Applying for a loan under any circumstances is rarely fun. With all the paperwork and loan requirements, it probably ranks somewhere between visiting the dentist and filing your taxes.
For small business owners in need of cash to keep the doors open and the lights on, the process of qualifying for a loan can be even more nerve-wracking. But there are ways to make obtaining funding for your business a little less painful, and to perhaps increase your odds of success as well, according to small business experts.
"The most important piece of advice is to apply for a loan before you need it," says Lou Leyes, a business coach and financial planner with Susquehanna SCORE, which provides free and confidential business mentoring. "People often wait until the last minute to get a loan, and that's the worst time to do it. Do it as soon as possible."
While it may sound somewhat counterintuitive to ask for money before you actually need it, doing so will make the process much less stressful—and can improve your odds of meeting all the small business loan requirements.
That's just one of the many pieces of advice Leyes and other financial advisors have to offer. Here's a look at some of the other tips they say will make the process a little bit less fraught with stress and pitfalls.
1. Familiarize yourself with 'The Five Cs.'
This is perhaps the most basic first step in applying for a small business loan. The five Cs are essentially what the bank is looking at when reviewing any loan request—what it considers the most critical small business loan requirements.
More specifically, the five Cs are: character, credit score, capacity, capital, and collateral.
When it comes to credit score, for instance, lenders have a certain threshold they're not willing to go below. And they will view your business credit score (your personal credit score is often taken into consideration, too) as a measure of your willingness and commitment to meet financial obligations.
Capacity, meanwhile, refers to a company's monthly or annual revenues, and capital pertains to cash-on-hand. The bottom line is, you should familiarize yourself with all the criteria banks will use to evaluate your application, and do what you can to put your best foot forward in each category.
"It's important for a borrower to understand how they size up, where any weaknesses are, and if there's anything that needs to be taken care of, corrected, or fixed before speaking with a lender," says Robert Mineo, financing assistance program director for the Small Business Development Center at Lehigh University's College of Business & Economics.
2. Develop a solid business plan.
Your business plan is like your road map, but with even more detail. It's a formal document that lays out your business goals, why they're attainable, and your plans for reaching those goals. Banks will want to see this document as part of the lending application. So make sure you've got a solid, professional, well-thought-out plan to present.
"If you're a brand-new business owner with a solid business plan, lenders will often lend money based on that business plan," says Leyes.
3. Obtain guidance from a Small Business Development Center.
A service of the U.S. Small Business Administration, there are Small Business Development Centers (SBDCs) located throughout the United States. The mission of these centers is to help entrepreneurs realize the dream of business ownership and to help existing small businesses remain competitive.
For no cost, SBDCs will help small business owners with such things as identifying the right type of funding for a project, explaining the best strategies for navigating the financing process, and presenting a solid loan proposal, says Mineo.
4. Approach your meeting with a potential lender as if it's a job interview or a first date.
What does this mean exactly? Once again, it boils down to putting your best foot forward.
When you apply for a business loan, wear what you would to a job interview, says Leyes. You want to appear professional.
To this, Mineo adds the dating analogy. "The goal is to see if both parties are interested. If the project—whether it's a start-up or expansion—appears to be a good fit, the lender will provide information on next steps and what they require for the final application," Mineo explains. "The borrower should then organize information and complete the required documentation."
5. Be prepared to provide collateral.
As mentioned earlier, collateral is a key issue. Depending on the size of the loan, your credit history, and other variables, a lender may seek some collateral to back your loan—meaning an asset they can repossess if you default on the loan. (Auto loans and mortgages are two common examples of loans secured by collateral—namely, your car and your home.)
As for what kind of collateral people should have exactly—there's not really a great answer for that question, according to Mineo. It all depends on the lender, the type of financing being sought, and other factors. But in general, collateral is typically a valuable asset such as a home, a car, or commercial property.
More importantly, know this fact: "It's extremely difficult to obtain financing without any personal or business assets available," Mineo says.
A Few Final Bits of Advice
If you're considering opening a business, begin saving money immediately, socking away as much as you can. Not only will the cash help extend your start-up runway or come in handy during an emergency—it will also improve your chances of obtaining a loan when the time comes, says Leyes.
"Start improving your personal cash flow right away, and cut every expense you can in your personal life, so that you're sitting on a ton of cash," advises Leyes.
Also consider applying for a loan from local banks first to increase your odds of success, Leyes adds. "I work with the local banks in my area, and the relationships are easier to develop and maintain," he explains. "And those relationships will take you a long way when things aren't going well."
Finally, don't be discouraged by rejection. Rather, use the experience as an opportunity to find out what exactly the lender found objectionable, so that you can fix the problem and make your application stronger next time around.
"Ask questions as to why you're getting rejected, understand what their criteria was and why they didn't think the loan was a good risk for them," concludes Leyes.