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Women discussing business loans

Securing Financing for Your Small Business


Whether you're a startup or an established company with goals for expansion, there's a good chance that at some point you'll need additional capital for your business. Securing financing for your small business can help you purchase or upgrade equipment, build or renovate facilities, and invest in advertising, trade shows, and other important marketing activities.

But applying for a loan can be a stressful experience — one that becomes even more painful if your application is rejected. Business owners often make common mistakes on their applications, but many of these errors are easily rectified if you understand the process and know the requirements for a small business loan. To give your business the best chance at obtaining the financing it needs, review the information below.

What are your small business financing options?

Small business owners have a variety of creative financing options to keep their businesses well-funded and operating smoothly. Traditional lenders have expanded their application processes to approve business funding that would have been rejected in the past, and other nontraditional lenders are taking advantage of emerging technology to offer financing in ways that weren't prevalent even 15 to 20 years ago.

Business owners should research solutions that apply to their unique business and industry, but most small business financing options can be grouped into the following categories:

  1. Term loans
  2. SBA loans
  3. Business lines of credit
  4. Personal loans
  5. Merchant cash advances
  6. Equipment loans

1. Term loans

The traditional loan process involves securing a term loan from a bank. Funds from term loans are borrowed under very specific terms at the outset. The bank outlines in the loan contract the interest rate at which the funds are borrowed and the repayment schedule that the borrower must adhere to. Any deviation from the terms typically results in penalties and additional interest. A borrower who can no longer adhere to the terms may also have to refinance the loan under new terms or face serious damage to their business credit. Depending on the amount financed, loans can be either short-term or long-term.

Long-term loans

Long-term loans are a type of traditional term loan that is expected to be repaid over a year or longer; most long-term loans are generally issued for periods between three and 10 years. Long-term loans typically have lower interest rates than short-term loans, which is due to more stringent credit and approval requirements associated with long-term loans. These loans are more difficult to obtain, and the longer repayment schedule allows lenders to recoup a significant amount in interest, even at a lower interest rate. Borrowers can also secure more capital through a long-term loan, so they are ideal for well-established companies that need large amounts of capital for major projects or purchases.

Short-term loans

Short-term loans are another type of traditional term loans, but these are generally expected to be repaid within a year or less. Short-term loans have less stringent credit and income requirements, but these can come at a cost. Short-term loans have higher interest rates and less flexible repayment options. These loans are ideal for businesses that need a modest amount of capital quickly.

2. SBA loans

The Small Business Administration (SBA) is a great resource for aspiring and current business owners. If a company fails to qualify for traditional small business financing, other opportunities may be available through SBA loan programs. The agency's main role is as guarantor: A bank makes the loan, but the SBA guarantees payback of most of it, should the business fail. This guarantee makes it possible for banks to make riskier loans and provide financing to companies that would otherwise be unable to secure the necessary capital to fund business operations and expansion.

How do SBA loans work?

To facilitate this program, the SBA sets specific guidelines for the loan structure and terms provided by lender partners. By carefully following these guidelines, lenders are assured that the SBA will repay up to 85 percent of the loan if the borrower defaults. However, borrowers should be prepared to provide a substantial amount of documentation, sign a personal guarantee to repay the loan, and present some collateral to further secure the loan.

How do you get an SBA loan?

The SBA doesn't make loans directly, so the first step is to ask your bank if they work with the Small Business Administration. If not, you can research reputable lenders who are associated with the agency through the SBA District Offices link on the SBA website. The website also provides a helpful loan application checklist of all the items needed for a successful SBA loan application.

3. Business lines of credit

While traditionally structured loans may work for many businesses, some companies may be looking to secure funds that may not be needed immediately. If your business needs more flexible funding options, a business line of credit may be ideal. Business lines of credit are opened for a certain amount — $100,000, for example — but the business may draw upon those funds as needed. Once the line of credit is opened, the monthly payments and interest are determined based on how much of the open line of credit is used. This small business financing option is ideal for companies wishing to improve cash flow management or be better positioned to handle surprise expenses.

4. Personal loans

Personal loans are structured much like business loans and have similar interest rates and application processes. But using a personal loan to finance your business is a fairly nontraditional approach to securing the capital you need. Nevertheless, there are some circumstances where a personal loan can be helpful, namely if your business is relatively new and can't provide income history, or if your business credit is not well-established. In these cases, you may want to consider using your personal credit history to get your business off the ground. However, use this option with caution, as the loan will be tied to your personal credit history, which allows lenders to come after your personal assets if the business can't repay it.

