How to Get a Small Business LoanDepending on the state of the national and local economy, getting a small business loan can be a challenge. During periods of tight credit and tough bank lending standards, business loan acquisitions are often difficult, expensive and time-consuming. The best approach during any type of economic cycle is to carefully assess the purpose of the financing and tailor your approach to meet the needs of your business and advance your business goals.
Types of Small Business LoansThe costs of borrowing depend on the available business loan rates. Applicants with strong credit ratings and strong financial statements get the best rates.
Secured Small Business LoansThis type of loan uses the borrower's personal and business assets to guarantee repayment. The lender can charge a lower interest rate than is possible with an unsecured loan because of a lower risk of loss. In the event of default, the lender takes the security.
Unsecured Business LoansUnsecured business loans are the solutions that many borrowers need when they do not have credit scores, assets and business financials that meet bank standards. Online lenders can look at the entire picture, including experience, evidence of character and the nature of the business, and find a basis to balance risk, interest rates and terms.
Startup Business LoansSome lenders will issue personal business loans for startups, and these are valuable sources of capital when a business has no record and no current business income. Experts urge borrowers to limit the use of personal business loans to small and specific business needs, such as money for things like buying equipment or early-stage production. Startup loans are a special type of financing, and online lenders that offer these loans can work with borrowers with varying credit ratings and assets.
Business GrantsWhen reviewing how to get a small business loan, you should think broadly and include funds that do not need repayment. Business grants can be an excellent opportunity for any company, and they are particularly useful for startups and small businesses seeking to expand. Business grants often promote a specific set of public policy objectives. Some grants seek to promote technology and innovation while others focus on increasing economic activity and creating jobs.
Self-financingUsing self-contained resources should be the first consideration when deciding whether to get a business loan. Self-financing is important, particularly for owners with weak credit scores and few assets. Getting business loans with a troubled credit history, a low FICO score and little or no financial track record is difficult at any stage of the economic cycle. Lenders will require security or, if unsecured, will charge rates that add significant sums to the costs of borrowing. Many businesses have grown from the maximum that owner could gather from their personal resources.
Sources of Business LoansBanks and commercial lenders are standard sources for business loans, but in today's marketplace, small business owners have a wide range of choices for business funding.
Friends and FamilyFriends and family can become lenders and provide a business loan. The loan may include a document with repayment terms, interest and any security on which the borrower and lenders agree. Some small business owners welcome the idea of working with friends and family because they value their involvement in the business. However, other business owners would prefer to have a creditor relationship without any personal ties.
Bank LoansBanks have strict standards for making loans, and they are geared toward established companies with assets, business credit and multiple years of audited financial statements. Major banks have set some funds aside for small business lending. The process is not fast, and it requires dedication to details and providing accurate information. Personal finances are a critical part of the bank evaluation of an application. Finance experts say that in the bank loan review process, the management of your personal finances reflects the way you would handle your business finances.
Credit Cards and Credit LinesCredit cards can provide loan funds in the same way that a line of credit operates to fill gaps between billing and payment. Credit cards require solid personal and business credit, and the use of credit cards can build creditworthiness. However, credit cards can be a seductive trap if not used wisely. They offer low payments that do not reduce the principal and then reduce the amount of available credit.
A credit line is a type of loan that offers flexibility and controllable costs. Rather than taking a loan in a lump sum and then making the monthly payments, you can get a line of credit and pay a percentage of the amount used. The advantage is that the line of credit is an asset, and it does not have a cost nor does it add debt until it's used.
Accounts Receivable FactoringYou may be able to use current accounts to generate loans without giving up ownership. Accounts receivable financing is a key to keeping control of a young business without taking on debt or sharing ownership with investors. Factoring or accounts receivable financing is a source of funds for a business that has some current income.
