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For many startups, the need for funding begins even before they have a fully developed product or service to bring to market. In fact, a founder may have nothing more than a great idea, yet still need capital to take it to the next level. The question is, where can they get it?

That’s where pre-seed funding comes in. While you may have heard of seed funding, the first official round of funding for a startup, pre-seed funding comes into play even earlier in the game. It’s capital from investors who are willing to gamble on not much more than a viable idea for a new business.

While pre-seed investment can be difficult to get, it can fast-track your startup’s growth. Read on to learn how pre-seed funding works, who offers it, and how to secure a pre-seed investment.

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What Is Pre-Seed Funding?

Pre-seed funding is an early funding round in which investors provide a startup with capital to develop its product in return for equity in the company.

Pre-seed funding comes before the “official” rounds of funding, which include seed funding, followed by Series A, B, and C stage funding. Generally, this type of investment is made when a venture is still in the proof-of-concept stage and provides founders with enough capital to get off the ground.

How Does Pre-Seed Funding Work?

Like other types of startup funding, pre-seed funding involves receiving a certain amount of working capital in exchange for equity in your business. As your startup grows, that equity will (hopefully) become more valuable, and investors can cash in when your business gets purchased or goes public.

Why Is Pre-Seed Funding Important

Pre-seed funding for startups is important because it’s that idea, that seed, that needs to be taken care of and nurtured in order to become a full-fledged, blooming business.

Without money for research and development or employees who can turn that idea into reality, your startup may never actually get off the ground. Pre-seed funding provides the resources needed to establish the foundation of your business. Later rounds of financing can help you build on that foundation.

Recommended: 10 Business Growth Strategies

Pre-Seed vs. Seed Funding

There are similarities between pre-seed and seed funding, since all funding rounds tend to overlap slightly. For example, both pre-seed and seed funding are used to cover early expenses, like hiring and research and development, for a new product offering.

However, there are some key differences. For one, pre-seed funding isn’t generally considered an official round of funding, whereas seed funding is. Pre-seed funding also tends to be smaller than seed funding.

Another key difference: With pre-seed funding, investors don’t expect your startup to have done much yet. With seed funding, on the other hand, investors often require that the company has already developed their product and has somewhat of a customer base.

Finally, pre-seed funding is riskier to investors than seed funding, since it’s possible that product may never even make it to market.

What Is Pre-Seed Funding Used For?

You can use pre-seed funds for anything that helps you get your idea off the ground. That includes researching the market to understand who your audience is, hiring staff, renting office space, developing a prototype, manufacturing that prototype into something scalable, and marketing your product or service to those first few customers.

How Soon Does It Make Sense to Look for Pre-Seed Funding?

Even though pre-seed funding is for the earliest stage of a start-up, you don’t want to go to investors empty-handed. A good time to research pre-seed funding is when:

•  You know the niche your product fills. If you’ve done your homework, you know the market your product is designed for and can use this early-stage funding to dive deeper into how you can tailor the product to fill a need in the marketplace.

•  You have a rough prototype of your product. It doesn’t have to be fully developed yet, as pre-seed funding will help work out the kinks.

•  You already have some interest. Have you started showing your product to customers? Early positive feedback is a good sign that a startup has high growth potential.

•  You have a revenue model. You may not yet be earning revenue, but you have a plan and clearcut path to making money.

Types of Pre-Seed Funding

Pre-seed funding can come from a variety of sources. These include:

Venture Capital

Venture capital is a form of financing provided by investors to startups and early-stage companies with high growth potential. In exchange for funding, venture capitalists receive equity or ownership stakes in the business.

Friends and Family

Who better to support your endeavor than the people who know you best? You may be able to get pre-seed funding from friends and family. Just be careful to keep it a business transaction and create a loan or investment agreement that stipulates repayment or equity share.

Angel Investors

Angel investors tend to provide smaller amounts of capital than venture capitalists, which can make them particularly well-suited to pre-seed funding. Plus, many have niche specialties that could align with your business’ industry or focus.

Incubators

Incubators are programs that offer coaching and assistance to startups, including feedback on product development and connections to influential people in the entrepreneurial community. Some also include pre-seed funding, while others will assist you in raising funding from angel investors or venture capitalists.

Accelerators

Accelerators are just like incubators except that, rather than focus on helping a startup launch, they typically help already-established startups grow. However, if you have experience launching other startups, you may be able to find funding assistance through an accelerator program.

5 Tips for Getting Pre-Seed Funding

The steps for getting pre-seed funding are similar to those for seed funding. The difference is that it can be harder to convince an investor to fund an untested product or idea. Here are some ways to increase your chances of success.

1. Formulate a Business Plan

You may be chomping at the bit to find the money, but you’ll first need to establish a solid foundation to attract the right investors. That starts with your business plan. This document will get ideas to paper on who your audience is, the problem your product solves, and how you’ll market it to customers.

Your business plan should also include your revenue model and startup costs so investors know you’ve done your due diligence and will use your pre-seed funding judiciously.

