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3 Surprising Facts About Small Business Loans


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When the time comes to invest in new resources, a small business loan can help you stimulate production and grow. But what should you expect when applying for a loan? Is the road to approval quick and effortless, or is obtaining financing a complex, protracted process? The answer, it seems, lies somewhere in between.

According to Greg Britt, a First Bank Regional Credit Officer in Greenville, North Carolina, lenders devote substantial energy to understanding applicants’ businesses. More often than not, that means asking a lot of questions.

“The more willing a business owner is to help us understand their business model, the better the opportunity for a positive outcome,” he explains.

In other words, the more prepared you are as an applicant, the greater your chance of getting a loan. With that sentiment in mind, let’s analyze 3 of the most surprising realities behind small business loans.

1. Banks need lots of information

Evolving economic and regulatory conditions are changing how lending institutions approach small business loans. Compared to the years before the Great Recession, banks must request a much larger volume of information about an applicant’s business.

For first-time applicants, the amount of financial disclosures and planning they’re asked to provide often come as a surprise.

“Applicants need to provide a clear and concise plan about what they want to do,” says Lee Watson, First Bank Senior Vice President and City Executive. “We need to understand what they are doing, how much money is needed, and how they plan to pay it back.”

Basically, banks want to help you, the creditworthy borrower, finance your business activities. They just need a lot of background to confirm your readiness.

As Britt explains, “Many business owners want things to be ‘like the old days, when a handshake was worth something.’ At First Bank, a handshake does still mean something. However, we’re now in an operating environment where more financial disclosure is needed in addition to that handshake.”

Just be aware that lenders will, at the very least, ask for balance sheets, profit-and-loss reports, and cash flow statements. And that’s in addition to the plan for how you will invest and repay the loan.

2. Personal finances matter

Another big surprise for small business loan applicants—and this speaks further to the bank’s request for information—is that personal finances matter too.

Besides financial data related to the need for a loan, expect banks to request:

  • Credit history: This includes your FICO score, credit card balances, and record of on-time payments.
  • Personal financial statement: This document lists all of your assets and liabilities.
  • Tax returns: Access to recent tax returns helps lenders predict your business income for the current year.

Accessing this information gives banks what Watson calls “the global picture” about your financial situation. It helps the credit officer understand how all of your income streams, expenses, and lines of credit interact with one another.

“We’re trying to confirm that an applicant has the personal assets to help secure the loan,” he says. “Typically, we’re looking for a credit score north of 700, and above 720 is ideal. Personal liquidity helps, too, but we understand that it might not always be there, especially with startups.”

3. There are no hard and fast rules

By now you may be wondering whether having existing debts will prevent you from getting a small business loan. After all, the banks are asking for lots of information. They will be able to see if you already owe money to other lenders.

Thankfully, lending institutions rarely require borrowers to have a debt-free financial situation.

Many businesses apply for loans when they have few debts and a healthy cash flow, but others have no choice but to operate with a high debt-to-equity ratio. Every business is different, and banks understand that. There are no hard and fast rules about debt and equity.

“Some companies, like a manufacturer, may have higher fixed capital costs and would have a high debt-to-equity ratio,” explains Britt. “On the other hand, a service-only business would have a lower long-term capital need and should have a lower debt-to-equity ratio. What’s important to understand is that the bank is looking for the owner’s equity position in the business. The larger, the better.”

While debt-to-equity will vary according to the type of business, lenders will look closely at a business’s debt-service coverage ratio (DSCR). The DSCR, calculated by dividing net operating income by total debts, helps the bank determine whether you have the cash to adequately manage borrowing costs. Typically, banks want to see a DSCR of 1.25 or higher.

According to Britt:

“A debt-service coverage ratio of 1.25 shows us that after all debt payments are made, owners would have cash available to self-fund the business. Bear in mind that this number is a target and not an absolute. Everything depends on the overall health of the business, and many factors can come into play.”

Once again: there are no hard and fast rules. A significant strength in one area—for example, your personal credit score—can offset a weakness in another, like a DSCR just above 1. Your outstanding debts do matter, but the fact that you have debts doesn’t mean your loan will be denied outright.

“Have a clear concise plan and be ready to tell your story,” says Watson, adding, “If you can afford to have a CPA prepare your financial statements and projections, even better. It’s always nice for a borrower to say, ‘Would you like to speak with my CPA?’”

Ready to get started? Set up a free consultation with a First Bank business advisor.

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