How To Get a Loan When You’re Self Employed
There are many reasons why you would want to get a loan while self-employed. You could be applying for a mortgage or you could be trying to get a loan for your business. One of the things most lenders look for when attempting to see if you qualify for a loan is your current employment. Unfortunately, self-employment does not look as good to lenders as having a steady job. In order to get approved for a loan, you will need to plan ahead and prepare for the approval process. The good news is, you do have a few options available to you. These tips for securing loans for self employed entrepreneurs can be used both for personal loans (such as a mortgage) or business loans, but the process will vary.
5 Tips to Prepare for the Loan Approval Process while Self Employed
1. Work on your credit score.
If you are trying to get a personal loan, you will need to keep your personal credit score high. If you are applying for a business loan, work on your business credit score. Both scores are affected by different factors, so be sure to focus on the correct one based on the loan you are trying to get. You will want to look at your credit score a few months prior to applying for a loan, in case there are errors you need to dispute. You also want to have the most time possible to maximize your credit score.
2. Pay off other debt that you may have.
Again, if you’re looking for a business-related loan, pay off business debt, and if you’re seeking a personal loan, pay off your personal debt. You want to free up as much money as possible for payments on the new loan. Having a lot of outstanding debt is a bad indicator to lenders. If you cannot pay off all of your debts, then you will want to pay them down as much as possible. This is another reason why it’s a good idea to start this planning process months in advance.
3. Try not to apply for a loan until you have been in business for two years.
The reason is that many small businesses fail during their first two years. The statistics are actually quite staggering, with 40% of small businesses not surviving past the two-year mark. Because of this, many lenders will not approve loans for small businesses unless they have been in business at least two years and show a proven track record of success. You may be able to get past this if you can show strong success from the business on a regular basis, but in most cases, you will want to wait until you reach the two-year mark unless there is no other option.
4. Start and build up cash reserves.
This is especially important if you have been in business for less than two years. Having significant cash reserves will allow lenders to see that you will be able to make payments on the loan even if the business starts to fall off. This is more of a security blanket than anything else. In general, it’s a good idea to have cash reserves as backup in case of any issues down the road.
5. Save up to offer a large a large down payment.
Not only will this show that you are worthy of a credit offer, but it will also show that you are serious about the purchase (if it is not a general business loan).
More Things to Consider If You Need to Get Business Loan for Self-Employed
Unfortunately, even if you do everything listed above, some lenders may still be reluctant to offer you a loan. This is generally due to the appearance of low income. Your business, if it is like the majority of others, shows a low income because of tax write-offs, which reduces the taxable income shown on tax returns. While this is good for your business, it is not good if you are shopping for loans. The business deductions count against the borrower because mortgage eligibility is based on net income.
Because of this, you may want to limit the tax write-offs for your business if you are planning on applying for a loan. This is only temporary and will look better for you on the loan application. You can talk to your tax professional about this. If you are unable to wait a few years to apply for a loan, then you may also want to consider amending old tax returns. However, this can open a whole new can of worms and cause you to pay more in taxes through the business, so you will want to weigh this option carefully.
The last thing to consider when applying for a loan is the lender. You want to choose the right one for you and when it comes to being self-employed, the smaller banks and lending institutions are a better option. Remember, the planning process and preparing for the loan application will make all the difference.