2. Come Up With Your Pitch

Your business plan will help you develop a pitch deck, which is a slide presentation that tells investors everything they need to know about your startup, the product, the market, and your financial projections. Here are some ideas on what to include in your pitch:

•  The need your business idea fills

•  Your target market

•  What makes your product/service unique

•  Your revenue model

•  Revenue projections for five years

•  How you’ll market to customers

•  Budget for pre-seed funding

•  Information about you, the founder, and your business’ story

It’s a good idea to keep your pitch short and sweet. Stick to the highlights and be ready to elaborate as you answer questions.

3. Find Potential Investors

You may want to start by using your business connections to find investors who are interested in early-stage startups. Incubator platforms can also help you access investors specializing in pre-seed capital. As you research investors, be sure to dig into their track record on working with pre-seed startups, how much funding they typically give, and their experience in your industry.

4. Present Your Pitch

Most investors will require an in-person presentation before committing to your company. Once you secure that coveted pitch meeting, it’s a good idea to practice until you can confidently give your pitch from memory. Anticipate the questions that investors will ask, paying particular attention to numbers.

5. Negotiate

You may not get the offer you wanted right off the bat from an interested investor, so be ready to negotiate. Decide how much equity you are willing to give up in exchange for capital in advance so you don’t make a bad decision in the heat of the moment. Also, be sure to get any deal you make in writing, especially if an investor is committing their time and resources.

Alternatives to Pre-Seed Funding

The types of investors listed above aren’t your only options for getting the capital you need for your startup. Here are a few alternatives.

Small Business Loans

There are many different types of small business loans. While traditional banks will typically only lend to businesses that have been established for two years or more, alternative online lenders tend to be more flexible.

You may be able to get a small business loan, such as a short-term loan, startup business lines of credit, invoice factoring, or equipment financing, from an alternative lender with only a short length of business history. You’ll likely receive smaller amounts and pay higher interest rates than more established businesses, however.

Recommended: How to Apply for Small Business Loans

Crowdfunding

There are hundreds of crowdfunding sites, where anyone (not just professional investors) can contribute toward a new business project, product, or service. While it can take time and effort to create a compelling campaign, you typically don’t have to give up equity with crowdfunding. Instead, you may need to provide a token of appreciation to donors or investors, like early access to your product or a t-shirt with your startup’s logo on it.

Startup Loans

Startup business loans may not have the strict criteria for time in business that other business loans do, and you may be able to secure funds before you’ve even launched.

The U.S. Small Business Administration (SBA), for example, offers a microloan program for small businesses looking to start or expand. Microloans are also available outside of the SBA program through nonprofit and for-profit lenders. Often, these lenders focus on giving opportunities to minority business owners and startups in underserved communities.

Recommended: Applying for a Microloan for Your Startup

The Takeaway

Pre-seed funding is a critical first step for many startups, providing the financial support needed to turn innovative ideas into viable products or services. Funds can come from family and friends, crowdfunding, angel investors, venture capital, and small business loans.

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 are seed and pre-seed funding different?

Pre-seed funding helps a startup initially get off the ground. It comes in early, when the founder may have nothing more than a viable idea. Seed funding, on the other hand, is typically for a product that already exists and has some form of customer base.

How much money can you typically expect from pre-seed funding?

Pre-seed funding amounts typically range from $10,000 to $250,000, depending on the needs of the business and the investor.

How much equity should you give away in pre-seed?

The amount of equity you give away in pre-seed funding will depend on your industry and the amount of investment you’re receiving. Often, startups give away 5% to 10% of the equity in their company during a pre-seed round.

Photo credit: iStock/Pekic

SoFi's marketplace is owned and operated by SoFi Lending Corp.
Advertising Disclosures: The preliminary options presented on this site are from lenders and providers that pay SoFi compensation for marketing their products and services. This affects whether a product or service is presented on this site. SoFi does not include all products and services in the market. All rates, terms, and conditions vary by provider. See SoFi Lending Corp. licensing information below.

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-Q424-033

Silent partners provide capital to businesses but are not involved in the day-to-day operations and management of the company — hence the word “silent.”

While getting an injection of capital without having to cede any control over your business may sound like a win-win, there are some downsides to entering a silent partnership agreement. Here’s a closer look at what a silent business partner is, how these partnership deals are typically structured, and their pros and cons.

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What Is a Silent Partner?

By definition, a silent partner is someone who provides money to fund a business but is not involved in the management of that business. In exchange for making a contribution of cash or assets, the silent partner gets a certain amount of equity interest in the company.

In order to bring in a silent partner, a business must be registered as a general partnership, limited liability partnership (LLP), or a limited liability company (LLC).

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Understanding Silent Partners

While a silent partner doesn’t exert control over the business, they still share in the company’s profits and losses. The details about how profits and losses will be distributed to the silent partner is typically outlined in the silent partnership agreement, or contract.

Generally, profits and losses are divided based on the percentage of the business each partner (whether silent or managing) owns. For example, a partner who owns 20% of the company gets to claim 20% of the profits, or losses.

Typically, a silent partner’s liability is limited to the amount invested in the partnership. In the event of bankruptcy or other financial problems, a silent partner could lose their investment but generally nothing more.

What Do Silent Partners Do?

The level of involvement for a silent partner can vary and will depend on the agreement between the partners. Some silent partners may not want any involvement, while others might want to get updates on the progress of the business.

