your own, because a franchise already has a proven business model and immediate name recognition.

What type of support do franchisors provide?

Franchisors may provide support in a variety of ways, including training, marketing support, the ability to collectively negotiate the purchase of supplies, and access to business data.

How does franchise marketing support work?

Franchises may offer marketing materials, including strategies and a budget. Franchisees may also benefit from regional and national marketing campaigns in print, online, on the radio, or on television.

Are franchises more profitable than independent businesses?

Franchises are generally more successful than most small businesses. Industry reports show that after two years, 92% of franchises remain in business. After five years, 85% are still open. Compare this to independent businesses where only 50% survive five years.

Photo credit: iStock/RerF

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.

This content is provided for informational and educational purposes only and should not be construed as financial advice.

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-Q424-105

A fixed charge coverage ratio (FCCR) measures a business’s ability to pay for its recurrent expenses — including mandatory debt payments, rent, utilities, interest, and equipment leases — with its current earnings.

Fixed Charge Coverage Ratio (FCCR) Explained

The fixed charge coverage ratio shows how a business can meet its expected financial responsibilities. Banks often consider companies’ FCCR when deciding whether to extend small business loans.

What It Measures

The FCCR shows how easily a business can satisfy its fixed charges. These are predictable, recurrent business expenses that must be paid regardless of sales volume, such as lease payments or debt obligations.

A low FCCR can mean the company has less capacity to make payments fully and on time, which poses a risk for lenders. A high FCCR indicates that a company can adequately cover fixed charges based on its current earnings.

Calculating your business’s FCCR may be a part of the break-even analysis you do when assessing the health of your enterprise.

Recommended: Startup business loans

How It’s Calculated

There is a formula for calculating the FCCR. To use it, you’ll need to know some financial details about the company, like its earnings before taxes and interest, its fixed charges, and how it is categorizing its business expenses.

Fixed Charge Coverage Ratio Formula

To do the calculation, use the fixed charge coverage ratio formula, as follows:

EBIT stands for “earnings before interest and taxes”; as the name suggests, you arrive at that figure by adding tax and interest expenses back into your company’s net income. You can find the EBIT figure on the company’s income statement, sometimes referred to as operating income.

To calculate FCCR, you add the business’s interest costs, lease payments, and other fixed charges back in, as shown above. It can also be helpful to understand the EBITDA formula — a related metric that adds depreciation and amortization to the EBIT — when assessing your FCCR.

How Lenders Use the FCCR To Evaluate Businesses

The FCCR is a key factor for lenders when evaluating businesses’ loan applications. A ratio of 1 means the business has just enough earnings before taxes and interest to meet its financial responsibilities. A ratio of 2 means that company earnings would enable the business to pay for its financial responsibilities two times over. The ideal FCCR varies by industry, but many lenders want to see businesses that have a ratio of at least 1.2.

However, certain factors aren’t addressed by the FCCR, so lenders also use other benchmarks in evaluating a business’s creditworthiness. They may look at your debt-to-EBITDA ratio, for example.

Another is the debt service coverage ratio (DSCR). Unlike the FCCR, the DSCR ratio focuses only on debt repayment and doesn’t include fixed financial obligations.

The DSCR is calculated using EBITDA (minus a fraction of the business’s income tax), divided by the total debt service interest and principal. Therefore, the larger your debt is, the lower your DSCR will be. This calculation is worth keeping in mind if you’re considering applying for a business line of credit or additional loans.

Improving Your Fixed Charge Coverage Ratio

There are ways to improve a company’s fixed charge coverage ratio over time. While these changes may not immediately fix your FCCR, they’re likely to help the company’s finances regardless.

•  Refinancing the business’s existing debts into a lower interest rate can lower the company’s interest payments and raise the FCCR.

•  Reducing or relocating overhead could also lower the business’s overall costs in order to increase EBIT. This would result in a larger numerator for the FCCR formula, leading to a higher ratio.

