Qualifying for a small business loan is a challenge for many business owners. Most entrepreneurs don’t start a business because they’re experts at small business financing—and they shouldn’t need to be.
However, they do need to become experts at financing their businesses. I’m convinced it starts with understanding some of the questions a lender will likely ask and why they ask them.
Question #1: Can you repay a loan?
They probably won’t ask it this way, but every lender wants to know if you can repay a loan before they offer one to your business. This is the question they’re really asking when they want to know how long you’ve been in business, what your annual revenues are, or ask to see the last three months of your business bank statements. If you can’t show a lender that you have some experience, have revenue, and have cash in your bank account, you’re basically raising questions as to whether you can make the loan payments.
Every lender wants to know that you’ll be able to make the periodic payments—starting with the first payment. I once spoke with an entrepreneur who was in the idea stage, had no business credit, had a poor personal credit score, no cash flow, and no business revenue. He couldn’t understand why he couldn’t find a lender willing to offer him a small business loan.
I don’t know how much time he’d spent looking for a loan before he met me, but he didn’t like it when I explained why he was having such a hard time obtaining a loan. He couldn’t demonstrate that he was able to repay a loan.
Be prepared to talk about your business’s profitability, revenue, and how you manage your cash flow. If you’re applying at a local bank, you’ll need your profit and loss statements. If you’re applying with an online lender, you’ll likely need the last three months of business bank statements. While both lenders might be asking for different things, they’re both trying to find the same answer: Can you repay a loan?
Question #2: Will you repay a loan?
“Will you repay a loan?” might sound like the first question, but it’s not. This is why a lender looks at your business credit profile; they’ll likely look at your personal credit score too. They’re trying to gauge what you might do in the future based upon your credit history—or rather, what you’ve done in the past. In many cases, a poor credit profile doesn’t paint a very optimistic picture of the future.
Nevertheless, there are times when a borrower could have a blemish or two on his or her credit profile and still be a great borrower. With that said, some lenders have thresholds below which they typically just won’t go.
For example, if you have a personal credit score below 680 (650 for an SBA loan), it’s very unlikely you’ll find any success at the bank. If that describes you, you’ll need to spend time rebuilding your credit before you apply.
There are lenders—including online lenders—that will work with a business owner who has a less-than-perfect credit profile but can otherwise demonstrate that he or she is able to repay a loan. However, you’ll still need to demonstrate that you will repay a loan.
Most lenders understand there are circumstances that could negatively impact an otherwise good borrower’s credit. Be prepared to explain what happened and the steps you’ve taken to correct the problem. If you can demonstrate that you will repay a loan, the odds of finding a lender willing to offer a loan increases.
Question #3: Do you have a plan should something go wrong?
Nobody wants to think about worst-case scenarios, but lenders do it every day. They do everything they can to minimize the risks of a default.
This is why many lenders want to secure, or collateralize, your loan with something of high value, like real estate or other assets. Many online lenders don’t require specific collateral, but will apply a general business lien on corporate assets until the loan is repaid.
I’ve spoken with borrowers in default who were afraid they’d lose their collateral, and were scrambling to try to keep their assets despite their failure to make their loan payments.
Although there are some lenders who might try to help you, the reason lenders usually like collateral of some kind is to help them recoup the loss caused by your non-payment. Collateral shows a lender you have some personal skin in the game and will be less likely to default.
The best way to avoid this situation is to make sure you have the means to repay the loan regardless of what happens. Never roll the dice with borrowed capital. If you can show the lender that you are able to do that, it will improve your chances of getting a loan approval.
What Are Your Chances for Getting a Loan?
Although different lenders might ask the questions differently, what they really want to know is:
- Can you repay a loan?
- Will you repay a loan?
- Do you have a plan should something go wrong?
If you can answer those three questions to a lender’s satisfaction, accessing borrowed capital will be much easier. At the very least, you’ll know what you need to work on to improve the odds down the road.