If you’re trying to qualify for business financing, you’ll have to comply with certain small business loan requirements. Knowing the typical requirements prior to applying for financing can save you a lot of time and frustration as a business owner. We’ve compiled a list of key small business loan requirements.
To ensure that you are fully prepared to meet the small business loan requirements to obtain financing, you can download our comprehensive checklist.
1. Loan Amount
The amount of financing you need can directly impact your loan options. Different lenders have different thresholds for their minimum and maximum loan amounts. Traditional lenders, like banks and credit unions, are generally able to provide larger loan amounts. However, they also typically have more stringent qualification requirements. This is in contrast to online lenders, which often have more lenient qualification requirements but lower maximum loan amounts.
2. Intended Use of Funds
When applying for financing, you’ll need to be prepared to describe the intended use of the funds explicitly. While some lenders provide general working capital loans, other loan types like equipment financing have very specific loan purposes. To qualify for a loan with a specific loan purpose, your intended use must match that requirement.
3. Personal Credit Score
Some entrepreneurs are surprised by how much impact their personal credit score has on the ability for them to obtain business financing. Brian Cairns, the founder of ProStrategix Consulting, explains that your personal credit matters to lenders, “because these small business lenders will determine your ability to pay based on your creditworthiness. If you are overleveraged, behind, or defaulted with your personal debt, what’s to keep you from doing it with business debt where your personal risk is lower?”
Credit Score Categories
800 to 850
740 to 799
670 to 739
580 to 669
300 to 579
While many small business lenders advertise that they have low minimum credit score requirements, this doesn’t mean that a borrower with a low credit score will qualify for the lowest advertised interest rates.
“It’s unlikely that you will qualify for a low-interest rate from a small business lender if your personal credit score is less than 700 (check your score for free) even in a booming small business lending market. For instance, a score of 720 seems to be the magic number. Above which, your rates start to decrease and, below which, they increase fairly dramatically. If your score is under 700, you probably should focus on fixing your score first. Then, you are ready and in a better position for negotiations. If not, then be ready to pay high levels of interest even in a booming small business lending market.”
4. Business Credit Score
While there are a few different measurements for a business credit score, the most commonly used is the Dun & Bradstreet PAYDEX score. The PAYDEX score is an indicator of how likely your business is to repay its debts on time. It is based on your business’s payment history over the prior 12 months and is measured on a scale of zero to 100. Lenders are going to want to see that you have a good business credit score.
Dun & Bradstreet PAYDEX Categories
Dun & Bradstreet PAYDEX Score
80 to 100
50 to 79
0 to 49
New businesses often have credit scores in the fair to poor range because they haven’t had the opportunity to build their business credit yet. Having a low business credit score does not preclude you automatically from being able to obtain financing. However, you will likely be required to provide a personal guarantee and qualify for financing based on your personal finances.
5. Time in Business
Finding business financing as a startup can be difficult. Lenders often require at least six months of business operations, with some lenders requiring two years or more. Knowing a lender’s time in business requirements can save you from applying for a loan that you don’t qualify for based on the age of your business.
6. Business Plan
While a lender may not directly request a copy of your business plan, this is a business tool that you should already have prepared prior to seeking financing. Your business plan serves as a guide for your business and shows that you have put thought and research into the many facets of your business, including your competition and financial projections.
7. Market Study
While competitor and market research should be part of your business plan, your lender may request that you provide them with a more in-depth market study. The market study will show that you have a firm understanding of the industry, your competition, and consumer demand for your product or service.
Many lenders maintain a list of industries that they are unwilling to lend to. In many cases, the restricted businesses are those that typically have a perceived ill reputation, such as adult entertainment and, more recently, the legalized marijuana industry. Each lender maintains a list of businesses it is unable to lend to. While many openly publish their lists, it may not be as obvious with other lenders, and you may have to ask directly prior to applying.
9. Business Entity Type
Most lenders will require that you disclose your business entity type on your application. Generally, your entity type alone will not have any bearing on whether or not you receive funding unless you are applying for financing that is only available to a certain business type. However, it informs the lender as to what organizational documents they should review as part of your loan package.