•  Buying used equipment is generally cheaper than buying or leasing new equipment. Since lease payments and EBIT are part of the FCCR, this could improve the company’s FCCR. Check with your accountant: You may even be able to write off the used equipment as a small business tax deduction.

•  Negotiating a lower interest rate or lower lease payments are other ways to lower the company’s fixed charges, increasing EBIT and thereby the company’s FCCR.

Recommended: Business equipment financing

The Takeaway

The fixed charge coverage ratio (FCCR) measures how well a business can pay for its fixed expenses, including debt payments, rent, utilities, interest, and equipment lease expenses. Lenders and investors often use FCCR as a factor in approving a business for loans or investment opportunities. It should help raise your company’s FCCR over time if you can find ways to increase revenues, pay down debt, and lower expenses.

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 a good fixed charge coverage ratio?

In general, the higher the fixed charge coverage ratio, the better, but the ideal FCCR varies by industry. Many lenders want to see businesses that have a FCCR of at least 1.2. Companies with a ratio above 2 have the best chances of getting approved for a loan.

How does FCCR differ from the debt service coverage ratio?

The debt service coverage ratio (DSCR) measures a company’s ability to meet its debt obligations from its operating cash flow. It focuses only on debt repayment and, unlike the FCCR, it doesn’t include other fixed financial obligations. The DSCR uses EBITDA (earnings before taxes, interest, depreciation, and amortization) as a proxy for cash flow.

How can I improve my fixed charge coverage ratio?

Improving your company’s FCCR is possible. Options include refinancing the business’s existing debts with a lower interest rate, reducing or relocating overhead, buying used equipment, and negotiating better loan terms or smaller lease payments.

Is FCCR important for small businesses?

FCCR can be an important factor for small businesses that want to be approved for loans, lines of credit, or other forms of financing. Also, outside investors often consider FCCR when assessing investment opportunities.

Can FCCR affect loan approval?

Yes, FCCR can affect loan approval. A lender may see a business with a low FCCR as too risky for a loan. However, most lenders do look beyond FCCR in their analysis.

Photo credit: iStock/Chalirmpoj Pimpisarn

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.

This content is provided for informational and educational purposes only and should not be construed as financial advice.

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.

SOSMB-Q424-112

One major challenge for small business owners is knowing which insurance policies they need and how much that business insurance will cost. Naturally, the particulars of your business will dictate what types of coverage are best for you.

Here’s an overview of popular business insurance types and some elements that can affect your company insurance cost.

Types of Business Insurance Coverage and Costs

The many types of business insurance policies come with different business insurance costs. Average costs generally vary by business sector and the type of policy you buy. Still, a ballpark figure is useful to include in your balance sheet when you’re writing a business plan. The following average costs are taken from Insureon.

Recommended: Understanding Business Liabilities

Factors Affecting Insurance Premiums

The size and type of your business, the level of industrial risk, and your claims history are three important factors in determining your insurance premiums. Other aspects include payroll, sales, coverage, policy deductibles, and the location of your small business.

Note that for small business financing, you may be required to take out a policy to insure any assets you’re using as collateral.

Business Size and Type

The size of the business will drive the cost of the business insurance policies. Larger employers usually have to pay more for business insurance coverage. With more employees, it’s more likely that someone will experience injuries, incidents, or accidents. Businesses without any employees may be exempt from their state’s worker’s compensation requirements.

The type of business you’re in also affects insurance premiums. Not only are some businesses more risky than others — think construction or heavy machinery repair — but some businesses use expensive equipment or operate vehicles that may incur additional costs. If you’re applying for, say, a line of credit for your business, be aware that some lenders are likely to subject a company in a high-risk industry to stricter (and possibly costlier) underwriting guidelines.

The location of the business can also impact premiums. If your business is located in an area prone to natural disaster or high crime, your commercial property insurance is likely to cost more than a business in a low-risk area. States also have different regulations, such as workers’ compensation insurance requirements.

