How to Get a Business Loan
Follow these steps to borrow money for your business.
- January 9, 2020
- 9 min read
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Getting a small business loan is one of the biggest challenges an entrepreneur faces — and one of the most important. A company without the right funding in place will have a tough time competing in the marketplace, let alone moving into the next stage of growth.
The good news is, finding the right business loan doesn’t have to be a major hurdle. By educating yourself on how business loans work and putting together the right documents, you’ll improve your chances of getting the money you need to succeed.
Follow these steps to get a business loan:
One of the first steps to getting a business loan is to educate yourself on the types of loans that are available. If you only pursue conventional bank loans or Small Business Administration (SBA) loans, you’re leaving out other options that might be a better fit, especially if you’re a new business with fewer borrowing options.
Here’s a quick look at some of the different types of business loans:
- Bank Term Loan: Bank loans usually have fixed interest rates, predetermined maturity date and set monthly or quarterly payments. The approval standards can be pretty high and often require collateral. Short-term bank loans are available for up to 24 months and long-term loans are typically three years or longer. Amounts might range from less than $10,000 to millions of dollars.
- SBA Loans: These are only available to business owners who were turned down for conventional business loans. The approval process requires you to provide multiple years of financial statements and business tax returns, which makes it difficult for new businesses to qualify. The average SBA loan is around $100,000 but can range from less $25,000 to $ 5 million. Interest rates vary by loan type but mostly range from 4.5 percent to 9.5 percent.
- Bank Line of Credit: Also known as an LOC, this is a pre-determined amount of money a bank agrees to make available for you to draw from as needed, as long as you don’t exceed the limit. Approval standards tend to be more relaxed with lines of credit than with direct lenders. Secured LOCs require collateral and are often used to fund major investments. An unsecured business line of credit doesn’t require collateral and is typically used to pay off business expenses.
- Peer-to-Peer (P2P) Loan: P2P loans typically come from fintech lenders, credit unions and peer-to-peer platforms that connect borrowers with lenders. This is a good option for business owners with low credit scores, though you might have to pay a lot in fees and interest.
- Equipment Financing: Businesses that require a lot of equipment to operate often seek equipment financing from traditional banks, credit unions, online lending platforms and other sources. Most of these loans have fixed interest rates and set term lengths. Amounts might range from $10,000 to more than $100,000. Interest rates also vary based on your credit score, with high scores securing rates as low as 8 percent and low scores getting rates of 30 percent or higher.
- Non-Bank Line of Credit: These are similar to bank LOCs but are made available either directly by credit unions or through the SBA. Amounts usually range from $15,000 to $50,000 for unsecured LOCs and $50,000 to $100,000 for secured LOCs. Most terms are no longer than seven years. Interest rates can range from 5 percent to 20 percent and higher depending on your credit.
- Micro Loans: Businesses that don’t need a huge infusion of cash can turn to microlending sources, either through the SBA or through specialty lenders. SBA-guaranteed microlenders offer loans up to $50,000. Some nonprofits offer microloans to minority or women business owners or businesses with goals that align with the nonprofit’s mission.
One way to learn more about how to get a small business loan in your area is to consult your local or regional business association.
Infographic: How to Choose Which Funding Option Is Right for You
The amount of money you request when you fill out the application depends on your needs as a business owner. Loan amounts can range from a few thousand dollars for a startup that just needs to launch a website and put together promotional materials to several million dollars for a small business eyeing an acquisition or new facility.
In an article on the American Express website, small business consultant Barry Moltz of Shafran Moltz Group suggested asking yourself the following questions:
- What will the loan be used for? This is the most important consideration when determining a loan amount. For example, if you need financing to open a full-service restaurant, the industry standard is around $1.5 million. If you just need inventory to start selling customized T-shirts online, you can probably get by on less than $5,000
- When do you need the money? This can also have a big impact on how much money you request. For example, if you want a quick loan to take advantage of temporary discounts being offered by one of your suppliers, you probably don’t require much more than a few thousand dollars, but you will need the money sooner than later. But if you need to finance long-term growth objectives such as expansion into new markets, you likely need bigger loan amounts to be paid over the course of a few years. This can have an impact on which type of financing you seek as some take longer than others to process.
- How much can you afford? There’s a big difference between the amount of money you need and the amount you can get approved for. Lenders will look at factors such as your personal finances and credit history — as well as your business’ revenue, profits and cash flow — to determine what you can afford to pay back. Do some math before applying to determine the amount of debt you’re comfortable with.
Moltz suggests that businesses apply for 10 percent to 20 percent more than they actually need if they can qualify for the higher amount to cover unforeseen expenses or make up for unexpected shortfalls in revenue.
