How hard is it to get a business loan?
Business loans often have stricter criteria than personal loans
Getting a business loan is a bit more difficult than getting a personal loan. While personal loans often only require basic financial information about you as a person, business loans typically involve more paperwork and scrutiny.
This extra layer of vetting from lenders may make securing funds for your business seem complicated or even impossible. However, going into the application process prepared is key to improving your chances of approval.
Key insights
- Business loan approval rates have significantly dropped since the pandemic, with big banks approving only around 13% of requests.
- Lenders have tightened standards due to economic uncertainty, rising interest rates and a preference to lend to larger corporations borrowing higher amounts.
- Having a solid business plan, strong credit history, consistent revenue and collateral can help, but many new businesses still struggle to qualify.
- Alternative lenders may be the best option as they provide funding even for riskier borrowers — but also charge higher interest rates than banks.
The challenges of getting a business loan
Getting approved for a business loan has become increasingly challenging in recent years. Figures from Statista show that small business loan approvals have plummeted significantly post-pandemic — from up to 65.9% in 2019, depending on the type of lender, to a max of just 28.4% in 2023.
Biz2Credit's monthly Small Business Lending Index has tracked SMB loan approval rates since 2011. According to Rohit Arora, CEO and co-founder at Biz2Credit, "[Approval rates] plummeted during the pandemic, in part, because small and medium-sized businesses (SMBs) applied for and received Paycheck Protection Program loans, which were forgiven if the SMBs met certain criteria."
Arora noted that today, big banks approve around only 13% of requests and small banks around 20%. "Many factors have impacted the stinginess of big bank lenders, including a higher cost of capital because of Fed interest rate hikes, as well as the preference of big banks to work with larger corporations that borrow higher amounts," Arora explained.
Alternative lenders often charge higher interest rates but also tend to have easier approvals.
As a result, many business owners are turning to alternative lenders to get the funding they need. “[Alternate lenders] charge higher interest rates, but sometimes speed and the likelihood of getting a 'yes' is more important than cost,” Arora said.
"For years, the cost of capital was cheap; now it is not. Some companies are holding off from borrowing working capital and growth capital because of higher interest rates and inflation, which has increased their labor and material costs and squeezed their margins."
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Factors that influence getting a business loan
Several key factors influence a lender's decision to approve or deny a business loan application. The following criteria are among the most important considerations:
Time in business
Lenders want to see that your business has been operating for at least a couple of years before approving a loan. This shows that your business idea is viable and that you've worked out any startup kinks.
You’ll see a “time in business” or “time in operation” requirement for most lenders. However, the threshold you need to meet varies by lender and the type of business loan you’re applying for. For instance, a business line of credit may require as little as six months in business for approval, while a Small Business Administration (SBA) loan may require at least two years in business.
Industry
The industry your business operates in matters, too. Generally, you’ll have more difficulty finding a lender that will even look at your application if you’re in a high-risk or restricted industry like:
- Speculative real estate
- Weapons manufacturing
- Gambling
- Cannabis and marijuana dispensing
- Pornography
- Donation-based nonprofits
- Auto dealerships
- Political campaigns
Credit history
As a business owner, your personal credit history and credit score will be checked. Lenders want to see scores of 680 or higher for the best interest rates. But depending on the type of loan and lender you choose, some may accept scores as low as 500.
Business loan lenders will also check your business credit report. Having a track record of on-time payments for both personal and business accounts shows you’re reliable.
Revenue
Lenders want proof that your business makes money. Because of this, many will require you to have a minimum monthly or annual revenue to get approved for a business loan. Submitting tax returns showing consistent revenue growth demonstrates your business model works. Because of this revenue requirement, many startups may find it harder to get a business loan.
Collateral
Having an asset you can pledge as collateral, like equipment or real estate, makes your loan safer for the lender if you can't repay. Generally, these assets must be worth enough to sufficiently cover what you borrow.
Even when collateral isn’t required, a business loan lender might ask you to sign a personal guarantee. This form indicates that if your business can’t repay the loan, you as an individual will be responsible for paying it back.
