Running a successful business does not only require keen business acumen, but also an uninterrupted and steady cash flow to expand. This is exactly where small business loans are incredibly helpful for newer as well as steady businesses looking to grow and progress. However, similar to all financial offerings, there are certain aspects such as eligibility criteria, credit score, interest rate, repayment tenure, and prepayment charges that need to be carefully understood about small business loans.
Things to know about before applying for a small business loan
Here are some of the important things you need to know about small business loans before applying
- Know your credit rating
Your credit rating has a huge impact on your chances of getting loan approval. Therefore, even before you apply for a loan, you should get your credit report and check your credit score. The higher your credit score, the better are your chances of getting loan approval with favorable interest rates and repayment terms and conditions. You can easily get your credit report by contacting the credit bureau.
- Read the fine print
While most lenders are transparent in their dealings, you still need to read the fine print before signing on the dotted line. This way you will be aware of any hidden charges such as processing fees or application fees that can inflate the overall cost of the loan later in the tenure. Moreover, you can acquaint yourself with the fines and penalties involved in case you default on your installment or any other such discrepancy.
- Compare interest rates
With the presence of numerous lenders, banks and other financial institutions, it’s favorable to research and compare interest rates offered by multiple lenders. This way you can opt for the one that offers interest rates that you can easily afford to pay in a timely manner, without disturbing your businesses’ cash flow or capital. Additionally, if you have a high credit rating, there are lenders that offer exceptional and highly promising deals that comprise instant approval, low-interest rates, and waiver on prepayment charges.
- Have a business plan
Lenders offering small business loans will ask you the purpose of the loan, the financial standing of your business, and your business plan for the foreseeable future. This is done to establish your creditworthiness and repayment capacity. Therefore, to ensure a speedy and guaranteed approval, draw a concrete and comprehensive business plan before applying for a small business loan.
- Manage your existing debts
As mentioned before, your credit rating has a huge impact on your chances of securing a loan. Your credit rating is calculated based on your current debt, timely repayment of existing debts, and your debt to income ratio. Therefore, before you apply for a small business loan, clear your existing credit card and other debts to ensure that your credit rating is not negatively affected. This will increase your creditworthiness and increase your chances of securing a small business loan at the earliest.
- Check necessary documentation
Once you have zeroed in on a lender, check the necessary documentation you will need to submit throughout the loan process. Ensure that you have these documents in place before, so that you can undergo a speedy and fairly easy application process.
- Conduct a valuation on your collateral
While you can always opt for collateral-free small business loans, they incur high interest rates. Therefore, opt for a secured loan, but conduct a valuation of your collateral to ensure that you are aware of its market standing and can negotiate a better loan deal with the lender.
- Have equity in your business
Approval of loans comes down to convincing the lender that you are creditworthy and have the capacity to repay the loan on time. Having equity in your own business assures lenders that you will not abandon the business as you are equally invested in it.
Questions lenders can ask on applying for small business loans
Apart from the obvious questions regarding your repayment capacity, lenders can supposedly ask the following questions. Continue reading so that you can prepare your answers well in advance before applying for a small business loan.
- Question 1: Do you have a business plan? What is it?
Small business loan lenders have an eligibility criteria that includes your business plan for the foreseeable future is a detrimental factor. Therefore, ensure that you have a detailed business plan drawn out to gain speedy loan approval. In addition to having a primary business plan, also draw necessary contingency schemes that will reassure the lender of your creditworthiness and business acumen increasing your chances of loan approval.
- Question 2: What is the amount of loan you need?
This is an obvious question and needs to be answered after careful consideration of your current capital, repayment capacity, market predictions, and cash flow. Do not opt for a high loan amount beyond your repayment capacity, which may stress your financial standing and lead to defaulting on your installments. Duly calculate the amount you need, considering all necessary factors such as cash flow and capital requirements. This will not only ensure easy repayment of the loan but also showcases your entrepreneurial maturity and fiscal awareness to the lender. Also, you need to put forth a plan wherein you showcase the allocation of these funds towards different stages of your business development plan. This will improve your chances of getting loan approval on much favorable terms.
- Question 3: What are your credit score and business financials?