In addition to making a capital investment, responsibilities of a silent partner may include offering relevant business advice when asked, providing clients to grow the business, and mediating disputes among other partners.

How Do Silent Partners Benefit?

Silent partners benefit by generating passive income on their investment. In other words, they are able to earn income from the business’s success without having to contribute time or labor.

Another plus is that they are often immune from legal actions taken against the firm and its management. Although state regulations can vary regarding silent partners, these partners are commonly protected from unlimited personal liability for any debts or obligations of the partnership business. This can be especially important for silent partners investing in startup companies, since it allows them to get the potential benefits without the risks.

Pros and Cons of Silent Partners

There are both benefits and drawbacks to bringing in a silent partner. On the plus side, a silent partner brings in extra funds you can use to manage the business and improve operations. And, this capital comes without having to cede any control over your company.

Though you don’t need to consult a silent partner before making any business decisions, they may have industry knowledge that can be beneficial to your business. The silent partner’s name and business contacts could also help open doors to opportunities that the company founders wouldn’t have on their own.

On the downside, bringing on a partner means diluting equity in your company and parting with a slice of the profits. Though having a partner who stays out of business decisions might sound appealing, you might actually benefit from having an experienced partner participate. In some cases, a silent partner may not have any relevant business experience or contacts to bring to the table, or may not be invested enough in the company to provide helpful advice or feedback when needed.

Finally, if your silent partner agreement isn’t clear and/or the silent partner doesn’t understand their inability to influence decisions, misunderstandings and disputes could arise.

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Silent Partners vs General Partners

Silent partners provide capital to a business with an expectation of profit, but they are not directly involved in the management of the business. General partners, on the other hand, are designated as the managers of a business and can also contribute to the overall capital pool.

Another key difference between silent and general partners is liability. A silent partner’s liability is typically limited to the amount invested in the partnership. They can potentially lose their entire investment, but generally can’t lose more than that. By contrast, general partners have unlimited legal liability of the partnership, and are generally personally liable for the debts and financial obligations of the business. So if a business loan defaulted, it would likely not be the silent partner’s issue.

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Creating a Silent Partnership

To create a silent partnership, you’ll need to register as a general partnership, LLP, or LLC. You’ll also need to create a silent partner agreement. This is a legally binding document that designates which parties are general partners or silent partners and outlines which functions, both financial and operational, each partner will perform. It will also detail the earnings percentage due to each partner in regard to business profits.

Alternatives to Silent Partners for Funding a Business

If you’re looking for funding but not interested in bringing in a silent partner, here are some alternatives to consider.

Small Business Loans

There are many types of small business loans — including term loans, equipment financing, and lines of credit — available from banks, credit unions, and online lenders.

Banks and Small Business Administration (SBA) lenders tend to offer the best rates and terms but have relatively strict qualification requirements. Online lenders are generally more flexible (and faster to fund) but their small business loan rates are generally higher.

Angel Investors

Angel investors are wealthy individuals who invest their own capital into startup companies during early stages of development, receiving an ownership stake in return. Often, these investors are accomplished entrepreneurs themselves, and able to bring expertise, guidance, and valuable business contacts to the startup company in addition to their capital investment.

Angel investors are generally looking for their investment to grow and pay off significantly down the road. So, unlike a silent partner, they may keep close tabs on the startup’s affairs and become involved in decision-making to ensure their invested capital is used appropriately.

Venture Capital

A venture capitalist is an individual or group that invests money into startup companies and small businesses that are believed to have long-term growth potential. Venture capital generally comes from well-off investors, investment banks, and other financial institutions.

Venture capitalists typically get involved in the fundraising process after angel investors. After a certain period, they may fully buy the company or, in the event of an initial public offering (IPO), a large number of its shares.

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The Takeaway

Traditional business partners provide funding and influence day-to-day management decisions. Silent business partners provide funding but typically have no say in business decisions. While not active in daily management, a silent partner shares in the profits or losses of a business, and may serve an advisory role.

If you’re thinking about bringing in a silent partner, It’s important to have a silent partnership contract that spells out all the terms of the deal to avoid any legal disputes and misunderstandings.

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 silent partners make money?

Silent partners get paid according to their contribution and equity in a business. For example if a silent partner invests $100,000 in a business that is worth $1 million, they have 10% ownership of the business and will receive 10% of any future profits.

Do silent partners have certain rights over how the business is run?

Typically, no. A silent partner generally doesn’t have any say over how a business is run. Their rights usually include the right to earn investment returns (proportionate to their initial investment), review the company’s key financial statements, and provide input on changes made to the partnership agreement.

What are silent partners responsible for?

What silent partners are responsible for will depend on the agreement between the partners. In some cases, they are only responsible for providing capital. In others, their responsibilities might also include offering business advice, providing clients to grow the business, and mediating disputes amongst other partners.

Photo credit: iStock/LaylaBird

SoFi's marketplace is owned and operated by SoFi Lending Corp.
Advertising Disclosures: The preliminary options presented on this site are from lenders and providers that pay SoFi compensation for marketing their products and services. This affects whether a product or service is presented on this site. SoFi does not include all products and services in the market. All rates, terms, and conditions vary by provider. See SoFi Lending Corp. licensing information below.

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.

