A loan is one of the ways to get investment to start or scale your business. Various financial institutions offer small business loans to entrepreneurs. You will face various general and unique challenges as an entrepreneur as you apply for a small business loan. Most entrepreneurs actually miss out on small business loans for various reasons.
Financing is an integral part of your business. Thus, it would be best if you had various ways to raise capital for your business. Every entrepreneur needs to identify the various challenges, potential solutions, and various effective alternative sources to raise capital.
Challenges That Prevent Small Business Loan Approval
Small business is more likely to experience the following loan approval challenges:
1. Insufficient or Poor Credit
Lenders will assess your creditworthiness before they approve your small business loan. Your creditworthiness is your individual likelihood to pay the loan. They will look at your business credit reports to analyze your past payment history and credit line.
You can also give your personal credit reports if your business lacks sufficient credit history. However, if your personal credit report has negative elements, you will have a harder time proving your creditworthiness.
2. Insufficient Capital Investment
How much capital have you invested in your small business? Many small businesses get a large amount of capital funding from external sources. You may turn away small business lenders if you rely too much on external funding. However, they are more likely to favor your small business loan application if you have invested a considerable amount of capital.
3. Lack of Collateral for small business loans
You may need to use your personal or business assets as collateral for a secured small business loan. The assets will act as the payment in case you default on your loan. You may need to use your personal assets as a secondary payment if your small business is new and is yet to get valuable infrastructure.
4. A High Rate of Failure for Small Business Loan Approvals
Research shows that in August 2020, big banks only approved 13.6% applications for small business loans, while small banks approved 18.6%. Thus, low approval rates make it challenging to get a small business loan.
5. Low Income or Large Debt
Lenders also consider your ability to service your small business loan. Your loan application is more likely to fail if your small business has overwhelming expenses or lacks a steady income flow. Small businesses with a large debt or low income have a hard time proving they can pay off the loan.
How to Overcome Small Business Loan Challenges
You can apply the following measures to overcome small business challenges and get financing.
1. Improve Your Creditworthiness Before You Apply for Small Business Loans
Get your business credit reports to understand your creditworthiness. In case your business is new, you can request personal credit reports. Improve your creditworthiness by:
- Addressing issues of late payments
- Keep your credit balances low
- Make timely payments
2. Secure Collateral
It may take time to get collateral, especially for a new business. If you have some collateral, create an inventory document of the collateral. You will lose everything you list as collateral if you default on your loan.
3. Attach a Business Plan or Your Small Business Loan Application
A business plan helps lenders know more about your business and how worthy and likely it is to pay back the loan. The lenders will analyze their likelihood to succeed, a solid business model, and sound management. Your business plan should include:
- Business outline
- Products or services
- Target market
- Projected financial statements
- Profit-loss statements
- Cash-flow statement
- Balance sheet
4. Minimize Debt and Maximize Your Income
It would help if you had a low debt to income ratio for a better application chance. The ratio compares your monthly expenses and debt to your income. To reduce your debt ratio, you can apply the following measures:
- Increase your monthly income
- Delay non-essential or large purchases
- Increase your monthly debt payments
- Build a positive brand image
5. Invest in Your Business More
Try to minimize debt and reinvest your earnings. Your business is more attractive if it shows the potential to sustain itself, pay off its debts, and rely little on external financing.
6. Seek Other Loan or Financing Opportunities
- Private equity firms
- Venture capitalists
- Angel networks
You may need a small business loan for various purposes. It could be to start, run, or scale your business. Various challenges may hinder successful loan approval. It is important to understand, anticipate, and solve these challenges to solve your needs. Please let us know if there are any other challenges you may have faced and solutions to get a small business loan approval.