Business loans are an important startup financing option for entrepreneurs. Unfortunately, the eligibility criteria of traditional banks and credit unions can make it difficult to obtain a business loan if you haven’t established strong business credit. Here’s how to navigate the different types of business funding and how to improve your chances of getting approved.
What you need to know
- Business loans come in two main types: term loans and lines of credit.
- Your business loan documentation should include a business plan, financial reports, personal information, and business checking account statements.
- Applying for venture capital or government grants may be the solution if you don’t yet meet eligibility requirements.
What are the types of startup business loans?
Business loans come in two main types. The first is the fixed-interest business term loan, a lump sum that you repay in equal monthly installments. The second is the business line of credit, a pool of available funds you can draw from and repay with a variable interest rate for each draw.
Business loans and lines of credit differ from funding sources like venture capital, government grants, or crowdfunding because those sources don’t require repayment.
Am I eligible for a business loan?
Obtaining startup funding can be difficult, as lenders like to see a strong business credit score, an established credit history, and a few years of financial reports. A strong personal FICO® score can help, but the first thing you’ll need is get your business credit score.
The major business credit bureaus—Experian, Equifax, and Dun & Bradstreet—compile credit reports for small businesses. Register your business with these bureaus and request your reports to assess your company’s creditworthiness before applying for small business financing.
If you don’t yet meet the eligibility requirements to apply for a term loan or line of credit, you’ll need to get funding from other sources. Try applying for different business-related loans instead. You can pre-screen your business by applying for business credit cards or a business line of credit from your bank, or apply for a smaller, short-term loan and pay it back early to establish some credit history.
How to prepare for a business loan
While business loan requirements can vary, your documentation should include:
- A business plan
- Financial reports
- Personal identification and financial information
- Business credit reports from the major bureaus
- Business checking account statements going as far back as possible
Research the type of loan you’re applying for and make a strong case in your business plan for which type of loan you need to meet your goals. Lenders may offer financial products specific to your industry or corporate structure. You should also ask the lender if they require any additional documentation.
How to choose a business loan lender
The best place to start applying for business loans is the banking platform that hosts your business checking account. Since you already have history with them, they already have a sense of their risk in lending to you, so they might process your application faster.
While traditional banks and credit unions offer a wide range of business loan products, they typically serve established businesses rather than startups. Your chances of getting approved for a startup loan may be higher with digital banking providers, who often have more relaxed lending criteria and in some cases can take on more risk because they have lower overhead.
As a startup, you may also qualify for loans from the Small Business Administration (SBA).
The startup loan application process
Business loan application processes vary by lender. Most begin with a pre-qualification phase in which you enter your basic business and personal financial information. The lender will then make a soft inquiry into your credit history, meaning there’s no impact to your credit score. Based on this soft inquiry, the lender will determine whether you meet their loan eligibility criteria. The lender will then perform their risk analysis to determine whether you’re approved. For some lenders this includes a hard credit inquiry.
The best way to avoid delays or pitfalls in the application process is to be truthful and upfront in your loan application.
How to understand and negotiate loan terms
You as the borrower can always negotiate better terms if you have a strong personal and/or business credit profile, because these indicate that you’re responsible with loans. Points of a loan agreement that can be negotiated include:
- Loan amount
- Loan term
- Interest rate(s)
- Repayment schedule
- Fees
Note that changing these can affect the total cost. For example, if you change from a three-year term to a five-year term, you’ll have lower monthly payments, but pay higher total interest.
Tips for increasing your loan approval chances
Use the following tips to make your business more appealing to lenders:
- Maintain good personal and business credit scores
- Maintain business revenue and financial health
- Gather all the documents you need before starting your application
- Present a clear business plan to the lender
What to do if your loan application is denied
Your business loan application can be denied for any number of reasons. Startups are often turned down because they haven’t been in business long enough. Seek alternative financing like venture capital or government grants and maintain your business’s financial health until you qualify.
Get a business loan or line of credit that fits your needs.
