Credit for Entrepreneurs: What Does It Take to Get a Small Business Loan?

The adage goes, it takes money to make money. Lack of access to capital can be a major problem for small businesses in a variety of circumstances.

Maybe you’re just starting out and you have setup or testing costs. Or you’re trying to grow, and you need to invest in space or inventory. Or worse, a pandemic hits and you lose customers.

As a small business owner, I’ll share what you need to know about seeking a business loan.

Determining Your Eligibility

There are criteria you need to satisfy before a bank will consider lending to you.

• You must have a business checking account and show that you keep your business and personal finances separate.

• You must have been in business for at least two years showing profitability with paying customers.

• You must be willing to provide a personal guarantee on the loan so that if anything goes wrong, the bank can come for your personal assets to repay the loan.

• You also need a decent credit score.

If you plan to seek bank loans, start here. When you open your business checking account, start a relationship with the business banker.

Tell them about your business. Keep them informed about your successes.

Make sure they know who you are so that one day, when you come to ask them for money, they already have a base relationship with you to grow from. 

Limiting Your Credit Exposure

Banks have lending limits on small businesses as does the SBA when it comes to their guarantee. Banks do not want to see your business debt grow to more than 20 percent of your business.

Depending on your industry, this percentage could swing 5 percent in either direction. Typically, in my experience, I’ve seen this measurement applied in terms of annual revenue.

In other words, if you have $500,000 in revenue, they want to see your debt at $100,000 or less. 

This exposure includes all debt on your business balance sheet. That means that if you have a family loan of $25,000, it counts toward the 20 percent exposure, even if the bank is in line in front of them for repayment.

Taking Out SBA Loans

The SBA has a program through which it will add protection to your loan, giving most of it the full backed guarantee of the U.S. government.

This guarantee is in addition to yours. This protects the bank and gives them incentive to make small business loans. You still have to qualify for the loan, but it makes it a lot easier for the bank to take a chance on you.

Business Lending Options Other Than a Bank

There are other institutions that have a means of helping you besides a bank. Depending on the type of business you’re starting and operating, here are other options to consider.

• Vendor financing: If you buy items that go into making the final product that you sell, you may be able to get credit terms from the vendor.

  • For example, if you’re buying food ingredients to make prepared foods, the company where you buy the ingredients may give you “terms.” This means that you can receive the ingredients and then pay for them either 14 or 21 days later.

  • This gives you time to make the finished product and sell it so you have the money to pay the vendor’s invoice. These vendor credit relationships are important as they can serve as references for you down the road with the bank or other places you are seeking credit terms.

• Customer deposits: You could develop a pricing model that allows you to collect cash up front before you make or deliver the item you’re selling. This would give you cash on hand to pay for the manufacturing and operations.

• Microlenders: If you’re looking for a small amount of cash to start up, there are microlenders who provide small loans (say, $10,000) to help you get off the ground. These loans often come with higher interest rates, so you’ll need a plan to pay them back as soon as you take this money.

• Credit Cards: It’s common for business owners to leverage their good personal credit histories to take personal credit cards and basically loan themselves the money. Again, know your cash runway if you go this route including a plan to repay the cards.

Building Relationships with Your Banker

Increasingly, small banks are proving to be friendlier to small businesses than large banks. Having said that, small banks tend to have their own niche specialties, so you’ll want to choose wisely.

For example, one bank may be geared toward real estate lending, while another bank may be more accustomed to small operating companies. 

Regardless of which bank you partner with, there is no more important financial relationship than with your banker.

I’ve been running small businesses since 2008, and I will say these relationships are getting tougher to build as banks rely on back-office underwriting teams who do not know you at all to manage their lending policies. This leaves your banker in a bind sometimes as they want to give you a loan but can’t.

Over time, however, these relationships matter, and these bankers can guide you regarding what your financials need to look like to qualify for the loan.

This information can play a significant role in your business growth plans, and with patience, you can run your company in a way that enables you to qualify for bank financing. 

Using Your Credit Once You Get It

Once you get loan approval, use the funds, and pay them back on time to establish a good history with the bank. They’re in business making loans, so they want to make them.

By showing the bank you’re creditworthy with your repayment actions, it makes it easier for the bank to say yes again in the future as you grow.

If you have a line of credit, use it a little each month, even if you don’t need it. That way you show that you’re responsible and the money isn’t sitting there doing nothing.

The bank can pull the loan at the annual renewal if it feels it is not making them any money. The best time to maintain a line of credit is when you don’t need it. That way, when one day you do need it, you’ll have it. So, don’t lose it once you’ve got it.

Becoming “bankable” is a rite of passage as a small business owner. When your bank is ready to give you a loan, you should feel proud and recognize that your business has reached another level.

This is important to meeting your business goals that got you started in the first place — supporting your customers, employees, your family, and your community.