Recommended: Equipment financing

Industry Risk Factors

As mentioned above, some industries are inherently riskier than others. Industries with higher risk will likely have higher insurance premiums. For example, general liability insurance costs would probably be higher for a construction company than for an accounting firm.

Claims History

A business that has made multiple claims in the past may be a red flag for insurance companies. Having a history of business insurance claims could indicate that the business is not taking proper steps to mitigate risk.

Average Cost Breakdown

The average cost of small business insurance is about $301 a month or $3,612 a year (unbundled) for general liability, commercial property, workers’ compensation and commercial auto insurance coverage. However, the exact cost varies greatly based on the type of business, its location and service area, claims history, policy bundling, and other factors. If your insurance premiums are unexpectedly high, you may want to look into boosting your working capital with an online business loan.

Bear in mind that having the appropriate insurance is a requirement for funding a business with a Small Business Administration loan.

How to Reduce Insurance Costs

Fortunately, there are some ways to reduce business insurance costs. The best way is to file very few claims against the insurance policy. Having a history of claims signals to insurers that the business may be inherently too risky or not good at mitigating risk. A company with a history of accidents, workplace injuries, or negligence lawsuits is a red flag for business insurance companies. It’s also a concern for lenders when you’re applying for startup business loans.

Some insurance companies will offer discount rates for actions you can take, such as bundling policies, investing in workplace safety training, and doing routine facility maintenance. Businesses may also get a discount by paying their premiums annually instead of monthly, or they may be able to lower their premiums by opting for higher deductibles.

Always shop around to find the best option for your business’s needs, qualifications, and budget.

Choosing the Right Coverage

Choosing the right coverage for your business can be difficult. Don’t necessarily go straight for the cheapest insurance policies. The cheapest options may not be the best fit for your business’s needs. For example, businesses that store personally identifiable information or credit card numbers may need to get cyber liability insurance that covers data breaches and customer notification expenses.

You should take a look at an insurance company’s online reviews, but bear in mind that they may not be conclusive. Insurance companies with many client complaints may indicate potential future difficulties for you when filing claims — of course, that’s not always the case. Check the website of your state’s insurance commissioner to learn more details about the company and its history.

The Takeaway

The average cost of small business insurance varies by industry, company size, and degree of coverage, among other factors. There are a variety of business insurance policy types to address each business’s specific needs. Shopping around for policies can save money, but the best way to keep insurance costs low is to file very few claims.

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 insurance does my business legally need?

The types of insurance that your business must have will depend on your company’s activities, location, and assets. Workers’ compensation insurance is required by the federal government for any business with employees. Commercial auto insurance is required in many states for businesses that own, lease, or rent vehicles. States may have additional legal requirements for other types of insurance; check your state government’s website for specifics.

How can I lower my business insurance costs?

The best way to reduce business insurance costs is to file very few claims against your insurance policies. Some insurance companies will also offer discounts for things like bundling several policies together for increased coverage, investing in workplace safety training and routine facility maintenance, paying premiums annually instead of monthly, or by adjusting policies to raise their deductibles.

Should I bundle different types of coverage?

Most insurance companies allow businesses to bundle different types of coverage. They may even offer discounts if you bundle several policies at once.

How often should I review my insurance coverage?

You should review your insurance coverage at least once a year.

What affects my insurance premium the most?

The factor with the biggest impact on insurance premiums is the number of previous claims. Other conditions that impact insurance premium costs include the business’s size and type, industry risk factors, location, level of coverage and deductible amounts.

Photo credit: iStock/Ridofranz

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.

This content is provided for informational and educational purposes only and should not be construed as financial advice.

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.

SOSMB-Q424-107

If you have a small business that you’re ready to expand, you might be looking at how to incorporate.

But what is a corporation, exactly, and how do you incorporate? First, let’s define some terms.

•  A corporation is a business entity that is separate from its owners, who are known as shareholders. A corporate structure is one way to protect business owners from being held personally liable for the company’s actions.

