The sources of funds for a business fall into three pools: money the business generates itself, money it borrows, and money it raises by selling ownership stakes. Most companies use some combination of all three. Which mix makes sense depends on how big the business is, how fast it needs to grow, how much control the owners want to keep, and how much fixed obligation the cash flow can support.
Pick wrong and the consequences are real. Too much debt and a downturn triggers default. Too much outside equity and you’ve handed away profits and decision-making you didn’t have to. The sections below walk through each source, what it actually costs, and where it fits.
Internal Sources
Internal funding is money the business already has or can free up from its own operations. No lender to repay, no investor to accommodate. It’s the cheapest capital available. The ceiling is whatever the business itself produces.
Retained Earnings
Retained earnings are accumulated profits the company kept instead of paying out as dividends. Earn $2 million after tax, distribute $500,000 to shareholders, and $1.5 million stays on the balance sheet as fuel for the next investment. Over years, this becomes a serious pool of capital. The board decides each period how much to keep versus distribute, and that decision sets the pace at which the business can grow without going outside for money.
The limit is arithmetic. A company generating $3 million a year in free cash flow can’t self-fund a $10 million facility without waiting several years, and that delay has its own cost in lost revenue and market position.
Depreciation Cash Flow
Depreciation and amortization reduce taxable income without requiring an actual cash payment. Buy a $500,000 machine, depreciate it over five years, and each year the books show $100,000 of expense while the cash stays in the business. The tax savings on top of that further boost internal cash. Capital-heavy industries like manufacturing and utilities generate large internal cash flows this way even when revenue is flat.
Working Capital
Cash tied up in unpaid invoices or excess inventory is capital you can’t use elsewhere. Tightening collections, negotiating longer payment terms with suppliers, or running leaner inventory frees cash without borrowing or diluting. A business that cuts its collection cycle from 60 days to 40 days on $10 million in annual sales unlocks over $500,000. The gains aren’t one-time, but you can only push customers and suppliers so far before relationships suffer.
Sale-Leaseback
A sale-leaseback sells an owned asset — often a building or major equipment — to a buyer who then leases it back to the company. The business collects the sale proceeds and keeps using the asset. Common with commercial real estate: a warehouse worth $5 million becomes $5 million of deployable capital. The costs are a new recurring lease obligation and the loss of any future appreciation on the property.
Debt Financing
Debt means borrowing money the business is legally obligated to repay with interest. The lender gets no ownership and no share of future profits. Owners keep full control. The risk is that debt payments don’t care whether the business is thriving or struggling.
Bank Loans and Lines of Credit
Two common bank products work in different ways. A term loan hands over a lump sum repaid on a fixed schedule, which fits defined purchases like equipment or real estate. A revolving line of credit sets a borrowing limit the business can draw against and repay repeatedly, paying interest only on what’s outstanding. Lines of credit handle cash-flow gaps and seasonal inventory builds.
Banks usually secure these loans against business assets and impose financial covenants requiring the borrower to maintain certain ratios. Break a covenant and the bank can call the loan in default even if every payment has been made on time. That catches businesses off guard during downturns.
Corporate Bonds
Larger companies can borrow directly from investors by issuing bonds. The company promises a fixed interest rate (the coupon) and returns the principal at maturity. Bonds raise sums a single bank wouldn’t lend and lock in rates for long periods. The downside is issuance cost and complexity: legal fees, underwriting, credit ratings, and ongoing disclosure. Bonds aren’t practical for smaller firms.
Trade Credit
Nearly every business already uses trade credit by buying supplies on account and paying later. A supplier offering “2/10 Net 30” gives a 2% discount for paying within 10 days, with the full amount due in 30. That 2% sounds trivial, but skipping the discount to keep cash for an extra 20 days works out to roughly 36.7% annualized. Trade credit is free inside the discount window and expensive outside it.