This article is not intended to be legal advice. Please consult an attorney for advice.

SOSMB-Q424-019

Just like with launching any business, it takes money to get a new nonprofit off the ground. Right away, you’ll need to pay a fee to establish a nonprofit in your state, as well as a fee to file for nonprofit status with the Internal Revenue Service (IRS). On average in the U.S., it costs about $859 in state and federal fees to start a nonprofit organization.

On top of that, you’ll likely face other administrative and operating costs, such as legal fees, office rent, equipment, supplies, marketing, and staff. Read on for a closer look at how much it costs to start a nonprofit organization, as well as tips for how to get the funding you need to get up and running.

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What Are the Costs Associated With Starting a Nonprofit?

How much it costs to start a nonprofit organization will depend on where you plan to open it, the type of nonprofit you want to create, and whether you’ll need office space and staff. Here’s a look at some nonprofit startup costs you may need to budget for.

Filing Fees

To get your startup nonprofit going, you’ll have to pay some filing fees. This includes incorporating with the state where you’ll be running your nonprofit (for specific costs see the chart below).

Once you have your articles of incorporation, you’ll need to apply for tax-exempt status with the Internal Revenue Service (IRS). There are two options: If you file Form 1023, the fee is $600; if your nonprofit meets certain criteria, you can file form 1023-EZ and pay only $275.

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Legal Fees

To officially form your nonprofit, you’ll likely need some help from a lawyer to make sure you are doing everything correctly. You may be able to get by with an online legal service or you may need to hire a lawyer. In some cases, lawyers will reduce or waive their fees to assist a nonprofit.

Legal consultation and professional services for drafting bylaws or business plans can add $1,000 to $2,500 in startup costs.

Office Space and Equipment/Supplies

Unless you are able to operate your nonprofit out of your home, you’ll need to rent an office and pay monthly rent, utilities, and internet fees. Whether or not you work from your home or a rented space, you’ll need to account for any equipment or office supplies you’ll need, including computers/laptops and some type of fundraising software.

Employees

Unless you plan to run the nonprofit on your own, you’ll likely need to hire some staff. These may be part-time, full-time, or freelance. What their roles will be and how many employees you’ll need will depend on the size and type of nonprofit you’re forming. You’ll also want to budget a salary for yourself.

Marketing

To achieve your mission, you’ll need to get the word out about your nonprofit. A strong marketing program can help advocate for your mission, as well as attract donors and volunteers. Marketing costs may include a website, blog, newsletter, and social media. You may be able to do some of these things yourself; other projects will likely require hiring outside help, such as a website designer.

Recommended: 6 Reasons Why Small Businesses Fail

How Much Does It Cost to Start a Nonprofit in Each State?

Once you’ve developed your nonprofit idea, written your mission statement, and assembled your board, you’ll need to establish your nonprofit as a business in your state.

The fees and required forms to do this will depend on what state you plan to operate in. Here’s a look at fees for name registration/reservation and nonprofit articles of incorporation for each state.

Recommended: 5 Essential Nonprofit Financial Documents

Funding Methods for Nonprofits

Once you have an idea of how much money you will need to start a nonprofit, your next question will likely be — where can I get it? The good news is that there are a number of different funding options for nonprofits at all stages. Here are a few you may want to consider.

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Grants

When you’re launching a new nonprofit, a startup grant can give the funds you need to rent office space, hire employees, market your nonprofit, and initiate programs. Grants for new nonprofits are offered by grant-giving foundations, local and state governments, and corporations. You might start your search at Grants.gov.

Small Business Loans

While loans are generally associated with for-profit businesses, nonprofit businesses can also sometimes qualify for different nonprofit small business loans. If you have strong personal credit and your startup nonprofit is already generating revenue, you might try applying for a loan through your local bank or credit union (if they lend to nonprofits). Otherwise, consider exploring alternative business loan options, which are typically offered by online lenders.

Crowdfunding

There are many different types of crowdfunding, but the type nonprofits typically use is the donation-based crowdfunding model. This involves asking large amounts of people to donate small amounts of money, typically via an online crowdfunding platform. You can launch a crowdfunding campaign to raise startup funds for your nonprofit or to fund a specific program within your organization.

Fundraisers

Fundraisers are often the primary means a nonprofit uses to generate revenue. You may choose to do a mix of virtual and in-person charity events, such as a walk-a-thon, gala dinner, concert, trivia night, or online auction.

Recommended: 15 Types of Business Loans to Consider

The Takeaway

How much it costs to start a nonprofit isn’t a cut and dry answer. Total startup costs will depend on your state’s filing fees, whether you need to fill out a Form 1023 or 1023-EZ with the IRS, and what type of office, equipment, and staff you’ll need to launch and operate your nonprofit.

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 startup costs for nonprofits?

The main initial costs involved in starting up a nonprofit are filing and administrative fees. Once your organization is registered, you’ll also encounter other costs, such as office space, supplies/equipment, staff, and marketing.

What is needed to start a nonprofit organization?

The first step to starting a nonprofit is to register your organization as a limited liability company (LLC) or corporation. Once that’s done, you’ll need to file for tax-exempt status with the Internal Revenue Service (IRS).

What expenses do nonprofits have?

