February 13, 2024 | 7 minute read
As your business grows, you may want to pursue opportunities that require more funds than you have on hand. If you are considering applying for financing to close the gap, it is important to understand what lenders look for when evaluating a loan application.
Lenders want to make sure you’re using the right product for your needs. Options may include small business credit cards, which are designed to help you manage day-to-day expenses; a line of credit, which is generally used for short-term working capital needs; and a commercial term loan, which is best for financing larger investments over time.
If you’re not sure which type of financing you need, ask your banker for advice. “They can help you look at different options and decide the best one for your situation,” says Roderick Wilson, Small Business Lending Product executive with Bank of America.
Attempting to borrow more than your business can afford is a red flag to lenders. Lenders may also question the application if you don’t borrow enough for your demonstrated need. “If a doctor is applying for a loan for a new practice but isn’t including the office build-out, they could end up cash-strapped. It may make sense to borrow those additional funds, so they have more cash on hand in the short term,” Wilson says. Seek advice from your accountant or banker on how much to borrow.
When you submit your credit application, lenders will typically look at both your business credit and your personal credit standing. “You’re almost always going to have to sign a personal guarantee on a small business loan,” Wilson says. A personal guarantee is a legally binding promise to repay money — from your personal assets — that your business has borrowed.
Before you submit a credit application, review both your personal and business credit reports for delinquent accounts (or incorrectly reported delinquencies) with all major credit reporting agencies. Business credit reporting agencies include Dun & Bradstreet, Experian and Equifax; you can check your personal credit reports with Experian, Equifax and TransUnion. If there is any negative information in your credit report, submit an explanation so the lender can better understand the situation.
Your application should also demonstrate your ability to pay back borrowed money. “A lender may ask for at least two years of personal and business tax returns, a debt schedule that includes details of all of your business debts, and personal financial statements,” says Chris Ward, Small Business Credit executive with Bank of America. He adds that lenders now might also ask for year-to-date profit-and-loss and balance sheet statements, “in order to understand how your business has been doing recently, especially in light of the added challenges many companies are facing due to the current economic environment.”
You might also need to show business and personal assets, as well as cash reserves. Lenders often want to know about your business’s capital assets, such as cash and equipment, and about any funds that others have invested in your business. If you are applying for a loan that is secured by collateral, a lender might ask for details about your accounts receivable, inventory, equipment and commercial real estate.
Gathering the necessary information (see common requests below) before you apply can save time and reduce the risk that you will omit anything important.
How much information you’ll need to provide can vary by the type of financing. Credit card decisions usually require a fairly simple application, but loans and lines of credit may require more documentation because of their higher credit limits and longer potential borrowing time span.
Commonly requested data includes:
Your bank may also require the following information about each business owner, guarantor and controlling manager:
Understanding what lenders look for can help you enhance your application and increase your approval odds. Ward suggests working with your accountant or business advisor to prepare these documents, as an advisor can help you look at the package as a lender would. “Something like a dip in revenue isn’t necessarily a deal-breaker, but the lender will want to understand your business’s story,” Ward says.
Each borrower’s situation is different, so time frames for approval and funding may vary. A typical commercial mortgage might take up to 60 days, while a line of credit might take three to four weeks. Credit card approvals may take a week or less. If the lender requests additional documentation, the process might take longer.
Lenders look at these six “Cs” to help determine the creditworthiness of a business that’s applying for financing.
Lenders will evaluate your business’s financial capacity to support the loan obligation as well as operating expenses. Typically, a business needs to have $1.25 of income to support every $1 of debt service. The extra $0.25 provides a cushion for your business to absorb unexpected expenses or a downturn.
Your business may own capital assets such as cash and equipment that could be used to support your credit application. You and others may have invested funds in the business too, which is also an important consideration for a lender. The amount of capital assets and equity you have on hand will say a lot about your prospects for receiving financing.
Accounts receivable, inventory, cash, equipment and commercial real estate are all forms of collateral — assets lenders may accept to secure loans. When estimating the value of your collateral, a lender will look for liens — existing debt owed — on that collateral. The existence of a lien may disqualify the collateral as a supporting asset for the loan.
The state of the economy, industry trends and pending legislation relative to your business are all conditions that are considered by lenders and are factors in the evaluation of your loan application.
Work experience, experience in your industry and personal credit history are all character traits that lenders will consider. Your personal integrity and good standing — and the integrity and standing of those closely tied to the success of the business — are of the utmost importance.
Your willingness to communicate candidly with your banker and your other advisors about the opportunities and challenges your business faces is key to a productive financial partnership.
Important Disclosures and Information
Access to Dun & Bradstreet business credit score information in Business Advantage 360, our small business online banking platform, is solely for educational purposes and available only to U.S.-based Bank of America, N.A. Small Business clients with an open and active Small Business account, who have Dun & Bradstreet business credit scores and have properly enrolled to access this information through Business Advantage 360. Dun & Bradstreet's business credit scores (also known as “The D&B® Delinquency Predictor Score” and “The D&B® Small Business Financial Exchange (SBFE) Score”) are based on data from Dun & Bradstreet and may be different from other business credit scores. Bank of America and other lenders may use other credit scores and additional information to make credit decisions.
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