Equipment Financing
Equipment leases and equipment finance agreements both let a business acquire machinery, vehicles, or technology without paying full cost upfront. Under a lease, the leasing company owns the equipment and the business either returns it or buys it out at the end of the term. Under an equipment finance agreement, the business is treated as the owner from day one, claiming depreciation but also carrying full responsibility for insurance and maintenance. Leases give flexibility to upgrade; finance agreements build equity in the asset.
Mezzanine Financing
Mezzanine debt sits between senior bank loans and equity. Mezzanine lenders accept a subordinate position, meaning they get paid last among creditors if things go bad. To compensate, they charge higher interest and usually take warrants entitling them to a small equity stake, typically 1% to 5%, exercised at a sale or IPO. This shows up often in leveraged buyouts and expansions where a business has already maxed out its senior borrowing but wants to avoid giving up a large ownership piece.
Equity Financing
Equity financing sells ownership in the business. No fixed repayment, no interest, no default risk. The cost is dilution: every new investor takes a slice of future profits and often a voice in strategy. Whether that trade is worth it depends on the company.
Founders, Friends, and Family
Most businesses start with the founder’s own savings, supplemented by people close to them. It’s the simplest equity to raise and the most emotionally complicated. There are no institutional processes or standardized terms. Mixing personal relationships with financial risk has hurt plenty of both. Even a check from a relative should be documented with a written agreement.
Angels and Venture Capital
Angel investors are wealthy individuals investing their own money in early-stage companies, usually writing smaller checks for a minority stake plus mentorship. Venture capital firms invest pooled money from institutional investors, write much larger checks, and expect meaningful ownership, board seats, and influence over strategy. VC-backed companies face pressure to grow fast enough to deliver returns within the fund’s timeline, usually seven to ten years. It suits high-growth businesses aiming for acquisition or IPO. It’s a poor fit for a company that just wants to be steadily profitable.
Convertible Notes and SAFEs
Very early startups often can’t credibly answer “what is the company worth?” so they raise on instruments that push that question to a later round.
A convertible note is a loan that converts into equity at the next priced round, typically at a discount to what those later investors pay. It carries an interest rate and a maturity date, so if no future round happens, it comes due as debt. A SAFE (Simple Agreement for Future Equity) works similarly but isn’t debt. No interest, no maturity. It converts into shares at the next equity round, usually with a valuation cap that protects the early investor from excessive dilution. SAFEs are cheaper and simpler to execute, which is why they’ve largely displaced convertible notes at the earliest stages.
Common and Preferred Stock
Publicly traded companies raise equity by selling shares on stock exchanges. Common stock carries voting rights and a residual claim on assets, meaning common shareholders are last in line if the business liquidates. Preferred stock trades voting rights for priority: preferred shareholders get their dividends before common holders and have a higher claim in liquidation. The fixed dividend makes preferred stock behave partly like a bond, which is why it’s often called a hybrid.
Regulation Crowdfunding
Since 2016, businesses have been able to raise capital from the general public through SEC-registered online crowdfunding platforms. A company can raise up to $5 million in any 12-month period under Regulation Crowdfunding, and non-accredited investors can participate within limits tied to their income and net worth.1U.S. Securities and Exchange Commission. Regulation Crowdfunding For small companies unable to attract venture capital, this opened a channel that didn’t previously exist. The trade-off is regulatory overhead: SEC filings, financial statements, and annual reports on use of funds.
More broadly, any private equity raise has to either register with the SEC or qualify for an exemption, most commonly Regulation D.2U.S. Securities and Exchange Commission. Exempt Offerings Different exemptions carry different rules about who can invest, how much can be raised, and whether the offering can be publicly advertised. Talk to a securities attorney before soliciting outside investors.
SBA-Backed Loans
The U.S. Small Business Administration doesn’t lend directly to most businesses. It guarantees a portion of loans made by participating banks, which makes those banks willing to lend to smaller or riskier borrowers than they’d otherwise touch. Two programs do most of the work.
