What Info Lenders Need to Approve Your Business Loan: A Complete Guide
All the documents and information you need to get approved for different small business financing options.
Are you thinking about applying for a small business loan?
Online lenders have made the loan application process faster and easier than traditional financial institutions or Small Business Administration (SBA) loans. Still, it can require submitting a significant amount of information and uploading many documents so lenders can determine your creditworthiness.
This article will explain all the loan documents you may need to get approved for a small business loan and how they contribute to securing your financing.
- Credit report
- Bank account statements
- Tax returns
- Income statement
- Budget and cash flow projections
- Other documentation your business may need to provide to lenders
If you want access to business funding, you and your business must be able to prove that you have a history of paying back loans in full and on time. You can do this by having solid personal and business credit scores. They demonstrate good credit.
Having poor credit doesn’t mean it’s impossible to get approved for a loan. However, if you are approved, more likely by online lenders than traditional banks, you will likely be offered a smaller loan amount than you may need and be forced to pay higher interest rates on the money you borrow. (A better credit score usually results in lower interest rates for most short-term loans and other types of financing.) Your loan repayment terms will be less favorable than if you have a superior credit rating. In most cases, lenders will require you to put up business or personal collateral — or make a personal guarantee — to secure the loan.
The differences between your personal credit score and business credit score are partially dependent on your business structure and how it limits risk. Typically, it’s wise to create a separate legal entity for your business, usually a limited liability company, corporation, or partnership. If you separate your personal and business finances, issues with your personal credit history, like overdue payments on old student loans, will limit its impact on your ability to get business financing.
Want to know your credit score? Get a credit report from one or two credit bureaus, such as Dun and Bradstreet, Experian, or FICO. If you have a solid credit score, it’s more likely you’ll be approved for a small business loan with a low interest rate, reasonable fees, and good terms. What’s considered a good or bad personal credit score varies depending on the lender’s credit scoring model and loan approval guidelines.
FICO’s personal credit scoring model ranges from 300 to 850. A score below 580 is typically considered bad, while a score of 670 plus is usually considered a good one. Although minimum credit score requirements vary, some online lenders may approve you for a business loan with a personal credit score as low as 500. A traditional lender like a bank may require you to have a minimum score approaching 700.
Much like personal credit scores, a good or bad business credit rating also varies based on a lender’s credit scoring standards. Dun & Bradstreet’s PAYDEX business credit scoring model ranges from 0 to 100. A good score is anything above an 80; a bad one is below 50.
Tip: If you find errors in your credit report, you must correct them before submitting a small business loan application. If your score is low for a specific reason, such as business credit card debt or other financial problems, it’s probably worth spending time improving yours before applying for any business financing. If you own a new business, you may need to get a business credit card and use it to build a credit history before you apply for other types of financing.
Bank account statements
Most small business lenders will review your business bank statements as part of the application process. They are a good indicator of your business cash flow and how much of a loan you can afford to pay back.
Lenders are more likely to approve loans for businesses that earn a healthy revenue and spend cash wisely. Bank statements are one of the critical ways loan companies can track this.
Your business income tax returns prove how your organization performed in the past. You must supply lenders with several years’ worth of accurate returns that show how much your company has earned and how it spent money. If you’re an entrepreneur or a new small business owner, you can bypass the business tax return requirement by asking your accountant to create a projection of what your tax return will look like for the current year.
When filling out your taxes, you must balance maximizing deductions with demonstrating that you earn consistent revenue. Maximizing write-offs can help you save on your taxes, but it can reduce your revenue so much that it could limit your possibilities of qualifying for small business loans.
Your income statement is a report of your historic business cash flow. It’s a detailed documentation of company revenue and expenses.
Income statements are beneficial when lenders want to understand how a business performed over the past year or more. Don’t worry if your expenses exceed your revenue. This is typically the case for startups and newer businesses. It may be okay if lenders see your expenses are reasonable compared with other similar companies.
Your balance sheet is similar to your income statement. The difference: The income statement is a historical report, while your balance sheet presents your current financial situation.
