How to Guarantee You’re Approved for Business Loans
If you’re a small business owner who’s applied for a business loan in the past you know that it can be a time-consuming and frustrating process. The smallest mistake, such as forgetting to fill out a form, can hold up the whole process. Before you begin, why not do some research to avoid any hold-ups?
When you decide that it’s time to apply for a business loan, follow these steps to guarantee that you’ll be approved.
Know Why You Need the Money
Are you considering taking out a loan to buy next season’s inventory in advance? Having an issue collecting on receivables? Or is it time to expand into another building? Why you need the money dictates every other step in the business loan application process, from the type of loan you take out to where you apply.
If it’s a loan to finance inventory, you’ll probably want a short term business loan. An accounts receivable financing loan could see you through a tough spot until customers pay their bills. But to purchase another building, a significant capital expense, you’ll want a long-term, low-interest loan.
Before even calling a lender, work out a detailed plan for why you need the money and what you plan to do with it. The answer to this question will help determine the answer to the next.
Know How Much You Need
Next, you will need to add up how much money you’ll need to fulfill the loan’s purpose. Try to think of everything, from including shipping costs in inventory orders to paying for permits to build a new storefront.
Running out of money in the middle of a project can have serious consequences for your business’ long-term health. As well, lenders look at how many small business loans you have outstanding when making a lending decision. If you don’t anticipate all your funding needs and find yourself needing to take out another loan while paying for the first one it could be harder to get an approval.
It’s best to know exactly how much you’ll need, not just to avoid running out of capital but also to avoid over-borrowing. Interest and fees are calculated off the total principal borrowed. Borrowing more money than you actually need leads to paying more in interest and fees, which is money that you could have saved.
Knowing how you will spend the loan’s funds and how much you need helps you create an application which you can be confident in, rather than one based on guesswork.
Determine How Much You Can Afford to Borrow
While you may need the money, that doesn’t mean you can afford it. Lenders charge loan origination and other fees in addition to your weekly or monthly payment of principal plus interest. Look at your business’s cash flow and be honest with yourself, how much of a loan payment can you really afford?
Lenders will perform this same calculation when you submit your application, and won’t approve you for more than they think you can reasonably pay back. If you’re coming up with an unaffordable payment you may need to scale back your expansion plans or wait to borrow.
As well, the interest rate that you’re quoted isn’t always the actual interest rate that you’ll pay. Ask for the annual percentage rate, or “APR,” which includes all fees in the interest calculations. Armed with this information, you can better estimate what your loan payment will be and plug it into your business’ budget. Knowing what you can afford before applying improves your chances of getting approved. The lender will do the same calculations, and won’t approve you for an amount that’s too high.
Research Types of Business Loans
The reason you need the money often dictates the type of loan for which you’ll apply. Pledging past due receivables allows you to take out an accounts receivable financing loan until customers get current. If you only want to finance seasonal inventory it would make no sense to take out a ten-year loan.
The reasons you need a loan often dictate the type of business loan and its term. Types of business loans are as follows;
- Small Business Loans, or SBA Loans
- Small Business Term Loans
- Working Capital Loans
- Equipment Loans
- Small Business Lines of Credit
- Small Business Credit Cards
- Accounts Receivable Financing
Small business loans come with lower interest rates and more favorable terms when they are issued from a bank because limits are set on what can be charged, or because they may be guaranteed by the Small Business Administration of the Federal government. Although these loans have favorable terms, the process is long, requires a lot of paperwork, and approvals are rare.
There are also small business loans offered by alternative lenders. These business funding options come with a wide variety of terms depending on the lender, but rates are generally higher than traditional sources. Although these loans come at a higher cost, the funding process is extremely fast and there is very little paperwork required.
A term loan, extended for a set period of time, pays out in a lump sum and is an option usually offered by traditional financing sources. Unlike an SBA loan, it has no government guarantee, so you’ll pay a higher interest rate. Interest can vary, usually based off LIBOR, or be fixed. A fixed interest rate is advantageous for a longer term loan where interest rate fluctuations over time could lead to unpredictability in your loan payments. That, in turn, could impair your ability to make your payments.
Working Capital Loans are a type of short-term loan meant to help businesses smooth over fluctuations in cash flow. Typically taken out in terms of a month to a year, they can be secured by collateral or personally guaranteed if you haven’t been in business long. Businesses with a strong credit history and relationship with the lender might be given unsecured working capital loans.
Whether it’s a backhoe for a construction company or a commercial mixer for a bakery, many businesses rely on expensive equipment to operate. If that’s your business, you might want to look at an equipment loan. Equipment Loans require a down-payment, similar to a mortgage, often of 20%, with the equipment serving as collateral for the remainder of the loan.
