3 Things You Need to Know About How to Get Small Business Loan
Wondering how to get small business loan without having to jump through all the hoops that traditional commercial banks throw your way?
There are other options.
Every business owner knows that it takes a certain amount of capital to get started in the world of entrepreneurship. Unfortunately, this money is often scarce. But this lack of capital should never stand in the way of following your dreams of running a successful business.
To get the loan process started, here are a few things you should know about how to get a small business loan.
1. Identify What You Need the Money For
There are great reasons why you need money for your business. Maybe you need to stock up on inventory, buy equipment, pay for marketing, or cover payroll before invoices are paid. But there are also some not-so-good reasons to need the money, like buying non-essential business assets or constantly financing ongoing losses.
When you’ve identified what the money is needed for, establish how much you need to cover the costs. You don’t want to borrow more than necessary – you’ll only end up paying more interest fees. On the other hand, you don’t want to ask for less than what you really need, which could lead to a shortage in working capital sooner than you thought.
Make sure you have a well thought-out plan and budget that you can support with documented financial projections. This will show the lender that you put some effort into the necessary research.
2. Understand the Numbers That Lenders Will be Looking at
Traditional lenders, like big banks and credit unions, still look at credit scores as a means of judging your reliability and ability to pay back the borrowed money. It’s a good idea to understand what lenders look at, and how these scores can impact your ability to get approved for a loan. Consider the following:
Credit score. Anything under 640 will significantly lower the odds of getting approved for a loan from a bank. And even if you have a higher score, it still doesn’t necessarily guarantee a loan. Other factors could come into play, including the following.
Debt-to-income ratio. This number is simply the percentage of your monthly gross income that goes toward paying off debts, taxes, fees, and insurance premiums. To boost the odds of getting approved for a loan, your debt-to-income ratio should be no more than 33 percent of your gross monthly income.
Business history. If you’re looking to get an unsecured loan (which means no collateral), your business will typically have to be in operation for a long time. Ideally, your business should be at least two years old and have an established record of incoming accounts receivables.
Positive cash flow. The higher your operating cash margin, the better. This shows that your business will be better able to survive bad market conditions. The majority of lenders lend money to businesses based on their cash flow, as it assesses the ability of the business owner to successfully pay back the loan.
3. Work With a Lender That Can Meet Your Needs
Commercial banks might be a good place to get a loan if you are able to qualify for all the strict criteria discussed above. But not only are these loans tricky to get approved for, it typically takes weeks before you get an answer, and even longer before you’re funded with the cash you need.
Non-bank lenders are a viable option for those who might have a black tick or two on their financial and business records. In fact, these types of lenders are growing in popularity, thanks to their less stringent lending criteria, and their speed of approval and funding. Even if you have bad credit, no collateral, and a short history in business, you can still get approved for a loan in as little as 48 hours to help meet all your working capital needs.
Small Business Owners Face a Host of Hurdles When Applying for a Bank Loan
Getting approved for a traditional bank loan for your business isn’t always easy. In fact, it can be downright challenging. The following are some of the hurdles you might face when applying for a small business on from a commercial bank:
Lengthy and cumbersome application process – The bank will have to verify your ability to pay back the loan, which means they need to look at the details of your business before handing out any money. The application process can therefore be a really long one, between filling it out, having it reviewed, and waiting for it to be approved (or rejected).
Good credit needed – One of the first things that banks will pull is your credit report. If your credit score is under 640, odds of getting approved for a small business loan are pretty slim.
Preference given to long-standing businesses – If your business is a start-up, or has only been in operation for a few months, you might have a hard time convincing the banks to take a gamble on you.
Risk of losing collateral – Banks will want to lessen their risk when lending out money, and will often request some form of collateral before approving a loan. This collateral can be your home, your car, and any other property you might own. If your business isn’t as profitable as you would have hoped, you could lose your collateral.
What Are Your Alternative Options For Loans?
Alternative non-bank lenders are increasing in popularity. Here are some of the loan options they offer to small business owners like you who need fast cash without the hassle.
Short-term loan. Similar to a traditional term loan, a short term loan involves a set amount of cash given to you upfront. You then agree to pay the lender back, along with the interest rate, over a set time period of time. Unlike term loans, the loan amounts are usually smaller, and the repayment period is much shorter. Also, you may be required to make daily versus monthly payments.
Many small businesses like this option because the debt only sits on their books for a short time period. Money is accessed really quickly without any in-depth paperwork to fill out.
The disadvantage to a short term loan is that the interest rates tend to be higher compared to other loan options.
Invoice financing. Many business owners experience the frustration of waiting for invoices to be paid. With invoice financing, you can experience much more predictable cash flow and get the capital needed to meet various business expenses. This arrangement involves selling your invoices to a lender, who will then advance you approximately 85 percent of the entire invoice value. The rest of the balance is held in reserve, from which the lender will take their first fee. The lender then applies a factor rate to the amount owed, which will depend on how long it takes for the invoice to be paid.
This arrangement is great for business owners who often experience a reduction in working capital as a result of the delay between making a sale and waiting for payments to come through. No collateral is needed, as the invoices collateralize the loan.
On the downside, you tend to lose part of your potential profits. Not only that, but the longer it takes for clients and suppliers to pay you back, the more money you might owe.
Business line of credit. Similar to credit cards, a lender will grant you a certain amount of money with a business line of credit. From this account, you are free to withdraw as much or as little as you need, as long as you don’t go over the credit limit. Interest is only charged on the amount you take out, and the money can be tapped into over and over again. For example, if you were given access to a $50,000 line of credit and you take out $25,000, you can access the remaining $25,000. If you pay that initial $25,000 back, you’ll have access to the entire $50,000 again without having to reapply for the line of credit.
The great thing about a business line of credit is that you always have access to cash whenever an urgent need arises. You don’t have to pay interest on the entire amount (unless you withdraw it all), and it’s suitable for all sorts of business purposes. Not only is bad credit OK, but continuously paying back the credit amount is a great way to build back your credit score.
It should be noted that with a business line of credit, collateral may be required. And even though bad credit won’t typically stand in the way of getting approved for a line of credit, you may be charged a higher interest rate if your score is low.
Equipment financing. Rather than leasing your equipment, you can apply for an equipment financing program so that you actually own the products once the loan is paid off. These loans can be used to buy just about any type of business equipment. How much you borrow will depend on the type of equipment being purchased, and whether or not the equipment is new or used. The equipment itself acts as collateral to secure the loan. Typically, fixed interest rates apply, along with a fixed term length so that monthly payments are always the same.
This arrangement is ideal for those with no collateral or bad credit. In addition, there are potential tax benefits to take advantage of.
The potential downside to equipment financing is that the equipment may be obsolete by the time you pay off the loan. In addition, you might need to pay for other expenses, such as insurance and maintenance.
Which Loan Option is Right For You? Let Credibly Help You Decide
At Credibly, we can help business owners like you get the funding you need to meet all your business working capital needs. We make it easy to scope out all the alternative loan options out there, and shop and save on small business loans. Contact Credibly today to help you come up with your personalized small business funding solution!