•  Incorporation is the process of forming a legal corporation. After incorporation, a company gains certain legal rights and protections while also taking on new compliance responsibilities.

You can incorporate your business in six steps. Depending on your state and city, the specifics may vary, but overall the steps remain generally the same.

Step 1: Choose Your Business Structure

To set up an incorporated entity for your small business, start by choosing your business structure. Many types of business entities, such as limited liability companies (LLCs), partnerships, non-profits, and cooperatives, can incorporate. When you’re deciding on your business structure — weighing a sole proprietorship vs LLC, for example — consider your company’s goals, needs, and legal requirements.

Recommended: Comparing LLC Business Loans

There are various types of corporations, each offering business owners an array of specific benefits. Here are several ways you can incorporate.

•  A C corp is an individual entity that’s independent of the business owners. This is the default corporation type. C corps are subject to corporate income tax.

•  An S corp is a pass-through entity, meaning that the corporation can bypass paying corporate tax on its income and pass the profits through to the shareholders. Each shareholder will then report the income on their personal income tax returns. To qualify as an S corporation, a corporation must meet specific criteria such as having fewer than 100 shareholders, issuing just one class of stock, and restricting ownership to only individuals or certain trusts and estates.

•  A benefit corporation is a mission-driven entity that also pursues profit. It pays corporate taxes as either a C or an S corp. Typically it reports each year on the public benefit it provides. Not all states recognize this type of business entity, though. (It’s important to bear in mind that benefit corporations are not the same thing as “B corporations.” The organization B Lab grants “B” certification to corporations that meet its ethical and structural criteria.)

•  A nonprofit corporation can apply for exemption from state and federal income taxes. However, it must abide by specific requirements and regulations to maintain its status.

•  A professional corporation is a specialized entity that allows licensed professionals to access the benefits of operating as a corporation. Setting up an incorporated entity in this way may help professionals who use costly machines, such as dentists, secure equipment financing. Each owner has personal liability protection from the negligence of other owners, but not from the outcomes of their own actions.

Not all business entities are corporations, or need to be. Consider which option will make your small business ideas work best. An LLC, for example, is not formally a corporation, but can elect to be taxed as if it were.

Forming a corporation may help with funding. You have the option of selling stock in your company. Also, banks offering small business loans may prefer to lend to an incorporated business. Nevertheless, there are some alternative small business loans that you can get without formal incorporation.

Step 2: Select a Business Name

Choose a unique name for your business. The business name will need to comply with the jurisdiction’s regulations; consult your local secretary of state or equivalent for your area’s rules. It’ll save time if you check your state’s corporation database to make sure your desired business name isn’t already in use.

You should also check the official trademark database with the U.S. Patent and Trademark Office to avoid trademark infringement. If your desired business name hasn’t been registered there yet, you may want to trademark the name to prevent others from using it.

If you plan to operate your business under a different name than the one you register, you will need to establish it as a “doing business as” (DBA) name.

Recommended: Business line of credit

Step 3: Appoint Directors and Officers

Because corporations are standalone legal entities, they have to have boards of directors who will act on behalf of the shareholders (owners). Corporate shareholders elect the board members. Board members can include company executives and non-employees. Directors often have structured and defined roles and responsibilities within the company.

The required number of directors depends on the state and the corporate structure of the business. The board of directors must meet at least once a year; some states allow virtual meetings.

Step 4: File Articles of Incorporation

The most obvious step in setting up an incorporated entity is filing articles of corporation, also known as a certificate of incorporation. In the articles of incorporation, you will need to provide information about your business. This typically includes the name of your corporation, the business address, the business purpose, the registered agent, the names of the directors, and the number and value of the shares the corporation will issue. Articles of incorporation are submitted to the secretary of state’s office in the state where the corporation is located. There may be a fee for filing articles of incorporation.

Additional documents may be required for forming and maintaining a corporation. Examples include the business name reservation form, corporate bylaws, operating agreements, meeting minutes, board resolutions, a shareholder agreement, or annual reports.