10. Licenses & Permits
A business license to operate a business in most states, the exact requirements for when you must apply for a business license vary. Your lender will want to see proof of proper permitting and licensure as part of your loan application. This will assure the lender that you are compliant with state licensing laws as well as proving that you are the owner of the business.
11. Employer Identification Number
An employer identification number (EIN) is assigned to a business―much like an individual’s Social Security number. This number is used to identify the business for tax purposes, opening bank accounts, applying for credit, and other business activities. While not all businesses are required to have an EIN, if you have employees or are operating under certain business structures, you will be required to apply for an EIN.
Unless you intend to apply for an unsecured business loan, you likely will need to have some collateral to pledge against your loan. Collateral serves as a type of insurance to the lender. If you default on the loan, the lender can take possession of the pledged collateral as repayment.
In addition to assigning physical collateral, many lenders will also require that business owners sign a personal guarantee. A personal guarantee holds you personally responsible for the debt in the event the business is unable to pay its obligation to the lender.
Part of meeting the qualification requirements for your loan will likely include having adequate insurance coverage. This could include having proper coverage for general liability insurance, property insurance, or auto insurance. The exact requirements for insurance coverage will vary based on the type of loan you are applying for, and the collateral you are using to back the loan.
Mike Raines, the owner of Raines Insurance Group, offers insights into one type of insurance that often surprises small business owners when they are seeking financing:
“Often, banks and lending sources such as SBA [Small Business Administration] want a life insurance policy in place to collateralize the loan in case something happens to the borrower. Most of the time the borrower is caught off-guard and is scrambling to find coverage. If an individual has a health condition or perhaps participates in a high-risk hobby or occupation this can make finding coverage even more difficult. Many lenders will not finalize a loan before this important coverage is in place. A borrower should have a good working relationship with a broker who represents dozens of the highest-rated life insurance carriers to insure a smooth process.”
14. Annual Business Revenue
Most lenders have a minimum annual business revenue requirement. Prior to applying for a loan through a particular lender, you should make sure that your business’s annual revenues meet or exceed this minimum requirement. If the lender does not openly share its minimum revenue requirements, be sure to inquire with the lender prior to completing your application.
15. Bank Statements
Recent business bank statements are often required as part of the loan documentation requested by lenders. In general, you can expect to provide 6 to 12 months’ worth of business bank statements. While other financial documents provide the lender with an overall idea of your business’s financial standing, bank statements provide insight into the business’s day-to-day management of cash flows.
16. Balance Sheet
One of the financial documents you will likely be required to provide is your most recent balance sheet. Your balance lists your assets, liabilities, and owner’s equity as of a specified date. The lender will review your balance sheet to understand the net worth of your business. A balance sheet is effectively a snapshot of your business’ financial position at one specific point in time.
17. Profit & Loss Statement
Another business financial document the lender is likely to request is a profit and loss (P&L) statement. The P&L statement may also be referred to as a P&L, income statement, statement of earnings, or a statement of operations.
Regardless of the name, this document provides a summary of your revenues and expenses over a given period of time, such as month, quarter, or year. Your lender will review your P&L statement to see if your business is currently making money or losing money.
18. Personal Tax Returns
As an owner of the business, your lender will want to see copies of your individual tax returns. This is especially true if your business income and expenses are reported as a schedule C on your personal returns. In general, you can expect to provide the prior two years of tax returns to the lender.
19. Business Tax Returns
Similar to personal tax returns, most lenders will require that you submit at least two years’ worth of business tax returns as part of the application process. The lender will review the tax returns to verify the profitability of the business as well as the revenues and expenses. Chris Baumann, Team Leader at Socotra Capital, warns of a common tax mistake that small businesses make, saying:
“One of the most common mistakes made is ‘cooking the books’ to avoid paying taxes. It might seem nice to save a couple of bucks, but it will come back to haunt you if you are trying to get approved. Don’t even consider it as the trouble you can get into is not worth staving off the tax man for a short time.”
While underreporting income on a tax return may save you tax expenses, the lower reported income will not benefit you when you apply for financing. The legal implications are for more worrisome than the inability to obtain financing as well.