A small business can extend the reach of its accounts receivable by borrowing against them. You can factor the sums due in the near future into cash on hand today. Factors are firms that will advance funds for an account receivable by offering a percentage of the face value. Your business will lose the costs of factoring but gain time and an immediate infusion of cash. Factoring is not a recommended long-term practice because it tends to dilute earnings. It does provide immediate cash, and it does not create debt. Instead of factoring its accounts receivable, a small business might gain more by offering its customers a discount for early payment and incentives for prompt payment of invoices.
The Small Business AdministrationThe federal government operates a wide range of programs to assist small businesses through the U.S. Small Business Administration. Small business loans do not usually come directly from the Small Business Administration, and they do not compete with banks, lenders or the open market for business finance. The SBA works through private banks, lenders and state and local governments to deliver financial assistance primarily in the form of grants to public bodies and loan guarantees to private lenders.
The SBA helps banks that wish to increase lending activity with small businesses by providing loan guarantees. The SBA reduces the risk of loss to the lender and provides a business basis for banks to allocate greater amounts of funds for small business lending. The Section 7(a) program is flexible and supports lending for any valid business purpose. If the business can qualify as serving an under-served region, then the Section 7(a) program offers priority approval and more favorable terms for down payment, repayment and loan amounts than for standard loans.
MicroloansThe SBA provides grants and credit guarantees to local institutions that carry out a program of small loans to small businesses. Called Microloans, this program has a loan cap of $50,000 and a typical loan around $13,000. The virtue of the program is that it is a fast turnaround loan that does not require good credit or assets. Assisting small, new and startup businesses, the Microloan program seeks to help with immediate financing and building creditworthiness. The limit on the size of the loan may impede some uses, but the development of a credit reference and a track record are excellent building blocks for future financing.
The local grantee is a community-based institution dedicated to community or regional economic development. The grantee appoints one or more intermediary lenders to add matching funds and make microloans. The intermediary decides on loan applications, and it services the loans.
- It must be a for-profit business.
- It must have a lawful purpose and engage in lawful activities.
- The owner must invest equity in the business.
- It must operate and have a base in the United States or its territories.
- The business must have applied for and been rejected for private financing. The rule requires two rejections before becoming eligible for SBA assistance.
EDA Revolving Loan FundThe Economic Development Administration has a program for small business loans through the Revolving Loan Fund. Available to firms with challenged credit and limited resources, the RLF focuses on generating economic activity in areas with low economic activity. The program operates through state and regional RLF grantees.
Angel InvestorsAngel investors like family and friends may offer favorable terms for their investment and participation. Angel investors sometimes take a hands-off approach to the project, but they typically can take an equity position or some kind of note that converts to cash or stocks at a later time. Finding and agreeing with an angel investor may be a matter of chance and might not fit a situation in which a business has an urgent need for financing.
Pledge Future EarningsA recent development in business financing is the use of a pledge of future earnings to get business loans. Some lenders will accept the potential for future earnings as an asset when making loan decisions. Particularly useful for educated or trained business owners, the potential for high future earnings is a bankable asset.
Making the Most of Small Business LoansObtaining a loan and using the funds wisely takes a great deal of skill and patience.
Businesses Must Borrow CarefullyBusiness loans involve comparison shopping for the best deal just as you might do to buy a car. You should weigh availability of funds against the costs of borrowing, including business loan rates. Small business loans are more expensive than standard bank loans, and the costs can affect long-term profitability. If possible, the best way to get funds is from a non-debt source like business grants or a low-cost source of small business loans like the SBA Microloan program.
Businesses Should Use Credit ConstructivelyWhen considering how to get a small business loan, business owners must consider the benefits of debt as a tool. Then, the constructive use of loans can include borrowing when the need is not urgent. When business grows and cash flow is abundant, you can borrow and repay the loan in a timely manner. The constructive use of business loans can increase the business credit rating and prepare for opportunities that may occur.
Business credit and loans are important assets for growth. Small businesses exist in a global marketplace and can take advantage of business opportunities nearly anywhere within the reach of the internet. Business borrowing and credit capacity enables a business response to opportunities, and it is part of the essential tools for adding new customers and developing new markets.