Nonprofits typically have expenses such as salaries and wages, program costs, office supplies, rent, utilities, and marketing. They may also incur costs for fundraising activities, administrative overhead, insurance, and legal services.

Photo credit: iStock/SDI Productions

SoFi's marketplace is owned and operated by SoFi Lending Corp.
Advertising Disclosures: The preliminary options presented on this site are from lenders and providers that pay SoFi compensation for marketing their products and services. This affects whether a product or service is presented on this site. SoFi does not include all products and services in the market. All rates, terms, and conditions vary by provider. See SoFi Lending Corp. licensing information below.

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-Q424-032

For the last 25 years, the number of Americans starting their own small business has gone up steadily. Realizing your vision by becoming an entrepreneur is an exciting goal.

As of July 2024, there were 34.7 million small businesses in the U.S., employing 45.9% of American workers, or about 59 million people, according to the Small Business Administration’s Office of Advocacy.

A report from the U.S. Census Bureau said startup businesses formed from 2020 to 2022 had created 7.4 million jobs by the end of 2022.

Yet what cannot be denied is that along with a high small business startup rate comes a high failure rate. For the last 20 years, the same statistic has held true: About 1 in 5 small businesses cease operation before the end of their first year. According to the Small Business Administration (SBA), the 5-year survival rate is 48.9%, the 10-year survival rate is 33.6%, and the 15-year survival rate is 25.7%.

While that downward direction looks daunting, running your own business does get easier, say economists and academics scrutinizing small business failures. “After the first few relatively volatile years, survival rates flatten out,” said the SBA’s Office of Advocacy in a report.

So how can entrepreneurs best weather the storms of the early years? Can learning the reasons small businesses fail help new entrepreneurs avoid the same fate?

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You Built It, Why Didn’t They Come?

Why do small businesses fail? There are various causes for failure listed by those who study such business trends. However, the lockdowns and supply chain issues of the last two years have definitely produced some unusual—and severe—challenges.

The COVID-19 pandemic led to the permanent closing of roughly 200,000 U.S. establishments above historical levels during the first year of the outbreak, said a study by economists at the Federal Reserve.

Barber shops, nail salons, and other providers of personal services seem to have been the hardest hit by COVID-19, accounting for more than 100,000 establishment closures beyond historically normal levels between March 2020 and February 2021, according to The Wall Street Journal.

However, post-pandemic, economists say earlier trends in business creation and success are resuming. In fact, an April 2022 analysis of the Quarterly Census of Employment and Wages by the Economic Innovation Group found that the total number of business establishments through the 3rd quarter of 2021 was 7% above pre-pandemic levels, according to a 2022 report on business creation from the White House.

Myths and Truths About Small Business Success

When you talk about small business in America, a lot of “facts and figures” get thrown around. But some of these widely disseminated statistics turn out to be myths.

First, there’s the statement “80% of small businesses fail in the first year.” Wrong.

Another persistent belief is that restaurants are the shakiest of all businesses to launch. That’s wrong too. One study showed 83% of full-service restaurant startups reached the one-year mark.

Then there’s the “You have to be over 30 to succeed” saying. Small business failure-rate statistics show that entrepreneurs over 30 have a slightly better chance of succeeding. But only slightly.

According to an analysis of Department of Labor Statistics, the businesses with up to 500 employees that show the best chance of success are:

•  Real estate and rental and leasing

•  Agriculture, forestry, fishing, and hunting

•  Retail trade

•  Health care and social assistance (such as home health aides, licensed practical and licensed vocational workers, medical and health services managers)

As for which businesses with up to 500 employees show the highest failure rate, they are:

•  The mining, quarrying, and oil and gas extraction industry

•  Administrative and waste service companies (such as janitors and cleaners, office clerks, and security guards)

•  Information (customer service representatives, telecommunications equipment installers, and similar businesses)

•  Arts, entertainment, and recreation

Geography-wise, the states with the highest rate of small business failure are Hawaii, the District of Columbia, Kansas, and Rhode Island. (The states recording the best chance of small business success are Montana, South Dakota, Florida, and Texas.)

6 Reasons Why Small Businesses Fail

By learning the reasons small businesses fail, entrepreneurs may be better able to chart a course for success.

1. Running Out of Money

Everyone who studies small businesses says this is the chief cause of going belly up. The warning signs aren’t subtle: You don’t have enough cash to cover your business’s needs, you can’t make loan payments on time or pay your suppliers, or your customers are vanishing.

So what do you do if you have a strong idea, a thoughtful plan, a customer base–but you are still on shaky ground? You must get a firm grasp of not just what you need but what you make.

Owners sometimes know what funds are needed day to day, but not how much revenue is being generated. Consultants and mentors, some of them free, can leap in and help you analyze your financials. Learning what kind of small business loans exist will undoubtedly help as well.

Recommended: Losing Sleep Over Finding Finance for Small Business

2. Not Connecting to the Customer

At a Goldman Sachs-sponsored business panel, Warren Buffett told audience members, “Tomorrow morning, when you look in the mirror after you’ve gotten up, write—put it in lipstick or whatever you want on the mirror—just put ‘delight my customer.’ The phrase is not ‘satisfy my customer.’ “

DeLisa Clift, a certified mentor with SCORE, says one of the main reasons for small business failure is the new owners “fail to perform market research to determine if the product or service they want to sell is needed or wanted by the customer.”

