How to Get a Business Loan in 5 Steps
Starting a new business requires money. From manufacturing products, marketing your services to creating a business website, you’ll soon learn that nearly every step of the way, you’ll need capital to back up your growth plans.
That said, most entrepreneurs cannot finance their businesses themselves. Instead, many small business owners apply for a business loan to secure additional funding. Even if you've managed to raise money for your business from other sources, such as crowdfunding, you'll generally need a loan to supplement this. While there is an array of business loans out there, finding the right option for you doesn’t have to be hard.
If you want to get a loan, you must determine which one suits you and if you will qualify for this type business funding before you search for lenders and apply. Understanding the expectations can simplify the process, helping increase your chances of approval.
This complete guide will go over how to get a business loan, help you evaluate which loan you qualify for and delve deeper into the different types of loans being offered today.
How to get a business loan:
01. Understand what type of business loan you need
Taking out a loan is one of the most popular ways to raise money for a business, but the process can daunt first-timers. The market offers many different business loans, and not every loan suits every type of business.
Term loans refer to the most classic loan type. This business loan can come in almost any amount. You borrow a lump sum for a specific purpose and then you pay back the loan, with interest, in equal installments, over a predetermined time period.
Your financial situation will determine the terms of this loan, including interest rates and payment periods. Existing businesses may rely on their financial history when applying for a loan, while newer business owners may have to offer up their personal financial standing. Term loans often require collateral, such as real estate or other assets, which the lender can claim if you fail to make payments. Repayment on term loans usually starts immediately, as well. Banks and private lenders both offer term loans. Banks will require a high credit score and offer varying interest rates and loan terms. Private lenders will typically accept lower credit scores in exchange for high interest rates and short repayment periods.
Government-backed SBA loans
U.S.-based small businesses can apply Small Business Administration, or SBA loans. Private lenders provide these loans, but the federal government backs them, meaning they will repay the lender if the loan recipient fails to do so. Lenders usually provide better rates and more lenient loan terms.
The SBA loans, however, require a lengthy and rigorous application and approval process. These loans also require collateral. While the government ensures repayment to the lender, they require you to risk your personal assets in return.
Some common SBA loans include:
7(a) loans of up to $5 million.
504 loans of up to $5 million.
Microloans of up to $50,000.
The SBA offer additional loan options for purposes such as exporting, international trade or disaster relief.
SBA loans offer relatively long terms, with up to 10 years on loans for working capital or equipment and 25 years for real estate.
Similar to term loans, SBA loans also require some financial history, so not all loan options are available to new businesses. See the SBA requirements to check your eligibility.
Business line of credit or credit cards
Credit differs from traditional loans as it acts more like a personal credit card. Rather than receive a lump sum upfront that you’ll pay interest on, you’ll gain access to a line of credit and only pay interest on money you’ve used. Many view credit as a simpler, safer and more flexible option than a fixed-term loan. Many can easily acquire them from a wide range of lenders and they often don’t require collateral.
Businesses usually use credit lines for short-term financing, rather than long-term projects. Although credit varies in size and terms, many lenders cap financing around $250,000. Some creditors may still require some business financial history. So new businesses may come across difficulties getting credit from a bank.
Businesses can secure a line of credit or, if they don’t qualify, they can opt for a credit card to cover ongoing expenses, which are easier to get but incur higher rates and fees.
New businesses often face difficulties when securing a loan. Many new business owners take out a personal loan to work around this. These are similar to term loans in that the owner pays the lender back in fixed installments.
Most personal loans are unsecured, so you won’t have to put up collateral. They’re typically unrestricted as well, so you can do whatever you like with the money you receive. Personal loans attract many types of entrepreneurs for their quick, flexible and relatively easy qualifications.
However, personal loans may be a riskier option than a business term loan which offer a legal buffer. You’ll need to put your credit score on the line and assume a personal loan’s risk.
New eligible businesses that need less than $50,000 can take out microloans from the SBA or other lenders. Many NGOs offer microloans to businesses that focus on issues like education, equality, or the environment.
02. Check that you qualify for a business loan
All businesses need operational funds, but not every business can secure this funding with a loan. To get a business loan, you’ll need to consider your financial history, credit store, collateral options, and line of business. Make sure you understand your desired loan’s terms and conditions before applying.
How new is your business?
