The quest for business funding can bring a lot of frustration. Most people need a loan to start or expand their business. Unfortunately, without proper guidance, the process of applying for a loan can be challenging, overwhelming, and time-consuming.
Here are the steps on how to get a small business loan:
- Determine if you qualify for a business loan.
- Figure out the amount you need and payment you can afford.
- Weigh your options regarding collateral.
- Determine the type of loan you require.
- Compare lenders.
- Gather your documents.
- Apply for the small business loan.
- Review the terms before signing.
In this article, I'll help you learn more about the crucial steps to getting a small business loan. I’ll also guide you on how you can increase the chances of ensuring a successful loan application.
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1. Determine if you qualify for a business loan.
While different small-business financiers sport different loan qualification criteria, there are some general requirements that remain similar across most lenders.
- An updated balance sheet.
- A minimum of 1-2 years of operating history.
- An annual revenue ranging between $50,000 and $250,000.
- Key financial documents like a cash flow statement.
- A good credit score. If you’re not sure what your credit score is, check your credit report with a credit bureau like Equifax.
Online lenders and other alternative lenders might have less stringent requirements. For instance, you could still qualify for a business loan with a lower credit score or receive a startup loan with a 6-month operating history.
However, for the SBA’s 7(a) loan, you will need to meet the criteria for an eligible small business, and you will have to have exhausted all other borrowing options to qualify.
If your business is pretty young and you have low revenues, you can also explore short-term business loans.
2. Figure Out the Amount You Need and Payment You Can Afford
Go through your business’s financials to determine the amount of money you need and how much you can comfortably put towards monthly loan repayments.
To establish how much money you need, you may need to write a business plan and assess your expenses plus financial projections for the next couple of years.
The general rule of thumb for repayments is that your gross income should be about 1.25x your expenses - including your repayment amount. Please note that some lenders might need you to make daily repayments.
3. Weigh Your Options Regarding Collateral
If you apply for a secured loan, you’ll need to put up business collateral as insurance. This can either be property or equipment that your lender can attach if you fail to repay your loan.
While putting up collateral is risky, it enables you to borrow a larger amount at a lower interest rate. Some lenders might require you to sign a personal guarantee where you commit to repay the loan if, for some reason, your business fails to do so.
The other alternative is to go for an unsecured business loan that requires no collateral. Options here include:
- SBA loan programs
- Purchase order financing
- A business line of credit
- Invoice financing. This entails leveraging your outstanding invoices.
- Equipment financing. This is when the hired or leased equipment serves as collateral.
- Merchant cash advance. This is when you borrow against your future credit card receipts.
- Peer-to-peer lending. These platforms connect investors with business owners in need of loans.
4. Determine the Type of Loan You Require
There are 3 main reasons why small businesses require loans:
- To launch a business. Since you won’t have the cash flow to help with loan repayment, you might not get a business loan in the first year. Therefore, you might have to obtain a personal loan or startup financing like small business credit cards.
- To fund business growth. You can access an SBA loan or a bank loan for this. They usually offer high borrowing amounts, and lenders also tailor the loans to suit specific needs, e.g., equipment loans.
- To cover daily expenses. An appropriate type of funding here is a small business line of credit since it allows you to get financing to cover expenses like payroll.
The above categories of needs can help you decide on the most appropriate type of loan for your business.
5. Compare Lenders
You can get a small business loan from banks, online lenders, or nonprofit microlenders. Banks are ideal for businesses that are over 2 years old and have good credit, while online lenders don’t require collateral and give funding fast.
On their part, micro-lenders are suitable when you have no credit history, bad credit, or your business is new. Depending on the type of loan you desire, you should compare 2-3 different offerings to find the best option for your needs.
Then, consider the loan terms plus the annual percentage rate (APR). The APR is the total figure that includes both the loan fees and interest rates. It provides an excellent way to establish the total cost of the small business loan per year.
Ideally, you should go for the loan with the lowest APR.
6. Gather Your Documents
Make sure you have all the necessary documents before applying for the loan. This can include some or all of the following:
- A business plan
- Bank statements and financial statements
- Business and personal tax returns
- Legal documents like articles of incorporation and commercial lease
7. Apply for the Small Business Loan
Once you have everything you need and have settled on the type of loan you need, plus the lender, you can go ahead and apply for the loan. One thing to note here is that applying for a small business loan using your credit history could affect your credit score.
8. Review the Terms Before Signing
Once you receive loan approval, go through the loan agreement carefully. Ensure you understand the loan’s terms and conditions, the interest rate, repayment schedule, APR, and the loan term.
You should also consider your total cost of borrowing once again and confirm you can meet the monthly payments. Additionally, check whether a prepayment penalty applies.
Once you’re satisfied, you can proceed to sign the document and await loan processing.
While applying for a small business loan can seem overwhelming, the process is fairly straightforward if you qualify and have the relevant documents.
If you need a business loan, make sure you follow the steps mentioned above to increase your chances of being approved for a favorable small business loan.
Fundera allows you to discover the financial options you never knew you had and make your best business decisions yet. It's easy, free, and won't affect your credit.
I'm Donny. I'm a world traveler, investor, entrepreneur, and online marketing aficionado who has a big appetite to compete and disrupt big markets. I thrive on being able to create things that impact change, difficult challenges, and being able to add value in negative situations.