4 ways to prepare and apply for a small business loan
If you’re thinking about getting a small business loan, you’re in good company. Business loans or lines of credit account for 76% of the financing small businesses sought out, according to a report from Fed Small Business, a project of the U.S Federal Reserve.
Finding and applying for a small-business loan can be time-consuming. By understanding a lenders' typical business loan requirements in advance, you can streamline the process and avoid common pitfalls. Here are four steps you can take to prepare to apply for a loan.
1. Understand (and improve) Your Credit Score
A good credit score plays a significant role in determining loan approval and interest rates. If you are already in business, you should be prepared to submit a credit report for your business. As with the personal credit report, it is important to review your business’ credit report before beginning the application process.
Most lenders prefer to use the FICO® Scores, which range from 300 to 850. A good score is anything from 670 to 739. If you’re an established company, you’ll need a business credit score from Experian, Equifax, or Dun & Bradstreet, who scores ranges from 1 to 100. Scores of 80 or above are considered lower risk and could potentially increase your business’s credibility.
Tip: If you haven’t already, open accounts with vendors that report payment history, get a business credit card, and pay creditors on time.
2. Decide what type of loan you need to fund your business.
When it comes to getting financing, you have options. The right type of business loan for you depends on your goals. For example, through banks, the U.S. Small Business Administration guarantees general small-business loans with its 7(a)-loan program. The SBA also has a 504-loan program that helps fund the purchase of land, buildings, or equipment through long-term, fixed-rate financing. Banks and other financial institutions offer term loans (lump sum) and lines of credit. (Draw money as needed).
Tip: There are pros and cons for each type of loan, so talk with your accountant or CPA, or loan representative to understand which choice makes the most sense for your business.
3. Collect Necessary Documentation
Lenders will require you to show your financial status when applying for a business loan. The specific documents will vary from lender to lender. Some of the most common documents requested include:
- Employer Identification Number (EIN)
- Business bank statements
- Financial statements such as a balance sheet
- Business income tax returns
- Business licenses
- Proof of business formation
- Legal documents
- Business plan
- Collateral offered if applicable.
- Funding request
- Credit reports
Tip: Compare the loan requirements of different lenders from banks to financing companies to see what you’ll need to qualify.
4. Review Collateral and Assets
Not all lenders will ask for collateral when you’re applying for a loan. But depending on the individual lender’s risk requirements, you may need to provide collateral—personal and business assets to secure a loan. Types of collateral include but not limited to:
- Real estate
- Equipment
- Inventory
- Unpaid invoices and credit card sales
- Cash
- Blanket lien (Blanket liens cover a wide variety of assets. They give your lender the right to seize any property, collateral or savings accounts owned by your business).
- Personal assets
Tip: It’s vital to evaluate the consequences of using high-value collateral and the potential negative impact on your business if loans are not repaid.
There are many smart reasons to apply for a business loan whether you need additional working capital for cash flow purposes, to purchase inventory or equipment, hiring new employees, acquiring additional locations, and more. While there are no guarantees that you will be approved, you can improve your chances by preparing an accurate and well-documented application.