A balance sheet should include all the following factors:
- Accounts receivable
- Current assets
- Sources of equity.
Each of these things is important to business lenders. The purpose of a balance sheet is to document what your business owns right now and how much it currently owes. If its liabilities significantly exceed its current assets, you may find it more challenging to secure a small business loan with a reasonable interest rate and good terms.
Budget and cash flow projections
When considering you for a loan, lenders will want to know how you plan to use the financing and the income increase you expect to generate from it. Some of the most common business needs company owners use loan funds for include:
- Purchasing or improving real estate
- Paying for inventory
- Hiring new workers
- Expanding into new areas
- Investing in new equipment
- Dealing with a cash flow emergency
- Affording payroll.
Business loan companies want you to be as specific as possible with your plans for the cash they lend you. However, there is some flexibility in this. Consider your budget and cash flow projections as just that: projections. Lenders know that things can change, and you may need to make adjustments in how you specifically use the cash.
To get approved for some business loan options, you’ll probably need to develop two different projections. One will show how your business will perform without any new financing. The second should show how your company will be able to produce better results once you receive small business financing. Ideally, this will convince lenders that your business could benefit from a loan and be able to pay it back.
Other documentation your business may need to provide to lenders
Some lenders may require you to provide additional forms of documentation to prove different things, including:
- Time in business: Businesses that have been in operation for a while have a greater chance of loan approval. While minimum time requirements vary, it’s common for traditional lenders to require you to be in business for two years. Online lenders often require applicants to be in operation for at least six months to a year. However, the time required may vary based on the type of business financing. For instance, when it comes to invoice factoring, which involves selling unpaid invoices (accounts receivable) to a factoring company, a lender may require that you be in operation for only three months.
- Debt-to-income ratio: Some lenders will review your debt-to-income (DTI) ratio. It helps them determine whether you have enough annual revenue to take on more debt. Your DTI ratio weighs your monthly debt against your gross income. You calculate this ratio by dividing your monthly debt payments by your gross income. The higher the DTI ratio, the greater the risk your business is as a borrower. While minimum DTI requirements vary by small business lending company, it’s wise to keep your DTI ratio at or below 43 percent.
- Debt-service coverage ratio. Another ratio certain small business lenders review to determine loan eligibility is the debt-service coverage ratio (DSCR). It measures your business’ annual net operating income compared with its total yearly debt. (Annual net operating income is the same as earnings before interest, taxes, deductions, and amortization, also known as EBITDA). To calculate DSCR, divide your EBITDA by the total annual debt of your company. A ratio greater than one sends a positive sign to lenders that you can afford additional loan payments. The U.S. Small Business Administration loan program, which has relatively strict loan approval requirements, requires a minimum DSCR of 1.15 to get approved for most SBA loans.
- Collateral. You may need to prove to lenders that you have complete ownership and title to any collateral, such as a business asset like a vehicle or personal asset like real estate, you put up for a secured loan. This is especially necessary if you have bad credit scores.
- Plans for your business and loan funds. Some small business lenders may ask you to upload a current business plan as part of their underwriting process. It should include the following:
- Financial projections
- Industry outlook
- Competitive analysis
- Profit and loss statement
- Marketing plan
- Company leadership resumes
- And more.
Your plan must include a detailed explanation of how you intend to use the loan proceeds. It should also have a five-year cash flow forecast, including income and expenses.
- Proof of business ownership and ability to operate. This includes up-to-date business licenses and permits, a current business property rental agreement, financial statements, and incorporation paperwork.
- Proof of identity. Identity can be proven with a tax identification number, driver’s license, and passport.
The paperwork you need will vary depending on the type of business loan you apply for. If you apply for a business line of credit, merchant cash advance, microloan, or disaster loan, the loan requirements will be less extensive than a traditional bank loan.
In the end, you must prove to lenders that providing your business with financing will be beneficial to your company and the lender. You must also make it clear you can afford the monthly payments. It’s up to you to provide all the documentation it takes to convince them of that.