Lenders aren’t in the business of making loans to people at risk of default, so you’ll need to know what they require before inquiring about financing. The degree of difficulty in getting a business loan depends on various factors, including:
- The type of financing
- The type of business
- Business performance
- Personal credit
- Personal financial standing
One of the first steps to take before you fill out a business loan application is to check your personal credit score and business credit score (if applicable) to find out whether they’re in a range that makes you a good candidate for approval. A FICO score of 680 or above is typically considered good by many lenders, though you’ll have an easier time of it if you fall into the “very good” range of 740-799 or higher.
Your business’ performance will also have a big impact on your loan qualifications. If your financial returns show consistently strong sales and profit growth over the course of three or more years — and you have data showing that you’re positioned to sustain that growth into the next few years — you can make a strong case to lenders that you’re worthy of a loan. But if your business is still struggling to generate revenue, cash flow and profits, you’ll need to convince lenders that you have a good plan in place to improve its performance in the future.
If you find that your credit isn’t where you want it to be and you want to take steps to improve your credit score, there are a few ways to do so. One of your first steps is to check your credit report and make sure everything on there is accurate. You can get one free report a year from each of the three major credit bureaus: Equifax, Experian and Transunion. You also can get a free credit report from each of the three credit agencies from AnnualCreditReport.com once a year. If you spot any inaccuracies, dispute them with the appropriate credit bureau to clear them off the report.
Other ways to improve your credit score include paying down debt, paying bills on time and establishing business credit if you haven’t already done so.
Related: How to Build Business Credit
When you’re ready to fill out the application, make sure you have the following ready:
- Personal Information: This typically includes some form of personal identification as well as your Social Security number, current and previous addresses, education and employment history. If you need others to cosign the loan, they’ll have to provide this information as well.
- Business Plan: This might be your most important document because it tells lenders about your business’ product or service, target market, sales and growth strategies, management team and finances. Writing a great business plan can go a long way toward helping you get the loan you need.
- Financial Statements: These include your business’ balance sheet, profit-and-loss statement, break-even analysis and cash flow. Some lenders require you to provide three or more years of financial documents (the obvious exception being new businesses). If you have investors and partners, you’ll also need to provide data on how much money they’re putting into the business.
- Personal Credit Report: It may be easier to get a loan using your personal credit if your business is brand new. If you have good personal credit it could help you get a business loan, especially for startups.
- Business Credit Report: If you don’t already have a business credit report, get one before meeting with lenders. Take time to review the information to ensure it’s accurate and correct any errors.
- Income Tax Returns: You’ll probably have to provide personal and business income tax returns for the previous three years. Startups with no business returns on file will just have to provide personal tax returns.
- Legal Documents: These might include Articles of Incorporation, franchise agreements, business licenses and contracts with third parties.
- Collateral: Even if you don’t want to put up any collateral, it’s a good idea to create a document detailing collateral you could use for a loan.
The time it takes to approve a loan depends on the lender, the amount you’re applying for and what it’s being used for. Smaller loan amounts or alternative loans might be approved in just a few days.
SBA loans typically take two or three months, though some lenders can get it done in as little as 30 days. Expect similar timelines with most traditional banks. Ideally, you should hear back within three months, though some small businesses say they’ve had to wait more than six months to get a response.
If your loan application is rejected, don’t get discouraged. You’re hardly the first person to get turned down and you won’t be the last. There are proactive steps you can take after your loan application was rejected to understand why you were rejected and what you can do to remedy the situation, such as:
- Ask your lender why you were rejected and look for ways to correct these issues.
- Review your personal and business credit profiles to see if there are any errors you might have missed earlier.
- Make sure all of your documents have the correct information.
- Seek out alternative funding sources.
If your business is brand new and has no sales or financial history to show lenders, taking out a business loan will be even more challenging. Without a good credit score or business history, you’ll have almost no chance of being approved for a conventional bank or SBA loan.
In this case, your best option is to seek alternative funding options specialized for startups. These include lines of credit, P2P loans, merchant cash advances, angel investors and crowdfunding.
The process with alternative sources is similar to getting a conventional loan. You may need to put together a comprehensive business plan, provide personal information, review your personal credit score and history and make corrections as needed, gather three years’ worth of personal income tax returns and create a document listing any collateral you can offer.
If you feel you need expert advice to make the process easier, consider contacting companies such as Seek Business Capital, which provides consulting services and funding procurement for startups and small businesses.
As with any business endeavor, preparation is the key to getting a business loan that meets your needs and puts you in the best position to succeed. You’ll stand a much better chance of being approved if you create a strong business plan, gather the necessary documents and take steps to strengthen your credit score and finances.
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