It can be tough to get a small business loan from a bank, and it’s virtually impossible for companies that aren’t yet generating steady sales. When your business needs outside financial support, you have to use every advantage available to score the funding you need for the lowest possible cost.
Before you approach any lenders, you’ll need to do some serious thinking, planning, and research. That preparation will help you—and your business—succeed.
What To Know Before You Apply For A Business Loan
Getting approved for a small business loan requires jumping through a lot of hoops. Entrepreneurs who come prepared have the best chance to secure low-cost loans.
You’ll need to communicate a clear vision for your company’s future and present comprehensive financial statements. And you’ll need to provide a lot of documentation that supports your and your company’s ability to repay any money you borrow.
Many lenders will request a formal business plan as part of your loan application. If you don’t already have a business plan (and you absolutely should), you can find comprehensive guidelines and templates on the Small Business Administration (SBA) website.
1. Know Why You Need the Money
To get a business loan, you have to be crystal clear on how much you need and why you need it. The three most common reasons for business loans include:
- Starting a business (start-up loans)
- Covering regular expenses (working capital)
- Expanding your business (including equipment purchases)
The reason you want the loan will help narrow down the type of loan you can get. For example, traditional lenders rarely offer start-up loans, so you’ll need to turn to other sources (like personal loans and nonprofit microlenders).
As for the amount, lenders get uncomfortable when you ask for too much or too little money. If figuring out the sweet spot number proves too difficult, get help from a qualified small business accountant. Learn more about how much money you need to start a business.
2. Know What It Takes to Get Approved
Small businesses fail more often than they succeed, so lenders (especially banks) demand proof of success (or at least potential success) in order to approve the funding. To qualify for a small business loan at an interest rate that won’t drain your budget, you’ll need:
- A personal credit score of at least 680 (be aware that applying for business loans can affect your personal credit score)
- To have been in business for at least two years for most bank loans or at least one year for online business loans
- Annual revenues of at least $50,000 (and some lenders have higher minimums of $100,000 or more)
- Enough monthly income and cash flow to cover loan payments plus all regular business expenses
If your business doesn’t meet these requirements, you may still be able to get a loan, but expect it to cost more (maybe a lot more).
3. Know What Documents You’ll Need
To get a business loan, you need to demonstrate the ability to pay it back. That means paperwork, and usually a lot of it. Commonly requested documents include:
- Business plan
- Personal and business bank statements
- Personal and business income tax returns
- Personal statement of net worth
- Business financial statements, including a balance sheet, income statement, and statement of cash flows
- Business legal documents, including setup documents (such as articles of incorporation), leases, licenses, customer and supplier contracts, and franchise agreements
Different lenders may ask for more or different documents. Ask potential lenders for a complete list of required documentation so you can have it ready when you apply.
How To Get The Right Loan For Your Business
Just like with personal borrowing, finding the right loan and lender for your business can make a world of difference. When your business is new or young, you may only be able to secure funding based on your personal credit score and financial situation; you’ll fare much better if you have a good or excellent credit score.
In addition, many small business lenders (especially banks) will only work with companies with at least $50,000 or $100,000 of annual revenue and positive monthly cash flow. Other options will cost more interest-wise, but may still give your business the leg up it needs to flourish.
1. Start with the SBA
The SBA works through traditional banks to help provide loans to small businesses. These will be the lowest-cost loans out there, and there’s fierce competition for them. Since the loans are guaranteed by the agency, they come with low-interest rates (based on the prime rate) and flexible payment terms that would otherwise be unavailable to small business owners. SBA loan programs include:
- 7(a) loans, its main loan program, which offers up to $5 million to fund expansions and working capital
- 504 Loans, which provide up to $5 million to cover the land, building, and equipment purchases
- Microloans, which offer up to $50,000 for starting a business or providing working capital, equipment, or inventory for an existing business
- Disaster loans, which supply up to $2 million for small businesses that have been hurt by natural disasters
You can learn more about SBA loans and start your application process at www.sba.gov.
Microlenders, usually nonprofit organizations, help very small companies with small, short-term loans, even outside the SBA programs. When regular lenders pass on your business because of its size, these lenders step up with funding.
Microloans typically top out at $50,000 and come with higher interest rates than bank loans. You’ll need to come armed with plenty of proof that your company is worth the risk, including accurate financial statements and a detailed business plan.
Along with money, microlenders also often provide free support (like consulting services) to small business owners. Many of these nonprofit lenders offer special loan programs for women and minority business owners.
3. Online Lenders
A word of caution about online lenders: Loan interest rates can run over 100 percent, meaning you’ll have to pay back twice as much as you borrowed.
That said, you may be able to find more reasonably priced loans online, particularly if you (or your business) have stellar credit and collateral.
There are two main types of online business lenders: peer-to-peer lending (people) and direct lenders (loan companies). Online loans are easier to secure than traditional loans and have quick turnaround times, often supplying funds within 24 hours. Before you sign with an online lender, make sure you fully understand the interest rate and payment terms.
4. Invoice Financing and Factoring
If your business is doing well but you have cash flow issues, factoring or financing your accounts receivable invoices (the money your customers owe you but haven’t paid yet) may be your best option.
Both ways give you a sort of cash advance (usually around 70–85 percent) against invoices you haven’t collected yet, but they work slightly differently.
With factoring, you essentially turn your accounts receivable over (basically selling them) to the lender, and they deal with all the collections issues; once they collect, they pay your business the remainder of the invoice balances, less their fees.
With financing, you keep control over your receivables, including responsibility for collections, then turn the money over to the lender as it comes in. Either way, you’ll pay a fee to the lender, usually between 1 and 5 percent, but more if your customers pay late.