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10 Easy steps to get a small business loan
The process of finding and applying for a loan might sound complicated, but don't worry – it’s really not.
*This post was updated on April 12, 2021 to include more recent and updated information.
Step 1: Clearly define your need
Be clear with yourself about why you need the loan. What are you going to use the loan for, and how much money will you need? For example, If you need less than $50,000, you can apply for a microloan. If the loan is larger, you will have to research other options. Are you smoothing out cash flow, buying equipment, or investing in marketing? Base the request on your specific needs, not a ballpark estimate. If you borrow too little, you can’t cover your expenses. If you borrow too much, you’ll end up paying more interest than you need. Figure out how much you can pay back over the timeframe, how long it will take to pay off your loan, and don’t forget to take seasonal trends into account.
It’s wise to have a well-founded business plan even if your lender doesn’t ask for one. Constructing a business plan will help you organize your ideas, better understand the market, and lay out strategies for growth and success. It will also give you a better understanding of your expenses and cash flow, which will show how much you need to borrow and how you’ll be able to pay it back comfortably.
Step 2: Obtain free assistance
The loan process can be daunting, especially for a business owner going through the process for the first time. Several free resources can help guide you:
SBA — The U.S. Small Business Administration is dedicated to helping small businesses and works with lenders to provide loans. The agency also has at least one branch office in each state. In addition, the SBA’s website also has links to a national network of 100 women’s business centers.1
SCORE — SCORE has a network of business mentors who provide guidance at no cost, so that you can locate an expert in your type of business or service.
Small Business Development Centers — The 900 U.S. Small Business Development Centers have free business resources and also provide guidance from professionals and professionals.2
Step 3: Audit your risk profile before applying
The borrower’s credit and risk profiles are the most important factors that lenders rely on when deciding whether to approve a small business loan. Therefore, it is crucial to study the following considerations before applying for a loan.
Credit score/credit report — Lenders will examine any outstanding loans and debt to calculate if your company’s cash flow will cover existing loans and obligations, along with the payments for the new loan. Therefore, it’s advisable to obtain your personal and business credit reports before applying for credit or a loan. It’s crucial to find any inaccuracies or problems so you can address them before completing your loan application.
How to qualify when you have poor credit or low income
Banks and other lenders consider credit that falls below 670 to be bad. A company can qualify for a bad credit business loan with a FICO score of 530 or higher, but you typically receive better terms with a credit score of 670 or higher. Small Business owners with low credit scores may not have as many options for loans, especially from traditional lenders. They may have better luck with alternative lenders such as online ones.
As far as low income, a small business has a few options: equipment financing and short-term loans, along with invoice financing and SBA microloans.
Equipment financing may be an excellent choice for someone with low income because the equipment is the collateral for the loan, and the lender will not be as concerned about low revenue. Short-term loans may not provide as much cash — about $2,500 to $25,000 — as the borrower desires, but they can be a good option for those with low income. Interest rates usually start at 10%, and repayment terms are weekly over a period of three to 18 months.
Assets owned by the business — Banks and other lenders will assess the business’s assets (especially current assets such as cash and accounts receivable) to ascertain if there are sufficient assets to claim if there is a loan default.
Corporate history — Lenders prefer to lend to companies that are well established and have been in business for several years.
Financial Statements — Lenders will scrutinize your financials so you must be confident that all your books and other documents will pass muster.
Step 4: Understand your different financial options
You will want to start by understanding your options for funding your small business:
Traditional bank loans — A traditional bank loan is perfect if you have good credit or have been in business for a long time and aren’t in a rush to secure funding. If you have ever obtained a consumer loan (like financing a car or getting a mortgage), your experience with a traditional bank loan will be similar; the requirements to qualify for a loan are higher than requirements for other loan options, and the bank underwriting the loan will have strict, structured rules.
Alternative lenders — Additionally, some alternative lenders focus specifically on small businesses. With a quick online application and no upfront fees, it’s easier to secure one of these loans, even if your credit isn’t perfect or you haven’t been in business for 10 years. These typically come with a higher interest rate than a bank loan.
SBA loans — Other potential sources of funding are SBA loans, which are loans of $500 to $5.5 million guaranteed by the U.S. Small Business Administration. The SBA does not loan funds directly to small businesses. Rather it works with lenders, who in turn, provide the money to small business owners. On its site, the SBA describes several benefits of SBA loans: SBA-guaranteed loans generally have rates and fees that are similar to non-guaranteed loans, some loans feature continued support to help entrepreneurs start and run a business, and the loans include other benefits such as lower down payments, flexible overhead requirements, and some loans do not require collateral. As a result, SBA loans are a great option if a bank has turned you down. However, expect to jump through several hoops, such as time-consuming paperwork, denial due to bad credit, and long wait times in the application process.
Credit unions — Credit unions also offer loans. If your credit score is below 690 and you need a lower interest rate, a loan from a credit union could be a great option for you. The downside is that credit unions offer fewer financial options than larger banks and often have less than desirable online services.
Crowdfunding and P2P lending — Outside of financial institutions, there is also crowdfunding and peer-to-peer lending. These funding sources rely on social circles and individual contributions, which can be difficult if your request doesn’t gain traction, but they can be successful for some businesses.
PPP Loans — Established by Congress as part of COVID 19 stimulus, the Paycheck Protection Program (PPP) is a loan designed to provide encouragement for qualified small businesses to keep their workers on the payroll and other expenses such as rent or utilities. Borrowers may be eligible for PPP loan forgiveness if they follow a few rules and requirements. The government will lend up to 2.5 times the average monthly payroll for most businesses and up to 3.5 times the average monthly payroll for hotels and food services businesses. The SBA is currently offering PPP loans until March 31, 2021. About $670 billion in Paycheck Protection Program (PPP) loans were distributed in 2020 alone.
