The Ultimate Guide to Small-Business Loans

Congratulations! You’ve arrived at the Ultimate Guide to Small Business Loans—the most comprehensive, completely ungated, freely available information on the internet today about small-business loans (and other types of funding).

You see, one-quarter of businesses can’t get the funding they need. What’s a small-business owner to do?

Well, it’s just like G.I. Joe always said: knowing is half the battle. When you understand your funding options and know how to improve your attractiveness as a borrower, you can apply for the right loans and boost your odds at getting the financing you need.

So we made this guide, which will tell you everything you need to know about business loans and how to find funding. Let’s get started.

Does the process of getting a business loan feel mysterious and randomized? We get it. Lenders consider lots of factors when you apply, and they often don’t provide much transparency into their approval process. Never fear, though—we’ll take you through the whole journey step by step.

To get started, you need to figure out why you want a loan in the first place. That might sound obvious, but you should know how you’ll use a loan before you decide what kind of loan to get. After all, a real estate loan won’t help you with cash flow, and a merchant cash advance won’t buy you a new building.

You also need to have a clear “why” so you can justify your loan needs to lenders. Think of it like this: would you rather lend your friend $500 just because they want it or because they need the money and have a plan to pay you back? Just like you, lenders prefer lending to people who will use money wisely and repay the loan.

But having a why is just step one. You also need to figure out what kind of loan you want and choose a lender to apply to. We’ll cover those topics in depth in a minute, but first, let’s break down how lenders will evaluate you and your business.

Unsurprisingly, lenders use your past credit performance to figure out how you’ll handle new credit. They look specifically at two things: your personal credit score and your business credit score.

Yes, business loan lenders evaluate your personal credit score—the same score you use to buy a car or get a personal loan. Most small-business lenders ask for a score of at least 620; if you have a lower score, expect to have limited choices. As a general rule, as your credit score increases, so do your credit options.

So how do you get that high credit score lenders want? Nobody knows the exact algorithms that determine your FICO credit score (except FICO, of course), but we know the factors: your payment history, how much you owe, how much new credit you have, how long you’ve had credit, your debt-to-limit ratio, and the diversity of your credit history. Improve those to improve your score.

Pop quiz: what’s your business credit score? If you’re like 72% of small-business owners, you have no idea.² You may not even know you have a business credit score. But you do, and it works a lot like your personal credit score, except the numbers get calculated by different formulas (meaning a 100 is a great score).

To build business credit and improve your score, start by making sure your business has a name, legal entity, and an employer identification number (EIN) from the IRS. You should also open a business-specific bank account and get a D-U-N-S number. As you get credit and loans, pay them off on time. Then watch your credit score climb.

When lenders look at your cash flow, they want to know more than how much your business makes. That is, they want to know that—but they also want to know how you manage those earnings. After all, if you spend money as soon as you get it, you might struggle to make loan payments.

Consider: do you manage your business finances so you can always pay bills on time, or do you often end up paying late? Do you use your profits to help your business grow, or do you spend it all on piña coladas and personalized mouse pads? Proving you have a handle on your cash flow will make you more attractive to lenders and help you get the best business loans.

It’s age before beauty in the lending world. As a general rule, the longer you’ve been operating, the more funding opportunities you’ll have. In fact, many lenders won’t extend loans to businesses less than one year old, even if your business looks good otherwise.

You obviously can’t do much about your business’s age except, well, stay in business and look forward to a future of better loan choices. Until then, you may want to look for startup-specific loans (which we’ll talk about later).

Lenders will also look at how much debt you already have, since they want to know if you’ll have the ability to repay any new debt. After all, more debt means less profit. And if you default on all your loans, lenders won’t want to compete with each other to get a piece of your asset pie.

If you’ve taken out four loans in the past month and your debts surpass your earnings, a lender will probably think twice before giving you financing you probably can’t afford. On the other hand, if you have a 15-year real estate loan that you faithfully make monthly payments on, lenders shouldn’t reject you out of hand.