5. Merchant cash advances

If your company has consistent, documented income and a large portion of your income comes from credit card transactions, you may want to consider a merchant cash advance. Under this arrangement, a financing company provides you the cash needed and takes a portion of your daily credit card sales in return. Merchant cash advances typically offer a quick, easy approval process and less stringent credit and documentation requirements. Repayment is also painless, since it's typically automated through your credit card processor. Unfortunately, these advances are usually limited to $250,000 or less, making them undesirable for businesses looking to fund large projects. Companies should also expect to trade the easier application requirements and quick approval process for higher loan fees and less flexibility for refinancing.

6. Equipment loans

Companies in a variety of industries will need to purchase, upgrade, or replace equipment at some point during the lifetime of their business. Heavy machinery in the construction or farming industries, large medical devices, restaurant ovens, or commercial vehicles can all cost well over $100,000, making these purchases a severe burden on company cash flow. Equipment loans can help companies secure the equipment needed to continue business operations without allocating all the funds necessary for the new equipment up front. Equipment loans typically require a 20 percent down payment, and the repayment terms vary depending on the amount financed.

Different lender options available for financing your small business

When looking for additional options as you try to secure financing for your business, consider the type of financial institutions you're applying to. Some banks don't lend to small companies. Others want a lengthy track record. Still others have a cumbersome application process and complicated requirements for approval. By carefully evaluating which lenders offer loans that best match your unique business needs, you may increase your chances of approval.

Financing through a big bank

According to a recent article in Forbes, big banks' approval rates for small business loans reached record highs of 27.3 percent in March 2019. But the types of loans granted by large banks may not be a good fit for every small company; larger banks tend to offer larger loans and, in some cases, may not even consider loans below $100,000. This may be much more than is needed by a small company looking for assistance with cash fluctuations. Yet, if an opportunity arises and a large amount of financing is needed, big banks provide solid financial backing and often become a trusted partner for growing companies.

Financing through institutional lenders

When shopping around for business financing, institutional lenders may not be the first funding source that comes to mind, but organizations such as insurance companies, hedge funds, and other non-bank lenders are increasing their small business loan volumes. Many lenders in this category offer attractive terms and longer payback periods than traditional banks.

Financing through small banks

For a more personalized approach to lending, try a local community bank. Often, the lending officers will take the time to get to know their clients personally. For smaller loans, small banks can offer attractive terms or products that bigger banks may not want to spend the time working on. Small banks and credit unions also offer other helpful services to small business owners, such as checking accounts, business credit cards, and merchant services. However, one potential drawback of small banks is that they are less able to handle increased risk compared to larger, more diversified lenders. As a result, small banks might have stricter credit standards.

Financing through SBA loans

The core SBA loan program is the 7(a) loan program. Through this program, the SBA will guarantee loans up to $5 million, with no minimum amount. SBA 7(a) loans can be used for all business purposes, including working capital, real estate, equipment, and inventory. There are also specialized programs available under 7(a), such as the CAPLines program, which is frequently used by construction companies, seasonal service businesses, and manufacturers. CAPLines provides financing for the seasonal buildup of inventory or materials needed by companies in these industries.

Financing through an internet marketplace

The internet has increasingly become a source of business funding. Peer-to-peer lenders pair private investors with small businesses in need of financing. Newer lending companies are assessing small business risk by creating their own models, which differ from the typical credit scoring models used by banks. Online lenders also tend to offer smaller loan amounts and more flexible repayment terms along with quicker decision times, faster loan closings, and better customer service throughout the loan process.

As with any lender, online lending is not without its risks. Since most online lending is processed without a face-to-face meeting, some lenders have taken advantage of this anonymity to provide fraudulent loans. Even legitimate online lenders often charge higher interest rates to businesses that are lured in by the quick, easy loan processing. With online lenders — as with banks — it's critical to read the fine print carefully to understand the process, fees, interest rates, any prepayment penalties, and liens on your business assets. To compare options, use a resource center for small business loans that allows you to see online lenders for various types of loans, special circumstances (veteran status, for example), or types of businesses.

