While it is not as easy as it once was before the Great Recession, all banks and other lenders still need to loan money to small business. The key is to know how to do it and get the best terms. Here is a simple 7 step process:
Step 1: Start before the loan is needed. It is critical to build a relationship with the people at the lender before the business actually needs the loan. Let the key contacts get to know the company before asking for anything. Remember, people do business with who they know, like, and trust. Lenders work the same way.
Step 2: Decide what the money is needed for. There are good and bad reasons for business loans. Good reasons include financing a piece of equipment, real estate, long term software development or large seasonal sales variances. Bad reasons include financing ongoing losses, office build outs, or acquiring non-essential business assets.
Step 3: Decide how much money the company needs. Most small businesses don’t ask for a large enough loan. Underestimating the amount of money can lead to problems with a lack of working capital sooner than planned. Overestimating can make lenders question the business owner’s assumptions and credibility. Have a well thought out budget that is supported by financial projections (profit & loss statement and a cash flow statement) that is reasonable and shows that the research was done.
Step 4: Know the score. Lenders still look at personal credit scores as a way to judge the reliability of the principals who are borrowing the money. It is important to know what lenders look for and how the scores compare to those expectations.
- Credit score: A credit score of above 650-700 is considered acceptable, but does not guarantee a loan. Most lenders will look for a credit score that is at least in the 700-800 range.
- Debt to income: Personal debt payments should not be more than 33% of gross monthly income.
- Time in business: Lenders give unsecured working capital lines and term loans to businesses which are over 2 years old and have a reliable record of incoming accounts receivables.
- Report on industry risk: Industry risk is rated based on the government SIC codes which are ranked. A small business owner needs to find out how their industry is rated.
- Report on cash flow: The higher the operating cash margin, the better the chance is for a business to survive slower market conditions and ensure long term survival and growth. In the final analysis, most lenders give money based on the company’s cash flow since it measures the ability to successfully repay the loan.
Step 5: Find a lender. Research which type of lender is the best fit for the business’ loan needs.
- Commercial banks: This is best for traditional loans that fall into the strict parameters discussed.
- Non-bank lenders: These are increasing in record numbers for lenders looking to get a higher return. Help can be located using sites such as Fundera.
- Region specific lenders: Local community banks and other lenders that have an interest in economic development in a certain geographic or industry area.
- Micro and alternative lenders: Crowdfunding sites like Kickstarter and IndieGoGo can be helpful for capital needs under $10,000. Personal loans can also be sourced from peer to peer sites like Prosper and The Lending Club.
Step 6: Prepare the loan application package. The “Loan Package” is the paperwork submitted in order to apply for a loan. It generally includes:
- A business plan including business owners’ resumes.
- Financial results and projections (Profit & Loss, Balance Sheet and Cash Flow Statements).
- Personal financial information including three years of tax returns.
Remember that lenders will be searching a small business owners’ personal social media sites as part of their research.
Step 7: Wait. Expect to get an answer within two to four weeks. Check in each week for a status. It is typical that the lending institution will need additional documentation.
Have you been successful in getting a business loan? If so, tell us how and who was the lender.