Lenders will want to know what you have to offer as collateral for your loan, particularly if you apply for a secured loan. Small-business lending carries risk, so think of collateral as your way of sweetening the pot. If you don’t repay your loan, what do they get in return to make the loan worthwhile?

Collateral often includes equipment, vehicles, real estate, or even customer invoices. And even in cases when lenders don’t require collateral, you may still have to offer a personal guarantee, which puts your own assets on the line if you don’t repay your loan.

Finally, lenders will consider your business’s industry. How do forecasts look for that industry’s future? For example, most lenders would rather give a loan to an elder care provider than to a business making pagers.

Industry considerations also include the density of similar businesses in your area. Lenders may hesitate to fund a vacuum repair shop if four others already exist in a one-mile radius. Also, many lenders simply won’t touch certain industries at all, such as the marijuana and adult entertainment industries.

Now you know how lenders will evaluate your application, and you feel ready to show them how deserving you are. But what kind of loan should you even apply for?

If you thought business financing begins and ends with term loans, then boy do we have news for you. Terms loans are just one of the many types of funding you can get for your small business.

In this section, we’ll look at the various loan choices available to you and discuss why you may or may not want them.

You probably already know something about term loans, but let’s refresh: a term loan gives you an up-front lump sum of cash. You pay back the loan, plus interest, over a length of time known as your term. For short-term loans, your term could be as short as a few months. Most term loans, however, have a term between one and five years.

Term loans often have low interest rates and lengthy terms that make them desirable for business owners. That being said, these loans usually have early repayment penalties, and some people won’t like the idea of making a years-long financial commitment. And to get the best deals, you’ll need a strong credit history, so startups or people with bad credit might want to look at other options.

A business line of credit (LOC) provides a form of revolving credit, so you can use only the money you need. As you repay what you use, plus interest, those funds come available for you to borrow again. You get a constant source of working capital, with no need to reapply. This makes lines of credit a great way to cover short-term cash flow problems and to anticipate future financial hiccups.

LOCs tend to have lower APR than credit cards and even some loans; however, they often have stricter credit history requirements. Plus, most lines of credit will require a personal guarantee, which leaves you responsible for the debt if you default. And if business slows, some lenders will lower your credit limit.

As another form of revolving credit, business credit cards let you use the money you need, pay it back, and use it again. Credit cards have the advantage of being accepted just about anywhere—whether you take the office out to a business lunch or make a run to buy more staples—so you don’t need to plan ahead with this form of funding.

Business credit cards generally come with lower credit limits and higher APRs than lines of credit, which makes credit cards best suited to smaller expenses that you can quickly repay. Not only will this save you on interest, but it will help you build good credit through your small, everyday purchases.

There are several types of SBA loans, and they all come backed by the US Small Business Administration, which means they have low interest rates, small down payments, and long terms. Sounds like a good deal, right?

Yes, but there’s a but. You have to meet some pretty specific qualifications to qualify for an SBA loan, like getting rejected for private funding and fitting the SBA’s definition of a small business—and that’s in addition to meeting any other lender requirements. Also note that getting funding from SBA loans can take a while. Still, it’s often worth the wait.

As you might guess, equipment financing gives you funding to purchase or lease equipment for your business. In this case, the word “equipment” applies more broadly than you might think—it applies to big construction equipment, yes, but it can also refer to desks for your office, couches for a waiting area, breakroom coffee machines, or even software.

Because your equipment serves as collateral for the loan, even people with bad credit can qualify for equipment financing (though you’ll get better rates with good credit). Just make sure you use it to get durable equipment that won’t soon become obsolete; otherwise, you might find yourself paying off a broken, out-of-date piece of junk.

Commercial real estate loans provide funding to purchase real estate for your business. Many versions of real estate loans exist, but most come with long terms (think 15 to 30 years long) and low fixed interest rates.

With a commercial real estate loan, the real estate you purchase serves as collateral, so things like the location and the usability of the property can affect the kind of deal you get. Also, commercial real estate loans have some of the longest funding wait times, and they often have pretty strict credit requirements.