20. Business Leases
If you currently lease the building that houses your business, or any equipment used in conjunction with your business, you should be prepared to provide copies of these leases to your lender.
21. Business Debt Schedule
Another financial document that many lenders will want to review is your business debt schedule. A business debt schedule lists all of your debts, including the remaining unpaid balance, the amount of the payment, and the payment due date. The information in your business debt schedule will be used in part to calculate your debt service coverage ratio.
22. Debt Service Coverage Ratio
Your debt service coverage ratio (DSCR) is a financial measure used to determine the ability of your business to repay debt. It is calculated by dividing your net operating income by your total debt and interest payments.
In general, lenders are going to want to see that you have a DSCR of 1.25 or greater to approve you for a loan. A DSCR of 1.25 indicates that your business makes 25% more income than it needs to service its current debts.
23. Accounts Receivable & Accounts Payable Aging Reports
An accounts receivable aging report groups all unpaid customer invoices by the number of days outstanding. Similarly, an accounts payable aging report shows all unpaid expenses by the number of days outstanding. These two reports show the lender how proficient your business is in collecting payments from customers and how promptly it pays its outstanding bills.
24. Disclosure of Ownership & Affiliations
To avoid any potential conflicts of interest, your lender will request that you provide a disclosure that lists any ownership interests that you or your partners have in other businesses. In addition to ownership interests, you should also be prepared to disclose any other professional affiliations you have, such as being on the board of another business.
25. Legal Documents Pertaining to Business Entity
Your lender will want to see the legal documents pertaining to the establishment of your business entity. These documents show how your business is set up, who else has an ownership interest in your business and provide proof that your business is operating as a legal entity.
The required legal documents pertaining to your business entity may include (as applicable):
- Articles of incorporation
- Corporate bylaws
- Limited liability company (LLC) operating agreement
- Partnership agreement
- Franchise agreement
26. Other Legal Contracts & Agreements
If your business has entered into any legal contracts with other entities, you will likely be required to provide copies of these contracts to the lender. These may include contracts with suppliers or purchase agreements for real estate, business acquisition, or equipment purchase.
Some examples of other contracts and agreements that you may have to provide include:
- Any contracts you have with suppliers or other third parties
- The sales agreement, business financials, and information about the business you are purchasing (for acquisition loans)
- Commercial real estate purchase and sales agreement (for real estate acquisition)
- Equipment purchase agreement (for equipment financing)
Being aware of these common small business loan requirements in advance can prepare you to qualify for financing your business needs. Exact qualification requirements for a business loan vary by lender, making it important that you enquire about the requirements in advance of completing an application.
How to Qualify for a Small Business Loan
Qualifying for a small business loan is as simple as knowing the lender’s qualification requirements and as difficult as meeting those requirements. In general, the more qualified you are, the better the chances you have of being approved for a loan. Some steps you can take to be a more qualified applicant include knowing how much funding you need and improving your credit scores.
1. Determine the Amount & Purpose of the Loan
The first step in qualifying for a small business loan is to determine what you will be using the loan proceeds for and how much financing you need. Some lenders have small business loan requirements that dictate what the loan funds can be used for and/or have set minimum and maximum loan amounts.
Selecting a lender that allows your intended use of funds and can provide the amount of funding you need will improve your chances of being approved.
2. Improve Your Personal & Business Credit Scores
Improving your personal credit score and business credit score will not only increase the likelihood of qualifying for a small business loan but will also increase the number of lenders that will be willing to lend to you. To improve either your personal or business credit score, the most important step you can take is to pay your bills on time.
Having a personal credit score of 680 or greater will allow you to qualify for better rates and terms with most lenders. The higher your credit score, the lower your interest rates may be. Lender’s use your credit score to determine your level of risk as a borrower. A higher score equates to less risk to the lender, which means a lower interest rate for you.
3. Know the Minimum Qualification Requirements
Knowing a lender’s minimum qualification requirements in advance can allow you to predetermine if it’s worthwhile for you to apply. It won’t make sense to apply for financing if you can’t meet the minimum requirements as your application will immediately be denied.
