What to do if you’re denied a Business Loan
Nobody likes rejection. If you’re a small business owner who needed a business loan, a “denied” stamp can sting. That denied loan application, however, isn’t always the end of the road.
The first thing to do is find out why the lender denied your business loan application. If the lender does not supply a reason for that rejection you can try requesting in writing the reasons for the denial. The answer to that question will guide you so that you can take steps to be approved for a business loan in the future. Below are some of the common reasons you might have been denied, and what to do about them.
Incomplete Loan Application – Complete it
Lenders vary in what they request for a loan application. Commonly they’ll ask for your credit score, bank statements, and financial statements. Depending on the type of loan or business, lenders could also ask to see tax returns, leases, business licenses, or proof of ownership.
It may sound obvious, but if you’re not a legal resident of the United States, and an adult over the age of 18, you can’t take out a loan. You’ll need a copy of your driver’s license or social security card. Non-citizens can take out loans in the United States, but you’ll need proof of legal residence.
If your lender rejected your loan for an incomplete application, simply provide the missing pieces and re-apply.
Poor Credit Score – Improve it
At the top of the list for reasons to reject a loan application is your credit score. Traditional banks prefer credit scores above 700, while alternative lenders will lend at a minimum credit score of 500 with some of their business loans bad credit options. If your credit score led to the denied loan application, take some simple steps to improve it.
Even with a decent credit score, some information on your credit report could still lead to a denied loan application. Child support payments that are in arrears, for example. Tax liens against a business, building, or personal property and no payment plan in place with the taxing authority.
Pay down debt, make all your payments on time, or consider working with a credit counselor until it’s above an acceptable minimum.
Tax Returns – Apply for a Smaller Loan Amount
Lenders don’t always request tax returns in a loan application, but they will if you’re applying for a significant amount of capital. Your credit score might not be enough for many reasons.
A credit score doesn’t show where you’re making your money. A tax form with a Schedule C or a Schedule K discloses how much of your money actually comes from your business, and will tell them how you’ve structured your business. LLC’s and sole proprietors typically file a Schedule C, while S-Corp’s use a Schedule K.
If your business isn’t actually generating enough revenue to stay afloat, but you have a day job or income from other sources that’s helping out, lenders want to know that information. They’ll ask for several years of tax returns, typically at least three, to identify trends and growth. If one year came in extremely high compared to the others, it could be an aberration.
While it’s likely that these items also impacted your credit score, it could still be high enough to qualify for a loan. In that case, apply for a smaller amount of money where your lender won’t require tax returns as part of your loan application package.
Short Time in Business – Wait a While
Businesses that have only been operating for a short time don’t have a history of cash flow to show lenders. Needing a loan after a few months to keep afloat isn’t a good sign, and it might be time to reevaluate your business plan. But if you want the loan to expand or grow, it’s best to wait at least six months before applying. Ask your lender when you can apply again, and circle the date on your calendar.
Default on Past Loans – Clear Them Up
If you’ve defaulted on a loan in the past, it almost guarantees you won’t be able to get one in the future. Lenders want to know that they’ll be repaid, and a history of non-payment doesn’t reassure them.
If it was a recent default, see if you can work out a payment plan with the lender. Borrow money from family or friends to pay it off. If there isn’t a way to resolve that past loan default you might have to turn to them for funding anyway.
Too Many Small Business Loans – Pay Some Off
Lenders view businesses that have already taken out one to two other small business loans, and still need more capital, with caution. It could be a sign that your business is failing, or that you’re a poor planner.
Remember, the story you want to tell a lender is that you’ll use their money to generate more capital and repay the loan. Even if you’re paying on the other loans, if you consistently need new influxes of funds, it indicates other problems with your business.
However, if your purpose in applying for a new loan is to consolidate past debt, explain this to the bank. Be aware that they may want to send the disbursed funds directly to the other loans to ensure that the money is being using for its intended purpose.
If you can, try to pay off other small business loans before re-applying for a new one.
Too many NSF’s – Improve your Cash Flow Management
If your lender requested your business’s bank statements, they could have denied you a business loan because of too many NSF’s in a short period. Frequent overdrafts send the message that you may not be great at cash management, even if your business is generating enough revenue to cover its expenses.