Accounts Receivable Financing — Accounts receivable financing enables companies to obtain loans on their outstanding invoices, thus helping businesses cope with cash flow difficulties. For this financing, the accounts receivable company provides funds based on the money that is owed to a company after providing products or services to a customer. The business invoices become the collateral for the cash advance.
Microloans — Microloans describe relatively small (i.e., up to $50,000), short-term loans that generally have low interest rates. These loans are usually given to self-employed individuals, startups with low capital requirements or small businesses with only a few employees. The most-common microlenders are nonprofit organizations that have a mission to lend to women, minorities and other under resourced entrepreneurs. The SBA offers microloans of up to $50,000, but the loans average $13,000.
Step 5: Prepare for a successful application
Get organized. Digital tools like QuickBooks® or Freshbooks® can help you manage your finances in preparation for applying for capital to help get your finances in order.
Separate personal and business finances. At a minimum, if you’re paying invoices with your personal credit card or putting your profit in your family savings account, you should stop doing so immediately. Your business should have its own business bank accounts and credit card, which is best practice and will keep your business and personal credit histories separate. Also, make sure your business is officially registered and has a Tax ID.
Improve your credit score. Make sure your finances are all up to date. An excellent credit score doesn’t just help you qualify for a loan, it also opens you up to better rates and term offers. Once you’ve got a handle on your credit score, it’s easier to prove you’re a valid candidate for a loan. Lenders want to see a history of on-time payments on loans, credit cards and vendor contracts.
Prepare the documents you’ll need to apply. Finally, you’ll want to gather and organize a list of documents your lender will need. These typically include but are not limited to, your personal financial statement, borrower information, statement of personal history, federal personal tax returns, business plan, financial projections, your personal identification card, and management resume. Organizing all necessary documents in preparation for the application process will prevent any scrambling at the last minute. If you’re applying online, make sure to scan everything so it’s ready for your application. Having your documentation ready to go before applying will make applying faster, easier and less anxiety-inducing. Essentially, this will show you’re not only organized, but also that you take the application process seriously; this presents you as a desirable candidate for a loan.
Step 6: Decide on security or guarantee to provide
To improve the chances of receiving the green light for a loan, a borrower can provide a security interest to the lender on company assets such as corporate equipment, property or accounts receivable. With the security interest on a loan, the lender has a legal claim on collateral designated by the borrower. Thus, the lender can repossess the collateral and sell it if the borrower defaults on the loan.
While the security interest can help secure a loan, it is best to avoid a personal guarantee when applying for a loan. That should be avoided because it places personal assets, not just business assets, at risk.
Step 7: Be prepared to state how much you want to borrow and how you will use the funds
Right off the bat, the lender will ask how much you want to borrow and how the loan proceeds will be earmarked. For example, the lender may ask if you plan to purchase equipment or use it for other capital expenditures. The lender may also want to know the specific use of the funds such as expanding your company or hiring additional workers.
Other purposes for the loan may include:
- Boosting the size of your inventory
- Increasing sales and marketing efforts
- Devoting funds to new research
- Developing new products and technology
- Expanding into new facilities or territories.
Lenders may favor companies borrowing money for purposes that contribute long-term value to the business, such as the purchase of equipment, machinery or real estate. Expanding your business is another worthwhile use for a loan because you can manage to expand without taking out working capital from the business.
Finally, taking out a loan to better manage cash flow is also a worthwhile use for the funds. If your customers typically take 60, 90 or 120 days to pay invoices, or your company is seasonal with several down months a year, then a business line of credit or invoice financing can assist you sustain your working capital needs.
Step 8: Applying for a loan
Once you’ve narrowed it down, apply only to your top choices — not to every lender available, because every time a lender checks your credit score, your rating takes a tiny hit. This adds up, so make sure only to select a few lenders that work best for you.
Apply to 3-5 options and carefully compare their offers. If there’s a lender you prefer, but they’re slightly less competitive than another offer, ask them if they can match it – sometimes there is room for negotiation. Just make sure you’re comparing apples to apples – and if you’re not sure, don’t be afraid to ask all the questions!
Getting a business loan takes some work, but once you have a foundation for success, financing options will be available, and your business will experience growth.
Step 9: Loan comparison tools
Step 10: Wait for an answer and reapply if necessary
The best way to improve your opportunity to obtain a business loan is to research the lending process and the various types of lenders before applying for a loan. If you need to improve your credit or cash flow, you must take appropriate actions before completing an application. Once you are ready to apply for a loan, carefully assess your options to find the appropriate lender and loan for you and your company.
- U.S. Small Business Administration. “Find local assistance.”
- Small Business Development Centers. SBDC Services
- Merritt, Jennifer. “Bad Credit Loans for Small Businesses.” U.S. News and World Report.
- Loans, U.S. Small Business Administration.
- The Balance. “Banks vs. credit unions”
- “5 Tips for Crowdfunding During the Pandemic,” Entrepreneur
- Money under 30. “Best peer-to-peer lending sites for borrowers and investors.”
- U.S. Small Business Administration, “Paycheck Protection Program.
- US Chamber. Will You Owe Taxes on Your Paycheck Protection Loan?
- U.S. Small Business Administration, “Microloans”.
Our editorial content is intended for informational purposes only and is not written by a licensed insurance agent. Terms and conditions for rate and coverage may vary by class of business and state.
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