Michael Drake, the president of PMG Home Loans, tells us why knowing the requirements for a business loan is so important, stating that:
“A business owner who wants to apply for a business loan must first be aware of the credit requirements. Each banking institution will have their own guidelines. Other requirements include asset reserves, collateral, and a solid business plan. A business owner should first contact the bank representative to obtain that bank’s specific requirements for a business loan application. I’d recommend contacting several banks to compare requirements. Find the best lender and find the right loan.”
4. Have a Strong Business Plan
Having a well-developed business plan is not only important to obtaining financing, but it’s also crucial to the success of your business. Preparing a business plan forces you to consider many different aspects of your business and how those various pieces work together to form a successful business. Lenders will want to see that you have spent significant effort on your plan, that you have evaluated your competition, and have detailed and achievable financial projections.
5. Gather All Necessary Documentation
Review your loan application to determine the documents you will be required to submit with your application. If there are documents on the list that you don’t have readily available, take the time to gather or create the necessary paperwork to provide with your application. If you are unclear as to what is being requested, reach out to the lender for further clarification.
6. Provide Proof of Collateral
If you are using business or personal assets as collateral for your loan, you will need to provide proof that these assets are not being used as collateral on another loan as well as the current value of the assets. An appraisal may be required as part of the loan requirements and must be completed by a certified appraiser. If you are using the loan to purchase equipment, the equipment itself may be used as collateral for the loan.
7. Complete the Application
When completing the application, make sure that you do so legibly and that all fields are completed in full. If you have a question about any of the details requested in the application, you should contact the lender for clarification. Most applications will include a list of supplemental documentation that needs to be submitted as part of a complete application package, use this list as a checklist and provide all of the documents requested.
Mistakes to Avoid When Applying for a Small Business Loan
Applying for business financing can be complicated and often requires a lot of effort on the part of the small business owner. To ensure that your application isn’t returned or rejected needlessly, make sure you avoid some of the common mistakes that small business owners make when applying for funding.
Failing to Complete Applications
Failing to complete the application in its entirety can result in the lender having to make follow up inquiries with you to get the information or the application being returned to you without action. In either case, this delays your application being processed. To avoid this, after completing the application, take the time to review it thoroughly and ensure that all of the information requested has been provided.
Including Inaccurate Information
The information you provide on your loan application should be completely accurate. Keep in mind that a lender will thoroughly review your application, and use supporting documents to verify all of the information you report. Providing false information on a loan application, or worse falsifying documents, is considered fraud and can result in legal action, including fines and jail time.
Forgetting to Submit a Required Document
Small business loan applications generally include a list of business documents you will need to provide the lender to substantiate the information you provided. Prior to submitting your loan application package, you should review this list to make sure you have provided everything that was requested. Forgetting to submit a required document could delay the processing of your application or cause your application to be returned or rejected as an incomplete application.
Not Knowing Your Credit Scores
Your credit score is one of the first aspects of your loan application that is reviewed by lenders. It is also one of the easiest of the small business loan requirements for you to verify yourself prior to applying. You can check your score for free to find out if you meet the lender’s minimum qualification requirement. Failing to meet the minimum credit score requirement is a fast way to get your loan declined.
Making Major Changes to Your Business
Making major changes to your business during a time when you are applying for financing is unwise. Lenders will want to see that your business is stable and making significant changes to key personnel or business operations may cast doubt on that stability.
If you have recently made major changes to your business, you may want to wait six months or more before applying for significant financing—like an SBA loan. Depending on the nature of the change, such as a change in management, a lender may still be willing to work with you. Prior to applying, contact the lender to determine whether these changes will impact your ability to qualify for a loan.
Missing Lender Deadlines
Throughout the loan process, your lender is likely to request that you provide additional documentation or clarification of the information you have already provided. The lender will often provide a deadline by which this additional information must be received for the application to proceed. Missing a deadline could cause your application to be terminated, making it crucial that you stay on top of these deadlines.
Knowing the requirements for a business loan allows for you to be prepared to provide the necessary information to a lender when you apply for financing. While lenders each have their own specific qualification requirements and metrics, much of the information that you will be required to provide will be standard regardless of which lender you choose to work with.