4 questions to ask before applying for a business loan

Once you've found the ideal lender, the next step is getting approved for the financing you need. There are several steps you can take to present yourself as an ideal client and improve your chances of securing financing for your small business.

1. Have you checked your business credit report?

Just like consumer credit reports, your business credit profile will detail the credit history of your business. Credit profiles give lenders a way to gauge whether you'll be able to pay back your loan. Don't wait until the bank runs your credit report to view it — you should be aware of your credit standings and be prepared to explain any data to your bank. However, pulling your credit several times or shopping around for multiple loans can appear risky to potential lenders and decrease your business credit score. Build a healthy credit profile before you need it; then work to keep it healthy before approaching lenders.

2. Have you prepared and organized detailed financial records?

Be sure to gather and organize all financial documents required by your lender prior to applying. Not sure what you need? The SBA offers a helpful checklist for small business loan applicants. Some banks also require personal financial information when applying for a business loan, so cover all your bases and prepare those documents ahead of time. It's also important to double-check — and even triple-check — each of the documentation requirements before submitting them to your lender. Sending incomplete or inaccurate documentation will delay the process and may even hurt your odds of being approved.

Documentation requirements for a small business loan

Each lender has documentation requirements, and these vary depending on the type of loan. Generally, most lenders will require at least some of the following items:

  • Personal information worksheet (name, address, work history, Social Security number)
  • Personal credit report with FICO score
  • Personal income tax returns
  • Business formation documents (articles of incorporation, bylaws, and more)
  • Business income tax returns (if the business reports separately)
  • Business credit report
  • Bank account statements
  • Existing loan agreements
  • Business plan
  • Financial statements (income statement, balance sheet, and cash flow statement)
  • Profile of any assets to be used as collateral

3. Have you written a business plan?

Your bank will want to know where the money they're lending is going, so don't hold any details back when it comes to drafting up your plans, numbers, and goals. Treat the loan application process the same way you'd pitch your business to a client or investor: The more detailed and organized your business plan is, the more likely your application could be accepted.

4. Are you borrowing too much for your needs?

Many loan applications are rejected due to a lack of specificity regarding the amount sought and how it will be used. If you can demonstrate a genuine financial need and outline a solid plan for creating a return from investing the loan into your business, your lender could be more confident that they will be repaid, thus more likely to grant your loan request.

Additional considerations before finding a small business lender

Once you've covered the basic requirements for a small business loan — confirmed your credit profile, filled out all the necessary documentation and created a business plan — there are still a few details that, if attended to, could give you an even greater chance of securing financing for your small business.

Find a lender that already lends to companies like yours

Small business loans come in many different forms: bank loans with collateral, term loans without collateral, equipment financing, mortgages, loans guaranteed by the Small Business Administration, loans based on cash flow, and more. Lenders specialize in different types of loan products. It's important to decide which type of financing you need and then identify lenders who make those types of loans to businesses like yours. Very seldom do lenders approve loans that fall outside their area of expertise.

Apply for a loan before you need the money

All too often, businesses look to loans as a way of surviving a major cash flow crisis, but this is the worst time to seek approval for additional capital. Lenders see potential borrowers as a risk; their job is to minimize that risk as much as possible and avoid lending money to borrowers who are likely to default. A lender that makes a net profit of 2 percent on a loan must successfully lend $5 million to recoup the loss of a single $100,000 loan that isn't paid back.

Remember that you are just as important as the application

A perfect application doesn't guarantee that your loan will be approved and funded. There's an intangible factor that's important: the lender's impression of you. Lending money, even with collateral, is a risky business. Lenders are betting on the business owner's character, work ethic, expertise, and commitment to ensure that the funds are used as intended and that the loan is paid back on schedule. When you speak with the lender, whether in person or over the phone, always treat it like a job interview and make the best impression you can.

Businesses have more financing options available than ever before, but getting a loan isn't always easy. A small business financing relationship is about more than just passing money back and forth. Done right, it can lead to increased business volume and a trusted alliance, so be sure to choose wisely and think long-term. Startup services can help you identify the best financing solutions to keep your small business goals on track.

This website contains articles posted for informational and educational value. Paychex is not responsible for information contained within any of these materials. Any opinions expressed within materials are not necessarily the opinion of, or supported by, Paychex. The information in these materials should not be considered legal or accounting advice, and it should not substitute for legal, accounting, and other professional advice where the facts and circumstances warrant.