Business Bank Loans:
Advantages and Disadvantages.

Plus (BONUS) Steps on How to Qualify for a Business Loan.

Are you considering getting a business bank loan? If the answer is yes, then don’t do anything before reading this article. 

In this expert-written guide, you’ll learn everything you need to know about what bank loans are, who they are suitable for and what the advantages and disadvantages are so that you can decide whether it’s the best choice for you…

So, get comfortable, grab a cuppa and let’s dive straight in..

What is a loan?

A loan is a specific amount of money that can be borrowed over a set time scale against a repayment schedule. 

Of course, when setting a repayment figure, there are several things to take into consideration – such as the duration and size of the amount borrowed together with what rate of interest will be applied.

Generally, loans are suitable for:
  • Start-up capital,
  • Payment for assets, such as computers and vehicles,
  • Situations, where the amount of money required, will not change.

The price and terms of loans will differ between each provider, as it will be a reflection of both the amount and the risk to the bank that’s providing the finance. You may find that the terms and pricing may be negotiable for bigger sums. 

Banks loan money to businesses providing they can receive an adequate return for the money borrowed – which covers the administrative costs and reflects the associated risk of the business defaults. If your bank has a good understanding of how your business works, then this should help them advise what is the most suitable product for you and your business.

There are various types of bank loans, which include:

Fixed asset loans

There are for purchasing assets whereby the asset is actually collateral;

Working capital loans

For emergency or short-notice situations;

Hire purchase loans

These are perfect for the purchase of assets over a long period of time, such as machinery or vehicles;

Factoring loans

These are loans based on outstanding money owed to the business by customers.

Term loan advantages:

  • The loan is available throughout its term, which is generally between 3 and 10 years – providing that the conditions have not been breached and is not payable upon demand.
  • Interest must be paid on the loan; however, the lender is not entitled to a share of the company or a percentage of the profits.
  • At the start of the loan, an arrangement fee may be applicable; however, this is not for the duration of the life of the loan. An annual renewal fee might be payable to on-demand loans.
  • It is possible to fix the interest rates for the entire term of the loan –this means that the repayment amount will be the same each month.
  • Loans can be tied-in over the lifetime of any equipment purchased that the money has been borrowed for.
  • When the term of the loan begins, sometimes it is possible to arrange a ‘repayment holiday’. This means that interest will only be paid for a set amount of time while the capital repayments are frozen.

Loan disadvantages:

  • There isn’t much flexibility around loans, and you could end up paying interest on money that isn’t being used.
  • If you decide to repay the loan before its end date, then a penalty could apply – more so if the interest rate is fixed.
  • If customers don’t pay promptly, then making monthly payments could become an issue.
  • Bigger loans will come with specific conditions, covenants or terms which must be adhered to, for example providing quarterly management information.
  • Some loans are secured against either personal possessions (such as your home) or the business's assets. Although interest rates for secured loans are usually lower than for unsecured, the risk is much greater if the repayments cannot be made.

When aren’t loans suitable?

It wouldn’t be advisable to go down the route of a loan for any ongoing expenses – simply because keeping up repayments could be difficult. It is recommended to fund these expenses from cash that is received from sales or by using an overdraft as extra padding.  

If you are unable to obtain either a loan or other forms of finance via your bank, then there are various other financial options that are available. 

Let’s have a look at what a business loan is together with what steps are necessary for easier approval…

So, unlike personal loans, business loans can be riskier for the lender, meaning that eligibility can be stricter, and applications longer. Typically, you will be required to gather financial details and important documents in order to complete the application process.

But what eligibility criteria is required to meet a business loan?

Of course, this can differ between lenders but listed below is a common list of requirements that you will no doubt come across when applying for a business loan:

Credit score

lenders will almost always examine your personal credit report and usually require a personal score of above 650 for loan applications to be successful. If you already have a business, then be prepared to submit your company’s credit report too.

Business age

you'll need to have been in business for a minimum of a year to qualify for most online small business loans and for a bank loan, it could even be for at least two years.

Annual revenue

the figures that lenders will be looking at are generally between $50,000-$150,000

Personal debt-to-credit ratio

As counterintuitive as it sounds, some lenders will consider too much personal credit a risk  

Net operating income

some lenders look for an income that is at least 1.25 times greater than the total expenses, to ensure that the required payments are able to be met.  

Potential collateral

if applying for a secured business loan, then an asset may have to be identified such as inventory, real estate or equipment – to back up the loan in case of default.  

How the funds will be used

It’s not uncommon for you to specify exactly how the funds will be used as some lenders may limit this.

It’s difficult to pinpoint exactly, which is the most important factor when it comes down to business loans, as each lender weights the criteria differently. One could base the success of the application on the business’ minimum annual revenue; another may look at how long the business has been trading, the collateral that has been put forward or even your personal credit score. The best thing to do is to do a little research into the specific lender that you are thinking of going with and ask them exactly what their requirements are for approval – failing to prepare could result in the application being rejected.

What information should be included with an application?

Banks and other large financial institutions will usually require you to complete an application in person; however, some newer online lenders enable the application process to be made online.

So initially, you’re most likely going to need to submit the following:
  • Your contact information such as name, address and marital status.
  • The full business name, address, email address and phone number.
  • The industry type and the date the business was started.
  • The businesses annual revenue.
  • Income earned together with personal bank account information.
  • The amount of funding that will be required.
  • How the monies will be used.

Documents that will need to be provided after application:

Quite often, following an application, the representative may go over everything by phone. In order to confirm the information provided you may need to upload more financial details of the business, this can include:

Bank statements – typically, lenders will want to see at least two years of business bank statements to verify your financial status.

Revenue statement – these are also referred to as ‘profit and loss’ statements, and lenders often request a recent year-to-date revenue statement together with statements from the previous two years.