Cash flow loans include several types of loans designed to help with short-term cash flow needs. If, for example, you’re waiting on clients to pay their invoices but the bills are due, these loans can get you quick cash when you need it. Cash flow loans include lines of credit, merchant cash advances, invoice financing, and short-term loans.

These cash flow loans carry higher fees than traditional term loans, but they also have looser application requirements, so they work well for people who don’t have the time or the credit to get a term loan through a bank. Borrow carefully, however: businesses usually get cash flow loans in expectation of a cash influx (from invoices, for example); if that influx doesn’t come, you could find yourself in a financial bind.

A merchant cash advance (MCA) gives you an upfront sum of cash, which you repay with a fixed percentage of future credit card and debit card sales. People with bad credit often turn to MCAs because they have virtually no requirements aside from you having plenty of credit card sales, and these loans get funded in just one or two days.

Merchant cash advances don’t accrue interest; instead, a factor rate determines your fees, which usually amounts to 20%–50% of the advance amount. This fee method can make MCAs look like a good deal, but if you do the math, you’ll see they come with super-high APRs when compared to pretty much any other kind of funding.

With invoice factoring, you sell unpaid invoices to a factoring company; in exchange, you get a percentage of the invoice as upfront cash, with the remaining percentage following after the invoice gets paid. Invoice financing, on the other hand, gives you a loan for the amount of an invoice. You pay back the loan plus fees over a short term.

Factoring and financing provide another way for businesses with poor credit to get funds quickly, though these methods have relatively high fees and (often) low maximum loan amounts. Plus, invoice factoring could hurt your company’s reputation, as the factoring company contacts your customers to collect on invoices. If you don’t want to risk your customers knowing about your financial woes, use financing instead.

Trade credit, also known as mercantile credit, allows a buyer business to purchase goods from a supplier business on credit in exchange for promised future payment. The supplier generally sets the precise terms, which can vary from one week to several months, but a 30-day term is pretty standard.

In most cases, trade credit doesn’t accrue interest, and some suppliers even offer discounts for buyers who repay early. This makes it great for businesses that need to delay payment just a little to smooth over cash flow issues. Plus, many suppliers report to credit bureaus, so you can build business credit through trade credit. Not all suppliers will do this, though, so ask your suppliers to find out if they do.

As the name suggests, microloans are like term loans, but smaller. Generally, microloans come in amounts of $50,000 and less. (For reference, the average SBA microloan is $13,000.)³ These small amounts make microloans easier to get than large term loans, but microloans usually have higher interest rates than their larger cousins.

Of course, microloans might be too small for some funding needs; however, microloans allow you to borrow smaller amounts than traditional banks, so you don’t have to pay for money you don’t actually need. And if the funds fit, microloans provide a good option for building your business credit, and you can usually get funded within about two weeks.

Most small-business owners turn to lenders for funding. But, surprise! You have other choices. These funding sources don’t count as loans and don’t come from lenders, but they’re definitely worth checking out.

You’ve probably seen how crowdfunding sites work: someone pitches a product they want to produce, and interested people contribute money to the cause in return for some kind of reward. It’s good money if you can get it—but you’ll have to create a slick pitch first, which often means creating professional videos and tempting reward offers.

Crowdfunding works especially well for businesses that cater to niche interests, which often translates to businesses that traditional lenders don’t want to touch. As a bonus, you can get customer feedback on your product before launching. Just stay mindful of fees and taxes, which can vary from site to site.

It might sound gauche, but you can always ask family and friends to help you fund your business. These people, who know you personally and want you to succeed, may be willing to invest in your fledgling business even when banks shy away.

While many businesses get funded this way, we caution you to think carefully before accepting funds from your family and friends. Can you use their contributions to boost your business and make everyone proud? Or might you misuse that money and then have to deal with side-eye from Aunt Anna at every family dinner?

You’ve seen angel investors on Shark Tank: business people who want to fund your business in exchange for equity. Again, these investments aren’t loans. You won’t have to repay them, which makes angel investors an appealing option—even if you do have to give up a little equity.