Many banks and even a lot of private business loan companies provide small business lines of credit available to smaller businesses. A line of credit sits open for you to draw upon whenever needed, but you don’t pay anything until you take out funds. You can even repay draws on the line and then borrow again a month later, if needed. This flexibility makes it possible to avoid constantly applying for, paying off, and then re-applying for smaller, short-term loans.
Small Business Credit Cards don’t have as lengthy an application process as a small business line of credit, and thus may appeal if you need capital in a hurry. Like a line of credit, the borrowing capacity stands ready when needed.
But unlike a business line of credit, most credit cards don’t come with checks that you can use to cover business expenses if a vendor doesn’t accept credit cards. Any cash draws on a credit card will be charged a significantly higher interest rate, above an interest rate which will already be higher than a line of credit. While many business owners use them to maximize cashback and rewards, they must be managed carefully or fees and interest payments will hurt your business.
As noted above, accounts receivable loans can be obtained by pledging your outstanding accounts receivable as collateral. As customers pay their bills, the loan is repaid, though the lender takes a percentage of the invoices.
We recommend determining the type of loan that best suits your business before you apply for a business loan. This determination points you to the appropriate lenders and ensures that you don’t waste time. Applying for the wrong type of loan almost always guarantees that you’ll be denied.
Find a Lender and Learn their Requirements
Once you’ve narrowed down your options to the type of business loan you need, start looking around for lenders experienced in your industry. Many industries have unique ebbs and flows to their business cycles which lead to different financing needs. An experienced lender in your industry won’t be scared off by business norms which could look odd to an outsider.
After finding a lender that you think will be able to help you, ask about their loan application requirements before you apply. Traditional lenders rarely lend to people with credit scores below 500. Alternative lenders have less stringent requirements, and may just ask you to show cash flow above eight thousand a month.
Applying with the right lender, one knowledgeable of your business and whose requirements you know you can meet, guarantees an approval.
Build Your Credit Score
The better your credit score, the less you’ll pay to borrow. Interest and fees are not just how lenders make their money; they are also a reflection of risk. If there is a concern that you won’t repay a loan, the lender will charge a higher interest rate to offset the risk with financial products such as bad credit small business loans. And one of the first things that lenders look at to determine risk is your credit score.
Your personal credit score calculates your credit-worthiness off your current debt and past debt management history. Late payments, loan defaults, and a high debt load all have a negative impact on your score. Find out your credit score before applying for a business loan, and do what you can to improve it if it’s low.
Many lenders state their credit score requirements for loans. If you already know that you won’t qualify with a lender because of your score, avoid a guaranteed rejection and apply elsewhere.
Work to Meet Other Loan Requirements
Lenders often look at more than a credit score and your bank account balance. They’ll also consider debt to income ratios, free cash on hand, or the number of months you’ve gone without overdrawing your bank account. If you have other small business loans outstanding, they might want you to pay them off or consolidate.
When asking about loan requirements, dig deeper than a list of documents. Ask the lender what ratios they want to see, how much free cash they want you to have for debt repayment, or how you could improve your odds of getting approved for a business loan. If you have time and don’t need the money right away, work to improve your financial situation to meet other loan requirements before applying.
Gather all Financial Documents before You Apply
When you first sit down with, or call a lender, they’ll give you a checklist of documents required for your application. Often, an underwriter will start by reviewing a loan application file and if anything is missing sending it back with an automatic rejection. While you can provide the missing documents and re-apply, this wastes time.
If a lender asked for three months of bank statements, include three months of bank statements in your loan application. If you can submit a complete file, you’ve already cleared one hurdle towards approval.
Assess the Value of Collateral
If you plan on offering your lender collateral to secure your loan, assess its value. Even if you don’t plan on offering collateral, it may become necessary to get financing and it’s a good idea to have a clear picture of your assets.
If you own a building, make sure you have copies of the mortgage or title. For other fixed assets, obtain proof of ownership such as receipts from when you purchased them. Gather whatever information you think a lender might want to see about assets pledged as collateral, including information about any co-signers.
And when everything else is done…apply for the loan.
If you want to guarantee you’ll be approved for a business loan, you’ll have to put in some effort. Not all of these steps will apply to every business and every situation, but in general the more you know what to expect the better prepared you’ll be for the loan application process. And a prepared borrower has a much better chance of becoming an approved borrower.
Sam is an expert in small business financing and has been CEO at Shield Funding for more than a decade. The company has funded more than 1000 small businesses and has been a significant contributor to the phenomenal growth that many of those companies have experienced.
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