You need to furnish details of your business’ lending history when you apply for a small business loan with a lender. This will include details of your credit card accounts, investment accounts, past and current loans, business expenses, and any other debt that you have. They will anyway look at your credit report and get detailed info on your financial standings. As mentioned before, your credit report helps lenders know your past repayment behavior, creditworthiness, and repayment capacity. Your credit report has a telling effect on your loan approval, making it an important parameter that will influence the lenders’ decision.
How to get a collateral-free small business loan?
Since the financial crisis of 2008, there are far more financial institutions apart from banks that offer small business loans. However, lenders only prefer to give loans to a business that they feel are creditworthy. Moreover, almost every big bank asks for collateral before granting the loan. However, strict eligibility criteria for small business loans set by the lending agencies make it difficult for small businesses with only fewer assets to procure small business loans. Leveraging this situation, a number of NBFCs offer collateral-free small business loans over the internet.
As a result, today, almost every business, irrespective of its structural or capital size, has got access to an option of collateral-free financing. Though NBFCs offer collateral-free small business loans with lenient eligibility criteria over the internet via a speedy approval and application process, they usually charge a higher interest rate. However, they offer other advantages such as speedy approval, instant access to the loan amount, and minimal documentation. Here are things to consider before applying for unsecured small business loans.
- Examine your cash flow statements
Before granting the loan, non-banking agencies, similar to traditional lending institutes, will examine your credit score. Similarly, you need to furnish documentation proof of your businesses’ annual revenue and future projection. For a creditworthy borrower, the APR (Annual Percentage Rate) might be 10% and might go up to triple-digit depending on the amount of loan and the lender. So, before you head to a lender for a collateral-free loan, you calculate and double-check your projections for revenues and cash flow over the coming months. Also, check your businesses’ financial statements to ensure that you have sufficient savings. This will ensure that you repay the loan on time, without defaulting on any installments. No matter what, ensure that you do not default on your loan repayment as this will severely affect your credit score and make you ineligible for any loan in the future.
- Work on your credit score
You can get an unsecured loan even if you have a bad credit report; however, in this case, you’ll have to bear a higher rate of interest. So, improve your credit score and the best way to do so is by reducing your credit utilization ratio (CUR). CUR contributes 35% to your credit score and is a reflection of the amount of debt that you are currently holding as opposed to the available credit. In case your debt is more than 25% of the credit score, it will negatively impact your credit score. To improve your CUR, pay all your current debts as fast as you can in a timely manner. Additionally, ensure that there are no errors in your credit report. If any, contact the credit bureau and rectify it immediately before applying for a small business loan.
- Draw business plan
Similar to secured business loans, even here you need to have a solid business plan. The business plan should include the primary purpose of your business, growth strategy, revenue stream, and future prospects. In addition to it all, there should be detailed cash flow projections and financial statements. Furthermore, clearly establish the reason for applying for a business loan. A lot of non-banking lending agencies do not ask for your business plan upfront. However, you will still need to showcase a good and steady revenue stream over the past years. In case you opt for a P2P lender, you will need to ensure that you convince the lender of your creditworthiness.
- Research lenders
As discussed, the functioning of the non-banking lenders happens mostly online. Though the process of loan approval and disbursement is faster, what they offer you might vary from one lender to another. There are a few lenders who offer a loan at a fixed rate of interest, while there will be others who offer small business loans at a variable rate of interest. You can also reach out to lenders that offer a line of credit. It is best to refrain from the cash advance financing, as this might inflate your overall loan cost.
- Ask about prepayment charges
You need to be aware of the prepayment fee because if you come into surplus cash and decide to repay the loan earlier, you may incur a heavy prepayment charge. Though availing small business loans, particularly an unsecured one, from non-banking agencies might not be difficult, there might be a heavy cost involved, when it comes to prepayment. Therefore, ensure that you are aware of prepayment costs and choose a lender that offers minimum prepayment charges.
- Consider other factors
Though many non-banking lenders consider your business revenue or credit score, their eligibility criteria differ. For instance, there may be lenders that expect you to show revenue that is about USD 100,000 in a year, while others might just require a revenue of USD 50,000 on a half-yearly basis. Moreover, there might be variations in the credit score requirements, prepayment charges, and processing fees. Additionally, ensure that the lender you choose, reports your timely repayment of the sanction to the credit bureau. This will ensure that your credit score is greatly increased, which in turn, will improve your creditworthiness and make you eligible for higher loans and help you get better loan terms in the future.