When applying for a business loan, understanding what lenders are looking for can significantly improve your chances of approval. Lenders evaluate several key factors to determine whether you’re a reliable borrower. In this article, we’ll break down what lenders really look for in your application, from credit scores and cash flow to documentation and business history. By knowing these criteria, you can prepare a stronger application and increase your likelihood of securing funding.
1. Credit Score and Credit History
Your credit score is one of the first things lenders check. It reflects your ability to manage debt and make timely payments.
- Personal Credit Score: For small businesses, lenders often review the owner’s personal credit score. A score of 680 or higher is generally considered good, but some lenders may accept scores as low as 500.
- Business Credit Score: Established businesses may also have a business credit score, which lenders use to assess financial responsibility.
Tip: Check your credit report for errors and work on improving your score before applying. Pay off outstanding debts and avoid applying for multiple loans at once, as this can lower your score.
2. Cash Flow and Revenue
Lenders want to ensure your business generates enough income to repay the loan. Most lenders require 3–6 months of business bank statements to verify your cash flow. They’ll closely examine your cash flow and revenue trends.
- Monthly Revenue: Consistent and sufficient monthly revenue is a strong indicator of your ability to repay.
- Daily Balance: Lenders may look at the daily balance when evaluating cash flow for businesses or individuals. A healthy daily balance shows the ability to manage funds effectively and ensures you have sufficient liquidity to meet obligations, including loan repayments.
Tip: If your revenue fluctuates, provide explanations and highlight growth trends to reassure lenders. But if revenue fluctuates you may get declined for a small business loan. It’s better to apply when you have consistent deposit into your business bank account.
3. Time in Business
The length of time your business has been operating is a critical factor.
- Startups may struggle to secure traditional loans, as lenders prefer businesses with at least 6 months to 2 years of operational history.
- Established businesses with a proven track record are seen as less risky.
Tip: If you’re a new business, consider alternative lenders or revenue-based financing options that cater to startups.
4. Collateral and Assets
Some loans, especially traditional bank loans, require collateral to secure the funding.
- Collateral: This can include real estate, equipment, inventory, or other valuable assets.
- Unsecured Loans: If you don’t have collateral, you may qualify for unsecured loans, but these often come with higher interest rates.
Tip: Be prepared to provide documentation of your assets and their value if collateral is required.
5. Debt-to-Income Ratio (DTI)
Your debt-to-income ratio measures your existing debt obligations relative to your income.
- A lower DTI indicates that you have enough income to cover new loan payments.
- Lenders typically prefer a DTI below 40%.
Tip: If you already have a loan pay down existing debts before applying to improve your DTI ratio.
6. Documentation and Accuracy
Lenders require specific documents to verify your financial health and business legitimacy.
Common Documents:
- Business bank statements (3–6 months).
- Tax returns (personal and business).
- Profit and loss statements.
- Business licenses and registrations.
- Proof of ownership.
- Voided check and driver’s license for verification.
Tip: Before applying for a loan ensure all documents are accurate, up-to-date, and organized to avoid delays in processing.
7. Industry Risk
Some industries are considered higher risk than others, which can affect your loan approval.
- High-risk industries: Restaurants, retail, and construction.
- Low-risk industries: Professional services, healthcare, and technology.
Tip: If you’re in a high-risk industry, highlight your business’s stability and growth potential to reassure lenders.
8. Repayment History
Lenders will review your repayment history on existing loans or credit lines.
- Timely payments on previous loans improve your credibility.
- Late payments or defaults can hurt your chances of approval.
Tip: Maintain a strong repayment history by paying all bills and loans on time. If you have a default history or payment modification history with other lender you may not get approved for a loan. So if you already have a loan try pay on time and before signing a contact read the rate term carefully.
9. Personal and Business Financial Stability
Few lenders may assess both your personal and business financial stability.
- Personal Finances: Lenders may review your personal savings, investments, and debts.
- Business Finances: They’ll look at your business’s financial health, including cash reserves and liabilities.
Tip: Demonstrate financial stability by maintaining healthy savings and minimizing unnecessary expenses.
10. Legal and Compliance Issues
Lenders will check for any legal or compliance problems that could affect your business.
- Lawsuits or Liens: Outstanding legal issues can be a red flag.
- Regulatory Compliance: Ensure your business meets all industry regulations and licensing requirements.
Tip: Resolve any legal or compliance issues before applying for a loan.
Conclusion
Understanding what lenders look for in your application can help you prepare a stronger case for approval. Focus on maintaining a good credit score, demonstrating strong cash flow, and providing accurate documentation. If your business is new or has weaker financials, consider alternative lenders or revenue-based financing options. By addressing these key factors, you’ll increase your chances of securing the funding you need to grow your business.
Remember, every lender has different criteria, so research and choose the one that best aligns with your business’s needs and financial situation.