Plus, angel investors usually offer business expertise, giving you guidance and mentorship as your business grows. Just keep in mind that angel investors are hard to find, and they usually only invest in businesses that have the potential to make it big; if you just want to be a mom and pop retail store, they likely won’t be interested.

Grants offer you free money. Just apply, get selected, and then use the cash to build your business. It sounds easy, but you’ll have some stiff competition, and grants often have lengthy applications that you have to submit during brief application windows.

Still, free money is free money. Look for grants geared toward certain regions or toward specific groups. You’ll likely have less competition if you apply for a grant that goes to Asian American women starting their first business in South Dakota than if you apply for a nationwide grant for small-business owners (assuming, of course, that you are indeed an Asian American woman starting her first business in South Dakota).

Now you know what kind of loan (or non-loan financing) you want. But where do you go to get it? It’s time to talk lenders.

Before we talk in depth about lenders, you should know that not all lenders offer all types of loans. Some lenders offer only one or two loan types, while other lenders can hook you up with all sorts of financing.

So if you have a strong preference on the type of loan you get, you should figure that out before you start shopping around for a lender.

If you think lender-shopping means simply deciding which bank you want, think again; banks have some stiff competition these days. In fact, you have three types of lenders to choose from: traditional lenders, online or alternative lenders, and peer-to-peer lenders.

Let’s look at how they compare.

When you hear “traditional lenders,” think banks and credit unions, especially those with brick and mortar locations. For example, the four largest US banks count as traditional lenders. You probably recognize their names:

• Chase
• Bank of America
• Wells Fargo
• Citigroup

All of them have small-business loan products. But these four are just a few of the options. You’ll find plenty of smaller banks and credit unions throughout the country and in your own community.

Traditional lenders have a reputation for offering better rates and terms than their online competitors. They also offer higher loan amounts and credit limits. If you want the absolute best loan deals, most people agree you should work with a traditional bank.

Those deals, however, come with two catches: first, traditional banks usually have stricter small-business loan application criteria than alternative lenders. Banks tend to demand a higher credit score and more time in business, making them inaccessible to many borrowers.

Second, banks aren’t exactly speed demons. Compared to the 10-minute applications offered by many online lenders, traditional lenders often use slow (some would say archaic) methods to review your loan request. And where some web-based lenders can put money in your PayPal account within minutes, banks will likely take longer to get your funding.

You can see why banks might be in trouble.

Still, banks offer top-notch loans at competitive rates. If your business qualifies for a bank loan, you might get a great deal. Just settle in for a bit of a wait.

Online lenders provide an alternative to traditional banks, hence the name “alternative” lenders.

Several types of lenders get grouped under the alternative lender heading, including direct lenders, which actually provide funding; lending marketplaces, which connect borrowers to lenders; and sometimes even peer-to-peer lenders, which we’ll discuss in just a moment.

Alternative lenders usually provide faster funding than banks. Some, like Kabbage and Fundbox, even have automated loan application processes so you can get near-instant approval. Other online lenders have slightly longer—but still short—applications, and most brag about getting you funded within a matter of days (or less).

Plus, online lenders offer financing to people without perfect credit. While most lenders will still have some kind of minimum criteria for applicants, they’ll ask for lower credit scores and annual revenue than most traditional banks.

These perks do come with higher interest rates, shorter terms, and lower loan amounts than you can get from a traditional bank. But don’t fret too much about that—with as many lenders and loan options as you have, you can probably find something that works for you.

Besides, if you really need financing but lack the credit history to get it from a traditional bank, settling for higher rates is probably a better option than simply not getting a loan.

You may see peer-to-peer lenders grouped in with alternative lenders (they are, after all, an alternative to banks), but they merit their own explanation.

Peer-to-peer lending platforms connect borrowers looking for financing with lenders looking to invest some funds. So rather than borrow from a lending company, you borrow from a lending person. Or persons.