As Amazon’s Jeff Bezos once said, “We innovate by starting with the customer and working backwards. That becomes the touchstone for how we invent.”

Ideally, your small business should solve a problem that customers have, and in a way that your business can do better than any of your competitors. But even if you have found such an opportunity, you must understand your customer inside and out and make their happiness your priority. That way, the customers will be out there, spreading positive word of mouth. And there’s nothing more valuable.

How to fix this?

“If you started your own business and you can’t seem to find enough customers, the first thing you should do is evaluate if you are clear who your ideal customer is,” says Clift. “Look at the customers that you already have and see if you can add additional products or services to what you are already providing them. Conduct market research to find where your ideal customer is, what they are buying, and how often they buy.

Recommended: 10 Steps to Starting a Small Business

3. Lack of Marketing

One of the most frustrating failures has to be a small business that has everything going for it with great services or products that would meet customer needs—but people can’t get excited about a business if they don’t know it exists. Some business owners don’t understand marketing —particularly the role of social media—or they acknowledge it’s crucially important but don’t put the time into learning it. This can quickly prove fatal when trying to compete with Big Retail and e-commerce, not to mention local competitors.

A recent Stanford Business School study showed a leap in sales of nearly 20% after marketing was improved in a focus group of mom-and-pop retail stores in Mexico City. “Marketing improvements like the ones in the study could position the less organized small retail sector to compete more effectively with big retailers, which has direct implications for local jobs and livelihoods,” concluded the study.

In the year 2023, you can’t hope to succeed without a grasp of marketing and social media, from Facebook to LinkedIn to TikTok. Carve out the time for classes, workshops, or tutorials. Outsourcing the marketing is an option if you can afford it, though remember that authenticity goes a long way in social media. No one knows your business better than you do.

Recommended: 10 Business Growth Strategies for Business in 2024

4. An Inadequate Business Plan

A lack of a thorough business plan could come back to haunt you after you open the doors for customers. It’s not just that you’ll need it to seek small business loans and grants. Developing a business plan will motivate you to think through your market and business fundamentals. Without this concrete plan for your business future, you are more likely to make serious mistakes.

“As with many aspects of the entrepreneurial universe, there are many misconceptions surrounding their business plan,” writes Ken Colwell, author of the bestseller Starting a Business: QuickStart Guide. “Because of this, business plans are often seen as a waste of time. Nothing could be further from the truth.”

Done the right way, a business plan is:

•  A communication tool: It will be your best mode of educating potential founding team members, stakeholders, and prospective employers.

•  A planning tool: While you’re developing your strategy, you’re becoming fluent in your market and industry.

•  A discovery tool: As you’re writing your plan, you will inevitably find gaps in your knowledge, and this is the best time to fill them.

5. Poor Management

What sometimes happens is the mindset that helps you come up with a business opportunity, and develop and market it, is not automatically the best mindset to manage a small business.

You might lack the qualities of a strong manager, and you don’t feel you have the time to successfully oversee your employees. This could lead to burnout, holding back from growth when it’s needed. Or you may hire people but delegate poorly.

It’s important to know when to hire, how to train, and when to delegate if your business stands a chance of success.

Recommended: Unemployment Rates By City 2024

6. Pivoting Too Late – or Too Soon

Certain famous entrepreneurs are known for their praise of failure.

“One of my favorite sayings is, it doesn’t matter how many times you fail, just have to be right once,” says billionaire Mark Cuban. “Then everybody can call you an overnight success. I’ve failed at a company that sold powdered milk, I failed the jobs I’ve gotten fired from. And all those were learning experiences.”

It’s undoubtedly true that failure is an important teacher. However, one academic who has studied entrepreneurs says that it’s more nuanced than just knowing how to bounce back from a business flop.

Wharton management professor Jacqueline “Jax” Kirtley said in an interview. “One of the things that I found that was quite surprising to me is that for all of technology entrepreneurs’ talk of ‘When we hit a roadblock, we’ll pivot,’ they don’t. When they hit trouble, hit problems, they firefight. They solve them. It’s the entrepreneur’s way.”

She continued, “When firms do change, when they evolve or really massively change what they do — when we look back and call it a ‘pivot’ — it’s actually because of an opportunity that appeared that they jumped on. That starts off this chain of events that changes their strategy, so that when something does go wrong, they’ve got this other path that they’re already on.”

Knowing when to firefight and when to pivot can help you survive the tough challenges.

Recommended: Best Cities to Start a Business in 2024

The Takeaway

Diagnosing the causes of small business problems can help put your company on the right path. Small business grants can prove a useful source of revenue, marketing assets, and other forms of support. As for funding a business, various types of loans may bolster the bottom line and allow for hiring and expansion.

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.

Photo credit: iStock/shapecharge

SoFi's marketplace is owned and operated by SoFi Lending Corp.
Advertising Disclosures: The preliminary options presented on this site are from lenders and providers that pay SoFi compensation for marketing their products and services. This affects whether a product or service is presented on this site. SoFi does not include all products and services in the market. All rates, terms, and conditions vary by provider. See SoFi Lending Corp. licensing information below.