Every lender will want to know your business’ financial and operational history. New entrepreneurs may find it more difficult to get a loan. If those starting a new business can rely heavily on their own financial history, they will have a better chance of getting a personal loan. New businesses may also have luck applying for a business credit line or credit cards for short-term financing, as they pose less of a risk for lenders.
How high is your credit score?
No matter the type of business loan, all lenders will want to take on as little risk as possible and recoup the costs. They’ll want to see your financial situation before lending. Generally, the better your credit score, the better terms you’ll receive on your loan. On the flip side, if lenders see you as a higher risk, they’ll require a larger collateral, shorter return periods, and higher interest rates.
To get a traditional business loan, you’ll need a good credit score. Generally, a bank or SBA loan requires a minimal credit score of 680. If you have a lower credit score, you may still secure a loan, but you will have more limited options and stricter terms.
If your credit score falls within the 600-680 range, you may want to consider alternative lending options, such as a term loan from an online lender, or a line of credit.
Credit scores below 600 make it more difficult to get a loan, especially if you’re a new business without a proven track record. However, you may still receive credit or other short-term loans.
What is your line of business?
While your line of business may seem irrelevant when getting a loan, lenders view some fields as more precarious or profitable and will consider this when determining risk.
That said, even if your history or personal finances lock you out of certain traditional lending options, you can work with lenders who operate solely in your field. Additionally, some NGOs or private entities also provide financial assistance to businesses working on certain causes, like sustainability, human rights or environmental concerns.
Do you have a detailed business plan?
While lenders dig into financial histories, they’ll also want to consider your business’s future when determining risk. To secure a business loan, you’ll need a thorough business plan that calms lenders’ nerves and ensures that you’ll pay them back.
A proper business plan includes expense and revenue projection, preferably broken down monthly or quarterly. It should also include a detailed description of your operation, marketing strategy and even a market analysis.
Can you provide collateral?
Some lenders will require you to provide an asset as collateral to ensure they receive their money back. If you fail to pay back the loan, the lender will assume ownership of this provided asset. Collateral can include assets such as real estate, equipment, inventory or cash.
Collateral may also decrease the lender’s risk, and potentially provide you with better loan terms. While you can receive a loan without collateral, your lender may require you to sign a personal guarantee that offers your personal assets as collateral. To lessen your personal risk, you should ensure you can pay back a business loan before taking one out.
03. Research potential lenders
These days, many lenders approach businesses offering different loan types, amounts, terms and requirements. Many consider commercial banks like Citibank and J.P. Morgan as the most traditional business lenders. If you qualify, they can provide decent terms for business or personal loans of all sizes.
However, the approval process often tends to be longer and more rigorous than other lenders.Small businesses can also approach local banks for smaller loans. Many local community banks will give out loans with favorable terms to local businesses.
Online lenders have also become one of the most popular ways to get a business loan, especially for new businesses. Many sites let you compare options and connect with different lenders offering different terms. Generally, the easiest application process comes from direct online lenders.
Businesses may also want to check out peer-to-peer lending for smaller loans. Platforms such as SMBX connect small businesses with private lenders and investors offering lending options.
04. Gather financial and business documents
Regardless of your chosen loan type, amount and lender, you’ll need to organize your paperwork before you apply. Your lender will ask you for common documents like bank statements and tax returns for your business or personal accounts. You’ll also need to provide credit reports, though most lenders can access your credit report on their end.
If you already run an established business, you’ll need to provide financial statements, including a balance sheet and cash flow statements. New businesses can’t provide these, and instead may need to provide a detailed business plan with financial projections.
Lenders will also want to see legal documents like your federal tax ID, state filings, etc. Some lenders may ask you to include additional information, like potential collateral, or require a certified public accountant (CPA) to review or audit your statements.
05. Apply for a business loan
Before you approach your chosen lender, ensure you know your desired loan type and size, as well as the intended purpose. Once you’ve organized all your information, you can confidently apply for a loan. If your lender approves you, you’ll need to understand the terms and agreements before you commit.
You’ll also need to know what reports you must file, any imposed restrictions (e.g. like a minimum cash threshold your business needs to hold), and the circumstances the lender considers as defaulting on the loan. Note the interest rate and any additional feed, the payment duration and installments as well as any penalties, like those for early payment.
Finally, before entering an agreement with any lender, you should complete your due diligence and confirm their reputation within the industry and with clients.
By Emily Shwake
Wix Blog Writer