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A business loan can provide the funds you need to expand your business, cover day-to-day expenses, and purchase equipment or inventory. If you’ve never applied for a business loan, you may not know where to start or what documents are required.
Here’s a simple guide that walks you through the process of evaluating your options and preparing your business loan application in five easy steps.
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1. Decide why you need financing
There is more than one type of small business loan. Deciding why you need financing will help you choose the right type of loan. Here are some common scenarios:
- Buy new hardware Some lenders offer equipment loans. This type of loan is designed to help you buy business equipment, such as machinery or office furniture. The loan is secured by the equipment, so the lender can foreclose on it if you don’t repay the loan.
- Borrow a small amount of money. If you need to borrow a small amount of money, consider applying for a microloan. The United States Small Business Administration (SBA) has a microloan program that allows qualified applicants to borrow up to $50,000. Additionally, there are non-profit organizations that offer microloans, such as Kiva and the Women’s Microfinance Initiative.
- Establish a business. Since most lenders have a minimum amount of time to meet business needs, it can be difficult to find one that will give you a start-up loan for a new business. If you are just starting out, you may need to apply for a microcredit or a business credit card. You may find it easier to qualify for a business credit card than for other types of business loans because approval is based on your personal credit score.
- Pay for current transactions. A working capital loan — a short-term loan used to cover day-to-day expenses, like rent and payroll — can help cover temporary cash flow problems.
- Borrow money as needed. If you don’t know the exact amount you need to borrow, a business line of credit might be a good option. Once a lender gives you a line of credit, you can withdraw funds up to a certain amount to cover your business expenses and only pay interest on the amount you borrow.
2. Check your eligibility
- Credit score. When you apply for a business loan, a lender will review your personal circumstances and business credit ratings. They help the lender assess the likelihood that you will repay your loan. In general, the higher your credit score, the more likely you are to get approved for a loan and receive a lower interest rate.
- Security and/or personal guarantee. Some lenders require you to agree collateral-something of value, like equipment or inventory – it can seize if you fail to repay the loan. Some lenders may also require a personal guarantee, which means you must secure the loan with personal assets, such as your savings, home, or other valuables.
- Time spent in business. A traditional bank typically requires a business to be in business for at least two years, while an online lender typically only requires one year. If you’ve been in business for less than a year, don’t be discouraged. Some online lenders will approve qualified applicants who have only been in business for six months.
- Annual revenue. Your total annual sales are also a relevant factor. Before applying, ask a lender what the requirements are and review your business finances to see if you meet them.
3. Compare business loan options
There are several places where you can find small business loans. Here are three of the most common types of lenders.
Online lenders offer a variety of loan products to small business owners, including term loans, merchant cash advances, lines of credit, and microloans. Loan approval rates were higher for online lenders than traditional banks in 2019 — 80% versus 74%, respectively — according to a 2019 Federal Reserve Small Business Credit Survey.
One reason for this is that online lenders often have less stringent requirements than traditional banks. Therefore, you may find it easier to get approved for a business loan from an online lender if you have less than stellar credit. Additionally, online lenders often have a much faster turnover – some can issue funds as early as the same business day.
A major drawback of taking out a business loan from an online lender, however, is that they often charge higher interest rates than a traditional bank.
Traditional banks offer many of the same types of business loans as online lenders. The main advantage of applying for a small business loan from a bank over an online lender or microlender is that they usually offer lower rates to qualified applicants.
One of the disadvantages of applying for a business loan from a bank is that it often has stricter eligibility requirements. If you have a bad personal credit score (a FICO score below 580), you’ll likely struggle to qualify without a co-signer, someone who agrees to repay the loan if you don’t meet your payment obligations.
Traditional banks also might not be the best option if you need quick access to funds – applicants were the most frustrated with long wait times, according to a 2019 SBCS survey. For example, SBA loans via a bank can take several weeks to several months to be processed.
Microlenders are typically nonprofit organizations that provide microloans of up to $50,000 to qualified applicants, often designed to provide financing to business owners who do not qualify for traditional business loans. Microlenders generally have less stringent eligibility requirements.
For example, the Kiva microlender has no minimum credit score requirement. Instead, it approves applicants based on “social capital.” To qualify, you need to get a certain number of people to lend you money through Kiva’s platform before your loan application becomes public on their website.
4. Gather the required documents
Once you understand your loan options, gather the required documents. A lender will likely ask for these items:
- Personal and business tax returns
- Commercial licenses
- Articles of incorporation
- Personal and business bank statements
- Profit and loss accounts
- financial state
- Business plan
- Building lease
If you are unsure what documents are needed, contact the lender before applying.
5. Submit your application
The last step is to submit your small business loan application. Depending on the lender you’ve decided to work with, you can do this online or in person.
Here is some information a lender might ask for:
- Your name
- Company Name
- Social Security Number (SSN)
- Desired loan amount
- Purpose of the loan
- Company tax identification number
- Annual revenue
Once you submit your application, you will need to wait for an approval decision. If your loan is approved, a lender will send you a loan agreement to sign before issuing your funds or a line of credit that you can draw on.
Frequently Asked Questions (FAQ)
What credit rating is needed for a business loan?
Since lenders have different eligibility criteria, the personal credit score you need to qualify for a business loan varies. That said, minimum credit score requirements can range from 500 to 680.
The business credit score needed to qualify also varies from lender to lender. Also, it depends on the type of loan you are applying for and the commercial credit rating used by the lender. For example, when it comes to SBA loans, you will generally need a minimum business credit score of 155 to pass the SBA screening process. However, most lenders set their minimum score requirements between 160 and 165.
How can I get a cashless business loan?
Although most lenders have annual income requirements, it is possible to get a business loan if your business has no money. Some lenders don’t offer doc business loans – loans that don’t require verification of business income. To qualify, you will likely need to have excellent credit and provide a personal guarantee.
Can I get a business loan with bad credit?
Although you’ll probably have a harder time getting approved for a small business loan with bad credit, it is possible. Some lenders specialize in providing business loans to borrowers who have bad personal credit scores. However, if approved, a lender will most likely charge you a higher interest rate.
To qualify for a lower interest rate and increase your chances of approval, consider applying with a co-signer who has a good credit score (at least 670, according to FICO) and a decent income, if possible. A co-signer is someone who agrees to repay your loan in the event of default. Before asking someone to co-sign for you, make sure they understand that a missed payment can hurt their credit.