Balance sheets – this provides a good indication of the business’s financial standing and list the capital, assets and any liabilities.

Personal financial details – Lenders may wish to see your complete liabilities and personal assets, including credit cards, loans, cars, your home, and other investments.

Personal credit score – be prepared to submit copies of credit reports from the three main reporting agencies. Keep in mind that a score below 600 could jeopardize the application.

Business and personal tax returns – the younger the business, the more likely the possibility will be that the lender will want to see your personal tax returns.

Collateral or insurance – in order to lower the risk a bank may request that an asset is put up or insurance taken out against the deaths of either you or your business partner in order to pay off the loan.

Business plan – not all loans require one but having a solid plan in place can showcase your team and company, which increases credibility tenfold.

To protect the integrity of any documents that you may upload online, submit them as PDF’s. Initially, business plans may appear lengthy documents.  The easiest way to put one together is to break it into sections and focus on each one individually.

7 steps to qualifying for a business loan:

Step 1

Establish why the business needs a loan

Knowing why your business needs financing will be key when deciding which lender to use, what type of loan will be required and more importantly how much it will cost.

Step 2

Calculate the amount required

Add up the expenses and work out the sums. This helps to narrow down lenders as many have maximum and minimum borrowing amounts. It’s advisable not to borrow more than necessary as all you’ll end up doing is paying more interest.

Step 3

Review your credit reports

Before applying, check your business and personal credit reports for any errors. If you do find anything incorrect, contact both the credit bureau and financial institution and have it amended. The advantages of doing this prior to application are that it will increase your chances of being accepted and will help qualify for more favourable terms and rates.

Step 4

Source a loan that both you and your business will be eligible for

As well as fees and rates, pay attention to what the lender’s eligibility requirements are. Some lenders are flexible, but if you are well over or under any cut-offs, then approval will be more likely. If there are any that you don’t think you’ll qualify for – rule them out, and for those you’re not sure of, speak with their customer service agents who will be more than happy to run through the eligibility around specific situations.

Step 5

Ensure all documentation is in order

Before applying, get all documentation together as requested by the lender. If you have other documents you think they may need, take these along too. If applying online, scan the documents beforehand to speed up the application process.

Step 6

Complete your application

Follow the instructions of the lender and if you have any questions, utilize their customer service agents. Many have either a customer service line that you can call or a live chat option on their websites. Before submitting an application, it’s really important to read it through a couple of times to ensure all the information is correct. Did you know that one of the top reasons that applications are rejected by lenders is because of incorrect information?

Step 7

Provide collateral (optional)

It’s not always necessary to provide collateral to get a business loan approval; however, the chances can be improved dramatically if the business loan can be secured with assets such as real estate or equipment – it can even help to secure low rates!!

Below, is a business financing application checklist – to make sure nothing is missed off and of course, to make life easier…

Personal credit score

Get a free copy of both your business and personal credit report from Experian, Equifax and TransUnion.

Business age

The older the business, the better. Most lenders will require you to have been in business for two years or more.

Type of industry

The type of industry could affect what type of loans you qualify for. For example, some lenders put restrictions in place when lending to industries such as firearms or gambling.

Amount of funding needed

Only ask for as much as you believe is necessary – base it on previous business needs.

Loan use

Be prepared to talk through with the lender how the funding will be utilized. 

Minimum yearly revenue

Most lenders require a minimum annual revenue of between $50,000 to $150,000 in order to grant approval. If, however, you have been in business for under a year and are applying for a start-up loan, the monthly revenue requirement will be around $10,000 or more.

Business bank statements

Generally, lenders like to see a minimum of two years of business bank statements.

Revenue statements

Put together a year-to-date revenue statement that outlines the company’s cost of goods, administrative expenses, and net sales. 

Balance sheets

Balance sheets will provide the lender with an overview of the business’s overall assets, shareholders equity and liabilities. 

Personal and business tax return

Lenders will require confirmation of both your revenue and income as reported to the IRS both on personal and business returns.

Business plan

It not always a requirement but will help to boost credibility and help with convincing lenders that you’re worth investing in.

Business debt schedule

Have a look online and utilize one of the many free templates to put together a comprehensive account of the business’s debts and outstanding loans.

Revenue forecast

Lenders will want to know the projections for expected revenue for months ahead.

Collateral documentation

Be prepared to document real estate, equipment, and inventory to put forward as collateral when applying for a secured loan.

Payroll records

It may be necessary to submit documentation relating to employees and payroll records if applying for a business loan.

5 common mistakes when making a business loan application:

Implementing big changes to the business – this isn’t the time to take risks – lenders will be looking for stability.

Not submitting a business plan – this is a requirement for the majority of business loans and is where you can put forward your case.

Not taking care of your credit score – this is sometimes the only financial information that underwriters will check – don’t apply for anything that you could automatically be disqualified from.

Not filling out an honest application – you might think that not all lenders will check your financial history – but that doesn’t mean that yours won’t. Eligibility requirements are there for many reasons, one being to prevent you from finding yourself in an unaffordable financial situation.

Missing deadlines – nothing looks worse than trying to convince a lender that you are capable of making payments on time when you are late, providing them with any documentation that they request.  

The bottom line...

You may qualify for more than one particular type of financing from a range of lenders depending on the type of loan you are looking or as well as the size of the business. It’s worth remembering that traditional banks usually have stricter application processes and requirements. You may find that online lenders will offer business loans with comparable fees and interest rates which are a much better fit for your financing needs.

NOW OVER TO YOU...

Let me know what you think… What is your experience with bank loans?   

Is there anything you would like to share, or you’d like us to cover?  

Leave a comment below, and I will be sure to answer as soon as it comes in!!

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