Recommended: Guide to SBA Loans and How to Apply to Them

Step 5: Obtain Necessary Licenses and Permits

You might need to obtain licenses or permits for certain types of businesses. There are different requirements for licenses and permits in different business industries and jurisdictions. Some of the most commonly required licenses and permits include a general business license, an employer identification number (EIN), a sales tax permit, industry-specific licenses, and a DBA (doing business as) registration. Bonus: Submitting these documents when applying for a startup loan could well boost your credibility with a lender.

Step 6: Create Corporate Bylaws

Bylaws are the legal document that establishes rules and guidelines for how the business operates. Some states require that all corporations have bylaws, but even if your state does not require them, bylaws are still helpful for the corporation to run smoothly. Bylaws are for internal use, and may include information like the standards for business operations, the responsibilities of the officers and shareholders, and the required frequency of meetings. The bylaws should be feasible for your business and should not interfere with the authority of your board of directors or state business laws.

The Takeaway

Incorporating your business can take time, effort, and money. However, the benefits of incorporation are often worth it. Incorporation provides tax benefits, liability protection for shareholders and directors, credibility, and ease of raising capital. Given the varied requirements among states, it’s worth checking with a tax professional to see what type of corporation matches your needs.

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 the essential steps to incorporate a business?

The steps for incorporating a business include choosing a business structure, selecting a business name, appointing directors and officers, filing articles of incorporation, obtaining necessary licenses and permits, and creating corporate bylaws.

How do I choose the right state for incorporation?

When choosing a state for incorporation, consider factors like your business goals, the locations where business will be transacted, state regulations, state tax laws, state privacy laws, fees, and legal implications within the jurisdiction.

What documents are required for incorporation?

The required incorporation documents will vary by location and type of corporation. Some of the documents that are needed for incorporation may include the business name reservation form, the articles of incorporation or the articles of organization, corporate bylaws, operating agreements, meeting minutes, board resolutions, a stock certificate, a shareholder agreement, and annual reports.

What are the ongoing compliance requirements after incorporation?

After the business is incorporated, the business will need to distribute an annual report to shareholders, maintain corporate records, hold regular meetings, and fulfill tax obligations. States have different ongoing compliance requirements.

How long does it take to incorporate a business?

The length of time to incorporate a business will vary depending on the state. In some states, it can take as little as 10 days, while in others the process may eat up a month or more. Check with the secretary of state office in your area for specific incorporation processing times. Some states offer expedited incorporation options for an additional fee.

Photo credit: iStock/vitchanan

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.

This content is provided for informational and educational purposes only and should not be construed as financial advice.

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-Q424-101

Doing business online has become increasingly common–even for services that are in-person. Accepting online payments is an important way to increase your market reach and grow your business.

There are several ways to accept payments online, including with credit cards, mobile payments, and ACH transfers.

Typical Online Payment Options

Whether you’re an established business or a startup, there is a lot you have to think about, from getting the equipment you need to operate to hiring employees to getting your goods and services into the hands of your customers. Increasingly, this last item requires a way to collect payments online. There are three common ways you can do so, and the options that’s right for you will depend on your business and client needs.

Online Payment Service Provider

If you plan to accept credit cards for goods and services online, you’ll typically need to engage a payment service provider. You can use third-party processors, such as PayPal or Stripe, or there may be a processor built into the platform you use to run your website. If you already have a point-of-sales system you use at a ground location, it may also offer options for online processing.

You will owe a per transaction fee on credit card purchases of about 3%.

Mobile Payment

Mobile payment apps are a fast and easy way for customers to pay, as they don’t require them to manually input credit card information. To accept mobile payments, you’ll need to build them into your site using developer guidelines for each. That said, due to the popularity of this option, e-commerce platforms commonly make it very easy to accept mobile payments, often simply requiring that you activate the option.

