If you are an inexperienced entrepreneur in India, deciding on capital matters is very important—startup loans or try to raise funds with equity. Both are beneficial, but they are created for different purposes, dangers, and future targets. For example, in loans, a startup can contact a business loan agent to get the best rate that will not become a burden for the venture. 

How a startup chooses its financing path can guide its future achievements. We take a close look at every financing option and discuss how startups in India can select the best one.

• How Startup Loans Work 

With startup loans, entrepreneurs get access to cash by taking a debt from banks, government options, or NBFCs and have to return the principal and interest when the period for the loan is over. They are most suited for companies building prototypes or undertaking their first operations.

In India, organizations like MUDRA, Stand-Up India, and SIDBI Make in India Loan for Enterprises (SMILE) exist to support startups that do not have to produce collateral. Several private and non-bank financial companies have launched products that are specifically suited to startups.

Benefits of Startup Loans

• Retain Full Ownership: Founders do not have to give up any part of the business.
• Tax Deductibility: The interest you pay on loans can be declared as a business expense.
• Improves Creditworthiness: Paying back loans on time helps improve your commercial credit.

Constraints of Startup Loans

• Repayment Pressure: You have to start making EMI payments for your loan right after its approval, irrespective of how much your business earns.
• Collateral and Documentation: Lenders typically ask for collateral or a personal guarantee in most cases.
• Limited Funding Scope: Loans come with a restriction on their amount compared to the overall amount of capital equity that can be provided.

All these aspects show how loans can be a double-edged sword for a startup and can potentially harm if the founders are not aware of the effectiveness of the MVP (Minimum Viable Product).

• Understanding Equity Funding 

Equity funding happens when investors purchase an ownership share in the company, often cherished by angel investors, venture capitalists, or HNIs. Consequently, investors acquire a holding in the company and, at times, have a say in how it’s run.

AngelList India, 100X.VC and Venture Catalysts are leading the way in funding startups at the early stage in India. Now that more companies have become unicorns and more startup accelerators exist, equity funding has become more open but also more competitive.

Benefits of Equity Funding

• No Repayment Obligation: With equity, you do not have to pay anything monthly, unlike loans.
• Mentorship and Network Access: Industry experience and contacts are regularly contributed by many investors.
• Large Capital Inflows: Suitable both for quickly scaling and for building businesses that rely on technology.

Constraints of Equity Funding

• Loss of Control: Sometimes, investors are given the power to take part in important choices.
• Dilution of Ownership: The more rounds a business has, the less equity it owns.
• Complex Valuation Process: Trying to justify their valuation can take extra time for startups, which may delay financing.

The prominent factors of equity-based funding are that it takes investors in the cap table who are taking risks for the success of the startup. Here, the funding can get difficult if the trust of the investors starts to wane in the business. 

• Factors to Consider Before Choosing an Option 

1. a) Stage of Business

Getting equity is possible during this phase as investors support your featured plan and future goals. But when your company is growing and you need more cash, loans might be a way to support your business without losing influence.

1. b) Risk Appetite and Control

Some founders consider loans preferable to giving up their place on the board. People who are comfortable with working with others and want strategic direction often prefer equity.

1. c) Type of Business Model

SaaS and edtech companies that require significant startup expenses may benefit from equity. Debt can be managed more effectively by product or service-based startups that regularly earn money.

• The Final Call: What Should be Chosen 

There’s no one-size-fits-all answer. However, there is a general principle for startups in India:

• Move forward with loans if you are able to show a working product, repeat sales from customers, and reliable earnings.
• Opt for equity funding if your idea involves high risk and you need quick funding and the direction of professional mentors.

It is also popular among many Indian startups to borrow smaller funds initially from the loan agent, show that their business works, and then raise capital from investors at a better valuation.