With popular peer-to-peer websites, you generally apply for a loan, get funding, and make payments through the platform. Funding Circle, for example, works this way. So while you’re really borrowing from private investors, you might not notice much of a difference from alternative lenders.

Peer-to-peer lenders offer reasonable rates for applicants with good credit, but those interest rates quickly climb for borrowers with worse credit. Either way, peer-to-peer lenders offer fast funding.

You should note that the peer-to-peer lending industry, young as it is, lacks the regulations that govern other lenders. This could add some risk to your borrowing—but plenty of borrowers report great experiences, so you probably shouldn’t lose sleep over it. As with any loan option, just be sure you have a repayment plan.

Once you choose a lender, you can get ready to apply. But first, we have a few more things you should know.

Some loans or other types of financing work best for people with specific needs or considerations. Likewise, some forms of funding exist specifically for members of certain groups. Here’s a few such loans you should know about.

Startups often don’t qualify for traditional loans and forms of financing, as many lenders will only lend to businesses that have been operating for at least a year (if not more) and that have established business credit.

Fortunately, you can find some solutions. Some of the best startup loan options include lenders who require less time in business and offer flexibility on the required minimum annual revenue. These loans can help startups find the funding they need to get out of the startup stage.

Getting a loan with bad credit can prove difficult. Depending on your credit score, poor credit can make it hard to get funding at all; even if you do, it often comes with sky-high rates.

As we just noted with women, loans for minorities don’t exist. At least, loans exclusively for minorities don’t exist. You may find certain lenders who gear their websites or educational resources toward minority groups—offering materials in multiple languages, for example—but that’s not the same thing as a loan exclusively for minority business owners.

Again, however, you will find plenty of grants earmarked for minority groups. Let your fingers do the googling, and you might be surprised at how many relevant grant opportunities you find.

In the past, you could find several loan options exclusively for veterans, such as the Patriot Express program or the SBA Veterans Advantage program. These have expired and no longer exist.

Outside of loans, however, you can find some useful funding options for veterans—like grants for veterans, angel investors who fund veteran-owned businesses, and discounts on franchising opportunities.

Now you know all about what loans you can get and where to get them. So how do you prepare to apply?

As we mentioned up top, lenders will consider everything from your business’s age to your cash flow to your credit score, but each lender and type of financing may have its own loan requirements.

Generally, however, you can prepare to apply for just about any loan by preparing these basic things.

Your business needs its own identity. Start by establishing your business’s name, address, phone number, and EIN (you can request this from the IRS for free). You should also open a bank account just for your business—no mixing your personal and business accounts.

Making your business an actual legal entity, such as an LLC or a corporation, will further bolster your business’s identity. Most states allow you to do this quickly and simply with an online application.

Not only will these steps legitimize your business, but they’ll also help you build business credit, so you can qualify for better loans.

It’s not enough to simply call your business “My Name, LLC.” Lenders will want to see documents that show your business is actually in legal order.

Expect to produce things like your business license, your business’s articles of organization, and any other supporting documentation that proves your business is legit.

Tax returns also show your business is in good legal standing, at least with the IRS. Plus, they show that you’ve accurately reported your past income in your funding application.

Lenders often ask for just the previous year’s tax returns. Still, you should locate returns from prior years, too, just in case you get asked to produce them.

Along with tax returns, you’ll need to show other financial statements. These include profit and loss statements (P&L) and balance sheets.

Lenders will use these not only to look at your revenue, but also to assess your cash flow situation and to get an overall picture of your business’s financial health.

As a small-business owner in need of funding, you have a lot of funding options, but you don’t have to be overwhelmed. Just refer back to this guide to understand what loans you can get, who offers those loans, and how to apply for them.

Remember, each type of financing can give you the cash you need to grow your business, but each option also comes with unique pros and cons. Likewise, some lenders will work better for your situation than others, so make sure you understand your business’s unique needs.

Armed with knowledge about your business and the choices available to you, you can make wise funding decisions that will help you reach your business dreams.

Now go get that funding!

Disclaimer

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