Most companies are looking to grow and expand. But the process of taking out a business loan isn’t an easy journey down a well-paved road.
More than a third of all small businesses who apply for a loan are rejected. And most don’t understand why. Here are five reasons why your business could be rejected for a loan and what your business can do to increase your chances of being approved.
1. Not supplying the correct documentation
Not submitting the correct documentation for the credit renewal will increase a company’s chance of getting rejected. Here are 5 types of documentation your business should submit:
– Annual financial statements
– Tax returns and previous year data
– Personal financial statement from the guarantor (who is typically the owner)
– Financial projections for the next 1-2 years, especially when an increase is needed
– Loan covenants per the loan agreement, which commonly means the agreement requires a % of loan repayments occur. This shows the financial health of the business and eliminates loan defaults or lump-sum repayments occurring at the last minute which can cause financial stress.
Having these documents prepared can increase your chances of being approved by lenders and ensure your line of credit is revolving per plan.
2. Lack of cash flow
Cash is necessary to maintain and grow a business. In fact, 2 of the top 5 reasons small businesses fail is because they either experience cash flow problems or they run out of cash.
Banks want to see that the business has enough money to make the loan payments along with other expenses that need to be paid like rent and payroll.
However, being profitable is not the same as being cash flow positive. It’s in a company’s best interest to be proactive in their cash flow management. Before a business considers taking out a loan, it should have a strong understanding of its cash inflows and outflows.
3. Lack of or poor credit
In 2017, 31 percent of businesses reported that they had been unable to obtain the funding they needed, preventing them from growing their business.
Business credit is important for small businesses, enabling a company to obtain the capital needed to grow, purchase additional inventory, hire employees, and cover other expenses necessary.
A company with a FICO score under 640 is likely to be rejected for a loan. A company can improve their credit score by paying bills on time, opening multiple credit cards, keep revolving debt low, and regularly monitoring their credit report.
4. Haven’t been in business long enough
Around 50 percent of businesses fail within the first five years. There are many reasons why businesses fail, which is way a bank wants to see a track record from a company to prove that they can pay back their loan.
Lenders want to see that a business has experience in the market, along with strong revenues. A business owner can use personal assets as collateral in order to secure cash for the company and have a better chance for approval.
5. Lack of collateral
Small and midsize businesses can be seen as a risk to many lenders. According to a 2014 Pepperdine survey, banks required collateral 100% of the time for loans of $1 million. Without secure assets such as equipment, inventory, or property as collateral, your business loan could be denied.
Similar to a business just entering the market, leveraging personal collateral can demonstrate that your company is dedicated while also reassuring the lender. Putting up personal assets, like a house or car, as collateral can lower the interest rate on the loan.
The process of taking out a business loan can be tedious and complicated for many small and midsize business owners. These are only 5 of the many things you might be required to provide when seeking a loan. If you need assistance in securing new lending or ensuring your line of credit is revolving per plan, contact us today.