How to Get a Loan to Start a Business

Where to Start

The first thing you’ll need to determine is what type of loan you need. Potential lenders will want to know the answer to this question too, so it’s best for you to figure it out ahead of time. Your answer will likely be one of these four categories:

• To start your business.
• To manage day-to-day expenses.
• To grow your business.
• To provide a safety net.

Your needs may overlap into more than one category. And that’s okay. However, you won’t have much luck getting a loan if you answer the question “Why do you need the money?” with something like “Oh I dunno, just for a bit of everything.” It’s vague and unprofessional. Instead, have a well thought out answer to what you’ll be using the money for.

Where To Apply

There are multiple ways to fund your business. Naturally, some of them are more expensive than others. If your business is brand new, without any history of revenue or sales, it will be hard to get a traditional lender like a bank to approve you. Even some online lenders will hesitate, since they typically want to see a year’s worth of your accounting first. Without proof of cashflow, you’re out of luck.

You could try less conventional methods, though. There’s borrowing from family or friends, crowdfunding with Kickstarter, a personal loan that you invest in your business, VC startup funding, or even using a credit card. Obviously, these types of loans vary in size and interest fees. It’s not wise to use your credit card to prop up your business in the long term, for example.

Compare Offers From Different Lender

No matter where you end up getting your loan, it pays to shop around. Each potential lender will have different terms. Those terms — including loan amount, interest rate, term length, and repayment schedule — will have a major impact on your final decision. Crunch some numbers and decide which loan is right for your business. This should go without saying, but make sure you will be able to make the loan payments when the time comes.

Options, Options, Options

We mentioned that there are multiple avenues to secure a loan. Here are three of the most common, and a summary of what makes them different.

Banks

Traditional banks are still a great place to get a loan, under certain conditions. You should consider using a bank if your business has a strong history of profitability, you have potential collateral, you have generally good credit, and you don’t need the cash too quickly. The application process is generally much slower, as the bank will more thoroughly investigate the viability of you and your business before cutting a check. On the other hand, banks might offer more favorable terms than online lenders.

Online Lenders

There are a whole host of online lenders you can apply with. They offer everything from small, $1,000 loans up to multi-million dollar lines of credit. No matter how big or small your business is, there’s probably an online lender that suits your needs.

You should investigate using an online lender if your business is still relatively new, you don’t have much (or any) collateral, or you need the money quickly. You’ll probably pay a higher interest rate than with traditional banks, but your business won’t be scrutinized quite as hard in the application process either. They have higher approval rates and the funding can arrive in less than 24 hours, in some cases.

Use Microlenders

If your company is too small (or too new) to qualify for a loan from the banks or other online lenders, consider microlending. They are non-profits who specialize in short-term loans of less than $50,000. While you won’t find super attractive interest rates or APRs. However, if you’ve stuck out with other lenders, microlenders are worth a shot.

Some popular examples of microlenders are Accion, Kiva, the Opportunity Fund and the Business Center for New Americans. If you have a smaller company, no operating history, no collateral, or poor personal credit, you might need to settle for microlending.

How to Qualify

While your entire financial picture will play a part in whether you qualify for a business loan or not, there are four main categories you need to focus on.

What’s Your Credit Score?

Like most things financial, your personal credit score will matter. After all, if you can’t balance your own budget, lenders aren’t really going to trust you with their money to run your business. Make sure you know your credit score. If it’s on the low end, take steps to improve it before applying for a loan. The better your credit score, the more success you will have in securing a business loan.

Business History

If your business has a ten-year history of being open and making money, you’re a lot more attractive to lenders. You’ve shown that you aren’t going to run the place into the ground in six months. On the other hand, if your business has no history at all, lenders are going to be cautious. Even if you have a legitimate Million Dollar Idea, it remains unproven until you prove it. And you can’t prove it without funding, leaving you stuck in a catch 22.

Do You Make Money?

It seems like an obvious factor, but does your business actually make any money? You’ll need to prove that you will have the funds to repay any loan you apply for. Most lenders will want to see a minimum annual revenue of at least $50,000 to $250,000. If your business makes less than that, you’ll need to focus on smaller organic growth rather than trying to hit a grand slam (via a huge loan).

Can You Afford The Payments?

It helps to be realistic. For example, let’s say your business legitimacy makes $60,000 of profit per year. That’s great! Good job. However, that’s probably not enough cashflow to apply for a $5 million loan. You’ll probably have to settle for slower progress. Lenders typically want your business’ total monthly income to be roughly 1.25 times your repayment amount.

Organize Your Paperwork

If you’ve ever taken out any other type of loan (mortgage, car loan, student loan, etc), you’ll know it comes with a ton of paperwork. Applying for a business loan is no different. In fact, there’s probably even more documentation you’ll need ready. Here are the most obvious things you’ll need to apply for a business loan:

• Personal and business tax returns.
• Personal and business bank statements.
• Business financial statements and accounting documents. (aka The Books).
• Business legal documents (lease agreements, contracts, franchise agreement, articles of incorporation, or any other legal documents related to the business).
• A business plan

We sort of stuck that last point in, but don’t ignore the business plan. It’s incredibly important. A solid business plan will go a long way in convincing any lender to get on board. This particular article isn’t about how to write a business plan, but this article is a great place to start.

The Bottom Line

Getting a loan for your business is a serious endeavor. The lenders are essentially betting that the funds will help your business grow, allowing you to meet the repayment demands of the loan. If the business goes under, they risk not getting their money back at all.

Be realistic with your plans for a business loan. Don’t try to grow too big, too fast. It’s often a recipe for failure. Instead, come up with a workable business plan. Spell out, in detail, what you need the money for. Then take that plan to a variety of lenders, comparing their terms and conditions. In the end, you should be able to make a good choice that helps your business grow to new heights!

Joshua Williams

Joshua is a freelance writer with years of experience blogging about business and finance, and a whole host of other things too. When he's not writing, he enjoys camping with his dog, a golden retriever named Oakley.