SBA 7(a)
The 7(a) program is the SBA’s flexible workhorse, funding working capital, equipment, real estate, and more. Maximum loan is $5 million.3U.S. Small Business Administration. 7(a) Loans The SBA guarantees up to 85% of loans of $150,000 or less and up to 75% of larger loans, which reduces the bank’s exposure and typically produces lower down payments and longer repayment terms than a conventional commercial loan.4U.S. Small Business Administration. Terms, Conditions, and Eligibility
SBA 504
The 504 program is built for major fixed-asset purchases like real estate and heavy equipment. It has a three-party structure: a conventional bank provides 50% of the project cost, a nonprofit Certified Development Company provides 40% backed by an SBA-guaranteed debenture, and the borrower puts up the remaining 10%. Maximum loan is $5.5 million.5U.S. Small Business Administration. 504 Loans The 10% down payment is a meaningful advantage over conventional commercial real estate loans, which often require 25% to 30%.
Alternative Financing
Not every business qualifies for bank credit or attracts equity investors. Alternative products fill that gap, often at much higher cost.
Invoice Factoring
Factoring sells unpaid customer invoices to a factoring company at a discount for immediate cash. The factor collects from the customer when the invoice matures. Discount rates typically run 1% to 5% of invoice value per month, depending on the customer’s credit and the terms.
The key detail is recourse versus non-recourse. Recourse factoring, the more common form, requires the business to buy back any invoices the factor can’t collect. Non-recourse factoring shifts most of the collection risk to the factor, but the protection is usually narrow, covering things like customer bankruptcy rather than general non-payment. Non-recourse arrangements cost more to compensate for that risk.
Merchant Cash Advances
A merchant cash advance provides a lump sum in exchange for a fixed percentage of the business’s future daily credit card receipts or bank deposits, until a predetermined total payback is reached. Factor rates commonly run 1.15 to 1.45, so a $100,000 advance might require repaying $115,000 to $145,000. Translated into an annual percentage rate, the effective cost often exceeds 50% to 100%.
MCAs are technically structured as purchases of future receivables rather than loans, which has historically placed them outside state usury laws. Courts have increasingly scrutinized that distinction, and some have recharacterized MCA agreements as loans when the structure effectively guarantees repayment regardless of business performance. Treat MCAs as among the most expensive financing available, and typically a last resort.
Tax Treatment of Business Interest
Interest on business debt is generally tax-deductible, which is one of debt’s main financial advantages over equity. A company in the 21% corporate bracket that pays $100,000 in annual interest effectively spends $79,000 after the tax benefit.6Office of the Law Revision Counsel. 26 US Code 163 – Interest
Larger businesses face a cap. The business interest deduction is limited to business interest income plus 30% of adjusted taxable income for the year, and for recent tax years the ATI calculation does not add back depreciation or amortization, making the limit tighter than it was when the rule first took effect in 2018.7Internal Revenue Service. Questions and Answers About the Limitation on the Deduction for Business Interest Expense Businesses with average annual gross receipts of $32 million or less over the prior three tax years are exempt from the cap entirely.8Internal Revenue Service. Revenue Procedure 2025-32 That threshold adjusts for inflation, so most small businesses never touch the limitation.
Choosing Among the Sources
Two principles do most of the work here.
First, match the duration of the funding to the life of what you’re funding. A 20-year building financed with a one-year line of credit forces constant refinancing and exposes you to rate swings and non-renewal. A temporary inventory spike financed with a 10-year term loan means you’ll be paying interest long after the inventory is gone. Short-term needs — seasonal inventory, payroll gaps, receivable timing — belong with short-term sources like lines of credit, trade credit, and factoring. Long-term investments like real estate, major equipment, and acquisitions belong with term loans, SBA financing, bonds, or equity.
Second, understand the relative cost of capital. Retained earnings are the cheapest because they carry no transaction costs or external obligations. Debt comes next, helped by the tax deductibility of interest. Equity is the most expensive over time because investors expect returns that exceed what lenders charge, and those returns come out of profits indefinitely. Most businesses settle on a blend that keeps borrowing costs low while holding enough equity to absorb a bad year without breaking a debt covenant.