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.

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

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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Few entrepreneurs can launch a successful startup without some financial backing. The initial capital raised by a company is typically called “seed” funding. It can be used to purchase equipment, rent offices, hire staff, and anything else a business needs to move from ideation to market launch.

Seed funding can come from a variety of sources, including friends and family, angel investors, incubators, accelerators, and crowdfunding, and each has its pros and cons. Read on for a closer look at what seed funding is, who provides it, and how to secure the capital you need to launch your new business.

💡 Recommended: Working Capital Cycle

What Is Seed Funding?

Seed funding is generally defined as the first official round of funding for a startup. This is the money that allows an entrepreneur to turn a great idea for a business into an actual business. It can be used to cover all of the expenses necessary to nourish a startup idea so it can grow and succeed.

Seed funding may come after pre-seed funding (which is not an official funding round, but can be used to develop a business idea), but before later rounds of startup funding, which include: Series A, Series B, Series C, and Series D/E.

How Does Seed Funding Work?

Seed funding can come from any source, but typically it is not a small business loan. To receive funds, business owners will generally give investors equity, or a share of ownership, in the company in exchange for the capital. As your startup grows, that equity will (hopefully) become more valuable, and investors can cash in when your business gets purchased or goes public.

Seed money can also come in the form of convertible debt. In this setup, the business owner typically repays the loan by converting it into shares at some future date when the company has sufficient valuation.

For some startups, a seed funding round is all that the founders need to successfully launch their company. However, many new businesses will engage in multiple rounds of funding.

Recommended: 10 Steps for Starting a Small Business

Sources of Seed Funding

Seed funding can come from a variety of different sources. Here are some options for startup funding you may want to consider.

Crowdfunding

Crowdfunding platforms (like Kickstarter, AngelList, and CircleUp) have become a popular way for startups to raise funds. One key advantage of crowdfunding for startups is that you typically don’t have to give up any ownership to investors in return for financing. Keep in mind, though, that it can take a significant amount of time and energy to launch a successful crowdfunding campaign. Also, some platforms are “all or nothing,” meaning funds only get processed if you reach your project’s fundraising goal.

Friends and Family

Obtaining seed capital from friends and family can often be the simplest and most convenient route to early funding, since these are the people that know you best. However, it also has the potential to strain these relationships.

If you go this route, it’s a good idea to put the terms of the deal in writing. If the money is a loan, you’ll want to set out the terms in a promissory note. If it’s an investment, it’s wise to lay out what is expected in terms of reaping profits, and also make it clear they may not recoup any of the money that they put in despite how hard you will work to make the business a success.

Incubators

Incubators are programs that offer coaching and assistance to startups, including feedback on product development and connections to influential people in the entrepreneurial community. Some also include seed funding, while others will assist you in raising funding from angel investors or venture capitalists.

Some incubators focus on specific industries, such as healthcare or artificial intelligence, and there is typically an application process for startups. If accepted, you may need to relocate for the incubation period. This period typically culminates with “demo day,” where the startup entrepreneurs present their pitch to investors.

Accelerators

Accelerators are similar to incubators except that, rather than helping a startup launch, they typically focus on helping already-established startups grow.

Accelerators typically offer selected companies a set funding amount in exchange for a certain percentage of equity. Many also offer mentorship opportunities, as well as access to funding via networking events, demo days, and pitch events. Some accelerators also offer workspaces and access to technology and services that can help expedite business growth. 

Angel Investors

Angel investors are high-net-worth individuals who invest in early-stage startups in exchange for equity in the company or convertible debt (which allows the funds loaned to be converted into equity at a later date).

These investors differ from venture capitalists because they use their own money rather than investing other people’s money. Angel investors also tend to supply smaller amounts of capital than venture capitalists, which can make them well-suited to the seed funding round. Many have niche specialties that could align with your business’s industry or focus.

Is Seed Funding Necessary?

Unless an entrepreneur is independently wealthy or a business does not require much capital to get off the ground, seed funding is usually necessary.

While some entrepreneurs may try to “bootstrap” a startup and rely only on their personal savings, the amount of money needed to take a startup to profitability is usually well beyond the ability of founders to finance. Securing seed funding can also give your business a competitive edge in the marketplace by allowing you to bring on key staff and pay for marketing and publicity. Fortunately, there are many investors looking to provide funding to the right startup.

Recommended: Working Capital Cycle

How Much Might You Look to Raise in Seed Funding?

While seed funding amounts vary significantly, these rounds are known to generate anywhere from $10,000 to $2 million.

Ideally, you’ll want to raise as much money as you need to reach profitability. If you are able to do this, you may not need later rounds of funding and, if you do, they can be easier to get. At the same time, however, you don’t want to ask for too much, since this could scare investors away or require giving up more equity than you’d like.

To get a ballpark of how much seed funding you will need, you can calculate your current monthly costs, estimate how many months it will take to get your business up and running, then multiply costs by months. Once you’ve arrived at a figure, it can be a good idea to add some wiggle room on top for unexpected costs, which will inevitably crop up.

Recommended: Business Cash Management, Explained

5 Tips for Raising Seed Funding

Here are some ways to increase your chances of securing seed funding.

