The 19 Business Loan Requirements You Need to Know
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Some well-funded entrepreneurs have been able to run their businesses successfully without relying on a loan. However, for others, getting financing for their small business is a game-changer.
Most small businesses borrow money for four reasons: to start a business, purchase inventory, expand operations or strengthen their financial position, according to the U.S. Small Business Administration. These firms choose different types of financing depending on the intended purpose. Many rely on personal savings or family contributions — the most common source of capital for small firms — to finance a business expansion.
If a business owner can’t rely on personal savings or family contributions to expand or make critical purchases for the business’s survival, they may turn to lending institutions. But even that can be challenging. Since the 2008 financial crisis, banks have tightened their requirements for lending products, which makes it tougher for small businesses to qualify. As a result, alternative lenders have populated the field, offering more lenient policies that include faster approval and funding times.
Documentation requirements vary by lender. Some online alternative lenders may overlook a poor credit rating if your business consistently makes money, while lenders offering SBA-backed loans require detailed documentation. Not sure where to start? Here’s a checklist of items that are generally required for most small business loans, so you can be as prepared as possible for the application process.
1. Bank statements.
Most lenders want to see the last three months’ worth of your business bank statements. Since these statements summarize all transactions on your account, they give lenders an idea of your annual revenue and expenses. There are alternative small business lenders that will overlook a very low credit score as long as a company’s bank statements show the business is profitable and able to repay the loan.
2. Business debts.
Does your company already owe money? Lenders will want to know if you have any business debt and will request a detailed list of your debts including loans, leases and contracts. Creating a business debt schedule will provide lenders with the important information they need about your current liabilities.
3. Business credit score.
Along with considering your personal credit score, lenders also check your business’s creditworthiness. The three common business credit scores and reporting agencies are FICO Small Business Scoring Service (SBSS), Dun & Bradstreet PAYDEX and Intelliscore PlusSM from Experian. The FICO SBSS ranges from 0 to 300 and is based on your personal and business credit history along with other financial information such as your business’s age, number of employees and financial data. Even though the SBA sets the minimum FICO SBSS score at 140, businesses typically set it at 160.
The Dun & Bradstreet PAYDEX score ranges from 0 to 100 and is based on how promptly you’ve paid your bills in the past. Business scores of 80 or above signify a low risk of late payments, those ranging from 50 to 79 signifies a medium risk, and a score below 49 signifies a high risk of late payments. The PAYDEX score is typically used by vendors and suppliers to evaluate what trade terms to extend to your business.
Intelliscore PlusSM from Experian scores range from 0 to 100 and predict the likelihood of serious delinquency in the next 12 months. Business scores ranging from 76 to 100 are part considered low-risk, scores ranging from 11 to 75 are in varying levels of medium-risk, while scores 10 or less are in the fifth risk class and are considered high-risk. Lenders generally use Intelliscore PlusSM from Experian to evaluate your business for loans and lines of credit.
4. Business plan.
Most lenders want to know what your business’s goals are and how you plan to achieve them. That’s what a solid business plan will outline. According to the SBA, business plans fall into one of two common categories: traditional or lean startup. Most traditional business plans are very detail-oriented and follow the nine-part business plan recommended by the SBA:
- Create plan
- Executive summary
- Company description
- Market analysis
- Organization and management structure
- Service and/or product line
- Marketing and sales
- Funding request
- Financial projections
Lean startup business plans usually stick to one page and summarize the most important elements of your plan. You can always ask the lender how detailed they prefer your plan to be.
Not every small business lender requires borrowers to have a down payment. But for those that do, the amount required varies. Collateral-backed loans lessens the risk to lenders and can include cash, real property or inventory. For example, depending on loan size, SBA-backed loans generally require borrowers to put down 10 to 20 percent of the loan’s value, while hard money loans typically are secured by real estate.
6. Income tax returns.
Lenders generally want to see your personal and business federal tax returns from the last two to three years. These returns show lenders that your business’s revenue does exceed its expenses. The returns can also show that you have the means to repay the loan.
7. Industry code.
Though it’s rare, one reason an entrepreneur may get rejected for a small business loan is for incorrectly identifying their business’s industry. Selecting a six-digit North American Industry Classification System (NAICS) or four-digit Standard Industrial Classification (SIC) code based on your company’s industry lets lenders, creditors and vendors know what industry your business belongs in. Go to www.naics.com and www.siccode.com to do a single-keyword search such as “restaurant” or “consulting” to select the appropriate code for your business.
8. Legal contracts and agreements.
If your business has any legal contracts such as partnership agreements, contracts with major suppliers or franchise agreements, lenders want to know about them. Why? Because these dealings could affect your company’s financial standing and your ability to meet your loan obligations. Make sure to gather all documentation related to your contracts and agreements during the application process.
9. Loan amount.
Know the amount you’re seeking, why you’re seeking it and the ways you plan to use it. Is the amount realistic with your business needs? Are you confident in your ability to repay the loan? These are the types of questions you need to ask yourself before stepping foot in a lending institution because a loan officer may ask as well.
10. Ownership and affiliations.
Do you have a stake in another business aside from the one you’re seeking to finance? If so, you’ll need to provide documentation about your ownership or any affiliation you have with that or any other businesses. Lenders want to know whether getting a loan would spread you too thin.
11. Personal credit score.
Your personal FICO score can help indicate the likelihood of your company paying its debts. Underwriters will factor your score when considering whether to approve your application and at what interest rate and terms. A credit score of 670 and above is considered good. If your credit is fair or poor, you may want to spend some time improving your credit before applying for a loan.
12. Profit and loss statements.
Also known as an income statement, the profit and loss (P&L) statement captures a business’s revenues, costs and expenses during a specified time period. The statement allows lenders to assess your financial situation and determine whether your business can handle a debt commitment. Lenders usually want to see P&L statements from the last two years. You can download a free income statement template online.
13. Proof of applicant’s identity.
Banks are required to follow very strict guidelines when it comes to verifying your identity. Government-issued photo identification such as a driver’s license, state ID or passport are adequate for the application process. Depending on their policies, some lenders may require two forms of ID, along with your birth certificate.
14. Proof of business ownership.
A current business license, a business tax return, articles of incorporation or articles of partnership are among the documents you may need to show that you own or co-own your company.
15. Proof of commercial ownership or lease.
Whether you rent or own the location where you operate your business, lenders likely want to see proof. They want to see if you have a long-term commitment to operations and what other financial obligations you have in addition to the funds you’re requesting.
16. Purpose of the loan.
Most lenders want an outline of how you plan on using the funding you seek. Will you use it for working capital, payroll, equipment or to purchase inventory? Some institutions offer different types of loan products that could serve your intended purpose.
17. Sales tax returns.
Sales tax is governed on the state level and you need to check with your state government to see the rules for filing monthly, quarterly or annually. Filing your sales tax returns in a timely manner not only keeps you in good standing with your state’s Department of Revenue, but ready when lenders request to see your sales tax returns for the last three years.
18. Time in business.
Most lenders require that businesses operate for at least a year, in many cases two, to qualify for a business loan. The longer you’re in business, the more likely you will be approved for a loan because the longevity shows you have a track record of success. There aren’t many lending options available for startups outside of some SBA loan products and private lending. The latter typically comes with higher interest rates and fees along with shorter loan terms.
19. Type of entity.
How you structure your business affects many factors from filing taxes to personal liability. A sole proprietorship, partnership, corporation and S corporation are the most common forms of business entities. A Limited Liability Company (LLC), which protects you from personal liability in most instances, is another business structure allowed by state statute.