Follow our checklist's 6 steps to maximize the potential of your small business loan application, and secure the financing your business needs to flourish.
1. Check Your Business and Personal Credit Rating
Your ability to get a bank loan, as well as that loan's interest rate and other loan terms, will be driven in part by your business and personal credit ratings--so you'll want to know this information in advance.
Three separate companies compile credit reports:
Under Federal law, you're entitled to a free credit report from each of the three major reporting agencies once per year. Get your free credit reports at www.annualcreditreport.com or by calling 1-800-322-8228.
Review the reports carefully and look for inaccuracies. If you see an error, you have the right to have it corrected. Notify the relevant credit reporting agency within 30 days of receiving your report.
Make sure your credit report is accurate before you apply for a small business loan to avoid any missed opportunities or sticky situations.
All three major credit rating agencies use the FICO system for scoring credit ratings, which follows this rubric:
- Excellent: 750+
- Good: 700-749
- Fair: 650-699
- Poor: 600-649
- Bad: Below 600
2. Assemble All Relevant Business Documents
The process of assembling all of the necessary business documents and disclosures for your small business loan application will take a lot of time and energy. So that you can be ready to move quickly once you start working with lenders, you should assemble all of those documents before you start applying for a loan.
Some of the documents will need to be notarized, and others must be originals rather than photocopies. You'll want to check with your lender or lenders about their specific business loan requirements to that you can take care of these in advance.
Document requirements vary from lender to lender. You might have one or two unexpected requests, but if you're prepared with the following documents, you're most likely covered:
- Personal and Business Income Tax Returns (from the past 2 years)
- Property, Business, Sales, Municipal & Other Tax Statements
- Business Overview & History
- Income Statement
- Profit & Loss Statement
- Business Organization Documents: Articles of Incorporation & Shareholders Agreement (if any), LLC Agreement, Partnership Agreement
- All Relevant Business Licenses, Permits & Approvals
- Payroll records (previous 6 months)
- All Title Deeds to Real Estate Owned by the Business
- Bank Statements (previous 6 months)
- Evidence of Accounts Receivable
- Leases on All Business Premises
- Title Deeds on Personal Real Estate Possible for Collateral
- Full Disclosure of any Adverse Regulatory, Tax or Government Enforcement Actions
- Disclosure of Any Liens Against Business Property
- Patents, Copyrights, and other Intellectual Property Rights
3. Fill out the Loan Application Form
Read the Loan Agreement very carefully before signing it. Pay particular attention to the terms relating to the Annual Percentage Rate (APR) charged for the loan.
Also, be very clear on late payment penalties and any term that allows for acceleration of the due dates for payments, as well as any prepayment penalties!
It's essential that you understand the terms of the loan agreement. If you don't feel absolutely comfortable, consider getting legal counsel.
Answer the initial qualification questions. The business loan application might ask about prior criminal convictions, recent denials of credit, bankruptcy filings, or late payments on other loans. Be complete and honest on these issues--lying might help your loan terms in the short run, but you'll get found out, and the benefits aren't worth the consequences.
Complete the Information section of the loan application, which typically features:
- Name (and any previous names)
- Home and Business Addresses
- Phone Number
- Length of Time in Business
- Email Address
- Social Security Number
The application will usually request personal financial information like your net worth, real estate owned, and so on--especially if the loan terms provide for recourse against you personally.
Often the loan application will request business references in a community where you've done business.
Sign the form and submit to the financial institution! Also, be aware that signing and submitting the application is your authorization to the lender to conduct a credit check.
4. Write Your Personal & Business Background Statements
Note: Although this isn't required by many conventional lenders, assembling a personal and business background statement is a good idea. Many lenders like to see this type of information to gauge your expertise in your industry, or to add context to your application. It's best to be prepared just in case!
Include all of your educational degrees, certificates, and professional licenses relevant to your business.
Describe all the work experiences you've had before starting your business that prepared you to run your current business.
Outline the history of your business--establishment of the business entity, initial and current product lines, sales volume, gross sales, net revenue, number of employees, and so on.
5. Write Your Financial Statement
Any lender will want to see two things in your financial statement:
- Your historic financial stability has been strong.
- Your business will continue to be stable in the future, even with a new debt obligation.
In your historic financials, you'll want to show a healthy (and hopefully growing) free cash flow--that is, your operating cash flow minus your capital expenditures. The free cash flow is money that can safely be taken out of your business for distribution.
Another way of looking at it is that free cash flow is your "safety margin" in business. If you have strong historic free cash flow, then your business probably is a good bet for a lender.
Being able to show good cost controls in your historic financials is a strong indicator to lenders that you run your business wisely, without wasting money.
Even better: show that you have an ongoing system for reviewing and reducing costs whenever possible. Every dollar saved on operating costs is a dollar available for debt service or free cash flow.
- In your financial projections, you'll want to use conservative estimates but still be able to show that your revenues will increase by a healthy margin above the new obligations caused by the debt.
In most businesses, your financials will all be driven by your sales volume estimates and by your estimates of net revenues on that volume. Presumably, you'll use the loan proceeds to invest in capital equipment that will enable you to increase production and/or make production more efficient. You'll want to show convincingly that your market can sustain the additional production you'll supply, and that your competitive position can be maintained or enhanced.
6. Write Your Business Plan
Begin the business plan by outlining the historic structure of your business:
- Historic product lines and sales volumes
- Market prices and "cost of goods sold" (COGS) by product line
- Net revenues by product line
- Number of employees, total payroll, and special expertise of employees (if applicable)
- Total debt and cost of debt service
- Cash flow analysis
Next, outline the competitive structure of your market:
- Number of competitors and brief descriptions of their businesses
- Competitive posture (product differentiation)
- Estimates of competitors' cost structures (who can get to market cheaper?)
Finally, outline your projected business plan:
- How will you use the loan proceeds? New capital equipment? New intellectual property? More/better employees?
- If the equipment, IP, or employees are highly specialized, be sure to outline where you will find them, at what price, and on what terms.
- Under the new business plan, what will be your total sales volume? What will happen to COGS and, therefore, your margins?
- If your plan relies on your business producing a higher volume, you need to establish persuasively that you can sell the higher volume in your market and that you've fully accounted for any impact on pricing of the new, higher volume.
- Once you've made a strong case for your projected new sales volumes, sales prices, COGS, and net revenues, you'll be able to show the expected free cash flow. Hopefully your conservative estimates show enough of a safety margin above the revenues you'd need to repay this loan that your lender will see your business as a good investment.
Preparing all of this documentation should give you a deep understanding of what lenders consider when reviewing loan applications--as well as greater insight into the operations of your own small business!
Remember, the best time to get a loan is before you actually need it, so if you think your business requires funding in the near future, now is the time to begin preparing for the process.
The key takeaways:
- Read all the loan documents and make sure you understand them! Get legal counsel if you need it.
- Be honest on all the forms, disclosures, and other documents you file with the lender.
- Remember that your key objective in the first instance is not to qualify for a loan--it's to prove to yourself (and the lender) that your business can grow successfully by taking on new debt. Always use a conservative business case in your planning. Your business depends on it.
- Remember that the small business funding process is a competitive process. Your loan packet can't just be good: it needs to better than the other applications competing for your lender's attention. Act like a professional in all of your filings and meetings related to the loan. Use spell-check. Respond to inquiries on time. Check your math on the financials. Be reliable.
This article was originally published on the Fundera Ledger on November 24, 2015.