1. Building a Pitch Deck

Ideally, your pitch deck should include an executive summary, an overview of your product, its market fit, and your strategy for getting it to market. In addition, you’ll want to use data to support your points, budget for each stage, and estimate how much you need in seed funding to reach your goals. It might be ambitious to expect to get to a certain production level with just seed funding, so your pitch deck might have to show subsequent funding rounds.

Recommended: Writing a Business Plan: Step-by-Step Guide

2. Finding Which Investors to Pitch

To come up with an investor list, you may want to first reach out to other entrepreneurs and business founders that you know and ask them if they can put you in touch with potential investors. You can also find potential investors through accelerators, incubators, prospecting platforms (such as Crunchbase), and online lists of angel investors and venture capital investors.

Before putting any investors on your list, you’ll want to check to make sure they have a track record of investing in startups in your industry and your location, can access the amount of funding you need, and have timelines that match your expectations for growth.

3. Pitching

Investors will typically require an in-person presentation before they will consider committing to your company. Once you secure that coveted pitch meeting, it’s a good idea to practice your pitch until you can confidently give it from memory.

When crafting your pitch, consider your audience and their investment strategy, and then try to tell them exactly what they will want to know, such as your costs and revenue projections. Also anticipate the questions they may ask and have answers at the ready. At the same time, do your best to show your winning personality.

4. Negotiating

You may not get the offer you want right off the bat from an interested investor, so be ready to negotiate. Decide how much equity you are willing to give up in exchange for capital in advance so you don’t make a bad decision in the heat of the moment. If it’s possible to only give up 10%, that can be ideal. However, seed rounds often involve giving up 20% of your business. If possible, try to avoid going over 25%. Also, be sure to get any deal they are offering you in writing,

5. Choosing the Right Investors

If you get offers from several investors, there are a few factors you may want to consider when deciding which one to go with. These include:

•  How involved are they likely to be? Think about whether you want an investor who plays an active role or if you would prefer for them to stay in the background.

•  What is their track record? Try to find out more about their past investments — have the businesses they’ve invested in been successful?

•  Are they a good fit for your business? Consider what else, besides money, they can bring to the table. What industries do they specialize in? What expertise and advice can they offer?

Alternatives to Seed Funding

While seed funding can give the capital you need to launch your business, it comes with a tradeoff — equity in your business. If you’d prefer not to give up any ownership of your startup, there may be some other financing options, such as startup loans, that you can tap.

Small Business Loans

There are many different types of business loans. The Small Business Administration (SBA), for example, helps businesses in early stages of product development by backing up loans made by partner lenders. Maximum loan amounts range from $350,000 to $5 million.

You may also have other small business loan options. While banks typically only lend to businesses that have been established for two years or more, alternative online lenders tend to be more flexible. You may be able to get a business loan, such as a short-term loan, startup business lines of credit, invoice factoring, or equipment financing, from an alternative lender with only a short length of business history. However, you’ll likely receive smaller amounts and pay higher interest rates than more established businesses.

Small Business Grants

There are a variety of government, nonprofit, and private entities that offer small business grants. You may be able to qualify for a grant if your startup supports a specific government initiative, your ownership meets certain qualifications (such as women, veterans, or minorities), or you will be doing business in an underserved community. Unlike loans, grants do not need to be paid back. However, competition for this type of funding tends to be stiff.

Business Lines of Credit

If you’re looking for flexible, short-term financing, a business line of credit may be a viable option. Similar to a credit card, it allows you to withdraw funds as needed up to a predetermined amount and only pay interest on the money you withdraw. Once you repay the funds you’ve borrowed, you can continue to draw on the line.

While banks tend to have strict qualification criteria, some online lenders offer lines of credit to borrowers with one year or less in business. However, they may charge higher interest rates than banks and offer lower credit limits.

The Takeaway

Seed funding is the initial capital provided to a startup or early-stage company to develop its idea, product, or service. It helps cover initial costs like research, product development, and marketing. Seed funding often comes from angel investors, venture capitalists, or family and friends in exchange for equity.

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 seed fund amount?

The ideal seed round funding amount is exactly the amount you need to reach the next stage of your startup’s development. Amounts raised during this round can range anywhere from $10,000 to $2 million.

What should seed funding be used for?

Seed money is used to fund the earliest stages of a new business with the goal of taking the product to market. Some uses include research & development (R&D), product testing, hiring key staff, marketing, public relations, and sales.

Does seed funding have to be paid back eventually?

It depends. Angel investors recognize the risk involved, and if a business fails, they generally accept the loss. However, if the business succeeds, the angel investor will be entitled to their ownership stake or whatever terms were laid out for the seed funding. If you borrow from a lender, the lender will expect you to repay it, irrespective of whether the venture succeeds.

Photo credit: iStock/VioletaStoimenova

SoFi's marketplace is owned and operated by SoFi Lending Corp.
Advertising Disclosures: The preliminary options presented on this site are from lenders and providers that pay SoFi compensation for marketing their products and services. This affects whether a product or service is presented on this site. SoFi does not include all products and services in the market. All rates, terms, and conditions vary by provider. See SoFi Lending Corp. licensing information below.

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.

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