Work on avoiding NSF’s for several months. Small business owners are busy people, and the problem could be that your customers pay in cash or checks that sit on your desk for a week before you get to the bank. Or, you’re just not watching your bank accounts close enough. After several months of banking without going negative, re-apply for a business loan.
Insufficient Revenue – Manage your Cash Flow
Make it a priority to keep enough cash in your account, and make more frequent deposits if needed. Lenders like to see regular deposits. In their mind, it demonstrates good cash flow to pay bills which come in throughout the month and indicates less risk.
For example, a restaurant that does thirty thousand in business a month but makes daily deposits is considered less risky than a construction company that does the same business but deposits one monthly lump sum. This is particularly true for alternative lenders, who often require daily or weekly payments on your loans.
Insufficient Revenue – Increase your Cash Flow
In addition to needing more frequent deposits, you must meet minimum monthly revenue thresholds to qualify for a loan. To get a loan for eight to ten thousand, you’re required to show proof of a minimum of ten grand a month in revenue. Obviously, revenues have to be higher to qualify for more money.
Generally speaking, borrowers can take out 50-80 percent of monthly revenue, the exception being borrowers with great companies or an excellent borrowing history. Do the math, or ask the bank if insufficient revenues were the reason you didn’t qualify for a loan.
If so, work on bringing in more sales. If you’re in the dip phase of your normal business cycle, wait to reapply until you’re a few months into an upswing.
Debt Service Ratio – Calculate and Improve It
People with great credit scores and no other financial issues can still be turned down for a small business loan. Your debt service ratio is the amount of cash available to make payments on your debt compared to your overall debt level. It’s calculated using your net operating income, revenues less expenses.
Industry standards for debt service or coverage, ratios vary. But if you’ve got a 1:1 match, i.e., all of your extra cash would be used to make loan payments, your loan application will be denied.
Consider paying down your debt, whether or not it negatively impacts your credit score. Or wait to apply until your business is bringing in more money.
Industry Type – Look at an Alternative Lender
Many banks and traditional lenders have restrictions on where they can lend their money. If your business is in the gambling industry, or you’re a marijuana grower, a traditional bank will turn you away.
While marijuana has been legalized in some states, it’s not legal nationwide. Large banks and banking institutions are still struggling with how to handle the industry, and for the time being refuse to service the cannabis industry. Private investors and alternative lenders have stepped in, and if you need funding for a cannabis business you’ll have to work with them.
Even if you don’t operate in a vice industry, certain industries such as restaurants and independent boutiques are known for having high failure rates. Simply applying with the wrong lender could mean getting turned away. Search out lenders with experience in your industry who know what to expect.
Criminal Record – Look at an Alternative Lender
It may not be fair, but many banks view a criminal record as a sign of unreliability and unworthiness. This is true even in cases of minor offenses. It’s worth the time and money to talk to a lawyer and see if you can have your record expunged.
In cases where you can’t have your record cleared, you might still qualify for a loan. Since 2015, the Small Business Administration has allowed lenders to extend credit to parolees and those on probation. Typically, these are microloans up to $50,000 and restrictions apply based upon the type of conviction.
If you can’t qualify for an SBA loan for this or other reasons, turn to private or alternative lenders. If your business’s financials are good, and all else supports your ability to repay, a criminal record will be less of an issue.
While we’ve addressed how to clear up financial reasons a loan application can be denied, if you really need the money and don’t have the time to fix issues, you still have two options open to you.
Get a Co-Signer
If someone in your life is in a better financial situation than you and would be willing to co-sign on the loan, talk to them. Present them with your business plan and ask if they’d be willing to co-sign. Keep in mind that most lenders will require that the co-signer have a stake in the company.
Provide the Lender with Collateral
Your small business may have assets that aren’t in the bank or you do not qualify for unsecured business loans. Real estate, inventory or equipment can all be pledged as collateral with certain types of lenders. You can even pledge some of the money owed to you. With accounts receivable financing you pledge outstanding invoices to get the short-term cash your business needs.
Hallmarks of a small business owner include perseverance and hard work. Don’t give up if you’re denied for a small business loan. Instead, make some improvements in these areas and try, try again.
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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