Loan purpose
In some cases, the purpose of your loan may also influence your approval odds or what interest rate you qualify for. Clearly stating how loan funds will be used, like expanding to a new location or upgrading equipment, improves your odds over loans for nonessential purposes. Lenders want to assess their investment risk, and stating your loan purpose helps them do that.
How to improve your chances of loan approval
Here are some tips to improve your chances of getting approved for a business loan:
Have a solid business plan
Take the time to create a thorough business plan that clearly outlines your funding needs and how the money will be used to grow your company. A well-thought-out plan shows lenders you're serious.
Also, only request the amount you truly need to fund specific business goals. Lenders are wary of overborrowing. Clearly define how funds will be spent to expand the business.
Get your personal and business credit in order
Arora said that "credit scores play a significant factor in bank loan approvals." He gives these tips to anyone struggling to get a business loan:
- Get a copy of your credit report and examine it for errors.
- Work with suppliers that have submitted delinquent payments on your account and try to negotiate alternate payment arrangements.
- Lower your credit utilization by reducing your credit use and amounts owed.
If that doesn’t work, Arora had one more tip: “If you don't have a long credit history, open a business credit card and make monthly payments on time and in full. Do this for six months and build a track record of paying back your debts.”
But be careful not to miss a payment or pay late — that could do more harm than good.
Alternative borrowing options for businesses
If you've been denied a business loan or don't meet the minimum criteria from traditional lenders, don't lose hope. There are still paths to financing your business goals.
- SBA microloans: Through nonprofit lending organizations, the SBA offers microloans up to $50,000 for working capital or supplies with lower credit standards.
- Merchant cash advances: Merchant cash advance companies will provide funding in exchange for a percentage of daily credit card receipts. It's a higher-risk option for lenders, so interest rates are higher.
- Peer-to-peer lending: Crowdfunding sites allow you to take out unsecured loans from individual investors. Rates may be lower than merchant cash advances.
- Equipment financing: Leasing equipment through finance companies can provide funds for assets to grow your business.
- Credit cards: You can also get funding through credit cards. While business credit cards can help establish your business credit, personal credit cards won’t. If you go this route, use cards responsibly and be sure not to miss payments.
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FAQ
What credit score is needed for a business loan?
Most lenders will require a minimum personal credit score of 680 or higher for the business owners and guarantors. Scores above 720 can qualify you for the best interest rates.
Does getting a business loan hurt your credit score?
This depends on whether you’re a sole proprietor and whether you’ve personally guaranteed the loan or used any personal assets to fund the company. If you have, then yes, your personal credit score could be impacted if you default on the loan. It’s a good idea to keep your business finances separate from your personal finances to avoid any messy situations.
Note that some lenders will do a hard credit pull on both your personal and business credit scores, which can also temporarily lower your score a few points.
How much revenue do you need to get a business loan?
Most lenders want to see at least six months of consistent revenue growth and financial stability, with some requiring at least one or two years. New businesses may find it difficult to qualify.
Can you get a business loan as a freelancer?
Yes, freelancers and sole proprietors can apply for business loans, but lenders will want to see a consistent income history through 1099 forms or tax returns to prove you can pay back the loan.
Bottom line
Securing a business loan has become increasingly challenging for small business owners. Lenders have tightened approval standards in recent years due to economic uncertainty and rising interest rates.
While it's still possible to obtain financing for your company, many businesses have the most luck with alternative lenders rather than traditional banks.
Article sources
- Statista, “Approval rate of small businesses loans in the United States from September 2019 to March 2023, by lender type.” Accessed Dec. 11, 2023.
- Biz2Credit, “Biz2Credit Small Business Lending Index™.” Accessed Dec. 11, 2023.
- Upstart, “680 Credit Score: What You Need to Know.” Accessed Dec. 11, 2023.
- OnDeck, “What is Collateral and Do I Really Need it for a Business Loan?” Accessed Dec. 11, 2023.
- SoFi, “Does Loan Purpose Matter?” Accessed Dec. 11, 2023.
- U.S. Small Business Administration, “Microloans.” Accessed Dec. 11, 2023.
- Intuit Quickbooks, “Does a business loan affect your personal credit?” Accessed Dec. 13, 2023.
