Applying for a small business loan is not a task that entrepreneurs ever look forward to. The high standards that many banks require can be pretty scary for small business owners that need funding for their business. Whether you need funding for startup, inventory, supplies, product manufacturing, office supplies, or other aspects of running a small business, at some point you will need to apply for a loan from somewhere.
Finding lenders that offer small business loans is the easiest part of the task, applying and being approved is what makes it the most difficult. The more prepared you are, the better your chances. Below are five steps you will need to apply for a small business loan. Once you are armed with this information, you will see your chances of approval increase.
1. Why Do You Need the Money?
First, you must figure out exactly why you need to apply for a small business loan. Then you need to ask yourself how this loan will help your small business prosper. Lenders will ask you why you need this money, and what you plan to do with it. Your reasons will fall into one if not all of the following categories:
To start your business.
To manage day-to-day business expenses.
To help your business grow and become profitable.
To have an extra safety cushion.
Once you have this information ready to present to your lender, you are ready to move forward.
2. What Type of Loan Is Right for You?
The reasons you come up with for number one will govern the type of loan you need for your small business as well as what type you can get. A good thing to keep in mind is that it is much more difficult to get a loan during your first year of business. The reason for this is because lenders often look for a consistent cash flow that can support your repayment of the loan. Start-up businesses are often disqualified immediately since there is no cash flow established, and lenders feel that they are too risky to give approval to.
If you are just starting out with your new business, chances are good that you will have to rely on other means of finding funding such as borrowing from friends and family, personal loans, microloans from non-profit lenders, fundraising, crowdfunding, and business or personal credit cards.
For businesses with an established cash flow and that have been in business longer than a year, more financing options are available. These options include loans from the SBA (Small Business Administration), long-term loans, short-term loans, business lines of credit, and invoice factoring.
3. Determine the Best Type of Small-Business Lenders
If your business qualifies, you can get small business loans from a variety of lenders. Lenders include banks, non-profit organizations, microlenders, and online lenders. Such lenders offer short or long-term loans, business lines of credit, and accounts receivable financing.
You should never choose the first lender that offers you a loan, no matter how desperate you are to get started. The only way to find the lender and loan that fits your business or personal needs is to compare two or three that you have found. You will want to pay special attention to the loan details like the lowest APR (Annual Percentage Rate), interest rates, and the amount of time given to pay back the loan, not to mention any other fees that may be hidden. After learning all of this information, be sure to ask yourself if you will be able to handle regular, on-time payments of this loan without putting yourself or your business in jeopardy.
4. Finding Out if You Qualify
Obviously, you need to find out if you do, indeed, qualify for a small business loan. This is most often accomplished by checking your credit score. Your credit score plays a big part in the type of loan you can get and the type of loan you may qualify for if any.
Borrowers with low credit score may still be approved for a business loan, but at much higher rates than borrowers with a high credit score. You can find out your credit score from the three major credit bureaus: Experian, Equifax, and TransUnion. All three of the credit bureaus allow customers to get their free credit report once a year. Simply go to one of their websites to find out how to do it.
A useful piece of information that you should know is that most banks want you to have a credit score of 680 or above to even qualify for a loan. If our score falls below that, you may need to seek out an online lender that allows persons with low credit scores to apply for loans. You could also consider going to a microlender or non-profit organisation for the funding you are seeking.
5. Gather Your Documents
Once you’ve completed to above four steps, it’s time to gather all the appropriate documents to present your chosen lender with. Additionally, you are able to apply to multiple lenders with no ill effects on your credit rating for a short period of time, about two weeks.
The following documents are what you will need to present to your lender, depending on the type of lender you choose. In general, these documents are needed, even if the lender you chose doesn’t need all of them, it’s still a good idea to gather them.
Business and personal tax returns
Business and personal bank statements
Business financial statements
Business legal documents (franchise agreement, commercial lease, articles of incorporation)
6. Lenders and When to Use Them
Banks and The SBA
Use banks when you can provide collateral, have good credit, and you do not need fast cash. Traditional bank loan options include:
Short and Long-Term loans
Lines of Credit
Commercial Mortgages used to buy a property or refinance
Small Business Administration provide loans that include:
General Small Business Loans with the 7(a) loan program
A point to remember is that small businesses have a tougher time getting approved for loans due to low cash flow, low sales volumes, low personal credit, or no collateral to offer. However, banks do offer your lowest APR options.
Use a micro-lenders when you are unable to get a traditional loan due to the small size of your company.
Micro-lenders are non-profit organizations and usually offer short-term loans that are less than $35,000. The APR on such loans is higher than with a traditional loan from the bank. During the application process, you may need a solid business plan, financial statements, and an idea of what the loan is going to be used for.
Microloans are beneficial to those business owners unable to get a traditional loan due to reasons such as a low credit score, the lack of collateral, and the lack of cash flow. Microloans work best for small companies and startups.
Use online lenders when you have no collateral, you need funding quickly, or your business has not been open very long. Online lenders provide loan options that include:
Small business loans
Lines of Credit
Online lenders loans range from $500 to $500,000 with an APR from 7% to 108% depending on the lender, the size of the loan, the length of the repayment terms, and the borrower’s credit history. While they cannot compete with the banks as far as the APR, the rates of approval are higher and the funding can be obtained faster.
Three Questions to Ask Yourself Before Applying for a Loan
When you decided to seek out a lender for your small business loan, be sure to ask yourself the following three questions so that you can be prepared.
How long have I been in business?
As mentioned previously, you need to be in business for at least a year before you have a better chance of being approved for a loan. For bank loans, you should be in business for at least two years.
Do I make enough money?
Online lenders, many of them, want you to have yearly revenue of at least $50,000. Be sure to know yours, and find out the minimum requirement the lender you’re considering has in place.
Can I make the payments on time?
Take a look at your business cash flow and evaluate how much you can afford to pay back every month. A great tip to remember is that your income total should be at least 1.25 times your total business expenses to comfortably pay your loan back monthly and on time.
A good example of this is that assume your business income every month is $10,000. You have $7,000 worth of business expenses including rent, payroll, inventory, etc. Then $1,000 a month is the maximum amount you would need to pay back the loan comfortably.
The steps we’ve supplied here will help you decide the type of lender you should approach for your small business loan needs. By using this information as a guideline when you begin your search, you will have the knowledge needed and be prepared for rejection or approval. Good luck!