ACH Transfer

The Automated Clearing House (ACH) network allows individuals and businesses to move money electronically between banks. For a customer to make a payment, all they typically need is your bank routing number and account number. Some banks may require additional verification in the form of a voided check or an authorization from your bank. In contrast to credit card payments, payers are responsible for ACH transfer fees.

Make Payments Easier With Online Invoicing

You can make it easy for clients to pay by using online invoicing services that integrate payment options into your electronic invoice. These services usually allow you to choose what payment methods you will accept.

Keeping track of invoicing can also help you if you need to tap other business resources, such as invoice financing.

Setting Up a Merchant Account

A merchant account is a bank account that allows your business to accept credit cards. The account holds funds from card payments and then deposits them into your business bank account where you will have access to them. Payment service providers offer turnkey merchant account solutions for businesses who wish to start accepting payments immediately. They work by aggregating multiple businesses under a single account and providing sub accounts for each.

If you require more customization, you may consider an individual merchant account. Individual accounts may also be offered through point-of-sales systems companies and payment processing companies.

Choosing the Right Payment Gateway

In addition to other services, payment service providers will supply a payment gateways, which acts as an intermediary between your customers shopping online, their credit cards, and your bank. Choosing the right provider is important as it affects how your business operates, including customer experience.

There are several factors that you may want to consider when choosing a system.

•  Payment method: The system you choose should support the payment method you wish to use, such as credit and debit card or digital wallets. If you have customers outside the U.S., be sure your platform can support international transactions.

•  Fees: Most payment gateways will charge a transaction fee. This will vary by company, and some companies may offer a tiered fee system based on transaction volume.

•  Security: Make sure your payment gateway protects sensitive data. It should comply with the Payment Card Industry Data Security Standard (PCI DSS), and it should use security measures such as encryption and tokenization. Some will also offer tools to detect fraud.

•  Customer experience: Look for platforms that have a simple-to-use customer interface that allow customers to check-out easily. Difficult interfaces may lead customers to abandon purchases.

Integration Steps and Technical Requirements

Once you’ve chosen a payment gateway provider, the first step is to set up an account and provide all required banking and business information.

Next, integrate the platform into your website. You may use an e-commerce platform that makes this relatively easy. If you have a custom site, your developer may integrate the payment gateway using provided instructions.

Be sure your website complies with PCI DSS guidelines to help ensure that customers data is safe. And perform test transactions for various scenarios to ensure the system is working properly.

Payment Processing Fees and Costs

Every time you make a payment transaction, you will likely owe several processing fees. Your payment processor will charge an authorization fee every time you process a transaction, such as a sale, decline or a return. Your merchant bank will charge a fee, and the customer’s credit card association — such as Visa or Mastercard — will charge a fee known as assessment. Finally, the card issuer will charge a fee known as an interchange.

Get to know these fees to understand the full cost of processing transactions, especially as you put together your regular traditional income statement. Payment process fees are generally considered to be tax deductible by the IRS for small business taxes.

Recommended: 6 Step Guide to Getting a Small Business Loan

The Takeaway

The ability to accept payments online can be key to introducing your business to new markets and helping it grow. Choosing the right payment method is important, and if you choose to use a payment service provider, find one that meets your business needs and budget.

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 do I start accepting payments online for my business?

You can start accepting payments online through a payment service provider, link mobile payment methods, or through ACH transfers.

What’s the difference between a payment gateway and a merchant account?

A payment gateway is like a digital point-of-sale terminal. It validates credit card information, processes the payment, and confirms the transaction. A merchant account is required to hold a customer’s credit card payment and transfer it to your business account.

Which online payment method is most secure?

Online payment methods are secure. ACH payments go through a clearing house that keeps customer data safe. And payment service providers comply with PCI DSS guidelines to protect customer information.

How much does it cost to accept online payments?

Online payment service providers make money by charging transaction fees of about 3% per transaction.

What security measures do I need for online payments?

Ensure your payment systems are secure by making sure payment service providers comply with the Payment Card Industry Data Security Standard (PCI DSS) and use security measures such as encryption and tokenization.

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