Why Getting A Small Business Loan Can Be Difficult
Most business owners do the same thing when it comes to financing: collect a bunch of documents, go to their local bank……and pray.
While going to a traditional lending institution can offer some great products, it’s certainly not the best avenue for business owners looking to access capital.
In the modern world, businesses that are strapped for cash or growing rapidly, need cash quickly.
But traditional banks don’t have the key ingredient that business owners need; Quick turn time
Many times business owners can spend several hours collecting their documents a bank may require and then wait 10 days for the bank to pull their credit (no joke).
Just take a look at this below: We pulled this directly from sba.gov
As you can see there is a ton of documents to get in to start the process.
This can be a daunting task.
But below you’ll see why all this documentation is required.
Here is a picture comparing the number of SBA 7(A) Loans and the average SBA loan size over the last 10 years.
As you can see the number of SBA loans has fallen drastically and the size of the loans have gone up.
Why is that?
There are several reasons why this is the case but before we explore those reasons consider this:
The average SBA loan in 2012 was right at $350,000. Is it safe to assume that all businesses that need a cash infusion need $350,000?!
Three hundred fifty thousands dollars is a massive amount of debt for your average small business.
In a study done by Forbes Magazine the average small business generates $44,000 a year.
There’s not a bats chance in hell the average business could take on the average amount of debt the SBA and large banks divvy up.
OK. There’s my rant.
Let’s dig in to why getting a small business loan at a traditional bank is tough to accomplish.
1. They don’t make any money on you.
Let’s be real. Banks are businesses and they need to make money.
While their CMO’s do a great job of describing the bank as a depositor friendly place, they operate to make money.
When your average business owner comes in and is making $44,000 a year and the average bank loan in $337,000 and the average rate is 6.25%, do the math.
On a 10 year $337,000 at 6.25% the present value of the note at year ten is $454,060.71.
So here’s the math of the deal.
All is all the bank makes $117,060.71 over the course of 10 years or a whopping $11,706.07
Now to a business owner doing $44,000 a year the $11,706.07 sounds like a pretty good deal.
But check this out:
If you go to yahoo finance and type in “BOA” and check the income statement, you’ll see Bank of America had total revenue of $95,181,000,000.
Here’s my point.
They don’t make any money on you, the small business owner.
That’s literally 1.2298e-7
2. Most business owners cannot qualify
At a recent study done at BizJournals.com only 1 in 5 small businesses that apply for an SBA program can be approved.
A) Credit Requirements
For starters the average credit score for an approval at a traditional bank for a small business loan is minimum 680.
If you’re below a 680 you can bank on the fact you will not be approved. Unless your compensating factors (time in business, revenue, use of funds statement, business credit, etc) are so outstanding, that the branch manager calls in a favor.
B) Revenue Requirements
As we pointed out earlier, the average business in America generates $44,000 a year. Here at Ventury Capital we cannot get an approval through the SBA unless a business owner has generated $200,000 a year.
That makes it five times the National Average.
We believe the reason behind this, regardless of margin, personal credit score, time and business is due to the fact they cannot make money on such a small loan.
C) Documentation Requirements
Above you see the list of documents requirement for submission.
It’s a lot.
Quite frankly most businesses don’t have all these documents ready to go at the time they need money.
They just know they did the money.
So there is the first hurdle collecting:
i) Personal Background – Better pass. Criminal records are a “no-no”
ii) Resumes – All business owners and shareholders are to submit a resume.
iii) Business Plan – All loan programs require a sound business plan to be submitted with the loan application. The business plan should include a complete set of projected financial statements, including profit and loss, cash flow and a balance sheet. These must meet their requirements.
iv) Personal Credit Report – As discussed, must be above 680. Don’t like tax liens, judgements, bankruptcy’s, chargeoffs, or collections, business or otherwise.
v) Business credit Report – Do you even know what business credit is? Do you have any? Do you know what your Paydex score is?
vi) Income Tax Returns – Can’t take too much home or too little.
vii) Financial Statements – Balance sheets, profit and loss, business tax returns. Cannot take losses. Regardless of how much you want to write-off this can hurt you.
viii) Bank Statements – Be sure there aren’t any negative days, NSF’s. be sure your daily ending balance remain above 10% of gross deposits. Make sure you don’t have substantial swings in your business. SBA likes consistency. Seasonal businesses are left in the dust.
ix) Collateral – This is where they get ya’. Strong businesses can bypass this but more often then not your house is leveraged as collateral.
x) Legal Documents – Business lease, articles of incorporation, shareholder agreement, commercial leases, etc.
That’s just for starters.
3. Regulation makes it tough
Following the financial meltdown, demand for getting a small business loan declined substantially.
At the same time, lending standards tightened substantially.
Therefore businesses that DID see an opportunity to grow during the meltdown could not access the capital they needed because the FEDs locked it down.
According to the Office of the Comptroller of the Currency’s Survey of Credit Underwriting Practices, banks put a strangle hold on business lending standards in 2008, 2009, and 2010.
In 2011 and 2012, the noose around lending standards was let go…just a bit.
But as recovery really pushed forward the lending standards for small businesses continued to tighten.
All this despite the beginnings of the recovery.
These tightened standards were driven in part by increased scrutiny by regulators.
In the aftermath of the great recession, regulators started looking at small business loans more critically.
They demanded that banks raise the bar.
4. Personal Credit is key to approval
This is really a unique situation with the whole personal credit.
During the 2008-2011 debacle many people, but business owners in particular, were hit with huge financial losses.
The end result of this is that business owners personal credit took a big hit.
Many had their businesses personally guaranteed, they lost their house, or investors lost their IRA’s, pensions, and real estate was foreclosed on.
We’ve seen hundreds of credit reports that went from 750 to the high 500’s.
This doesn’t mean they have a bad business right?
So as the recovery continued, business owners were still stuck with this lower credit score due to that 3 year time period.
They’re still dealing with it today.
So when it comes to getting a small business loan at a traditional bank, history often precedes a business owners ability to access capital.
Take a look at average personal credit score over time broken down by age.
So what can you do to give yourself a better shot at getting approved for an SBA loan?
1. Make sure your credit is in a good spot. There are thousands of credit repair companies out there. We recommend National Credit Federation.
Not only do they have 1000 testimonials and millions of tradelines deleted. We own them. We take pride in out businesses 🙂
2. Make sure you understand what a real business plan is and how it should be structured.
We have some free content on how to piece that together here: http://venturycapital.com/writing-a-business-plan
3. Time in business is always a plus.
One way to capitalize on this is to understand your market. Just like anything else, markets shift and he who is most prepared to capitalize on that shift, wins.
Wait for a time of the year when you see a big push could be made. Even 12 months to 18 months is a big difference when it comes to qualifying.
4. Increase your sales.
I know that goes without saying, but remember the average SBA loan is $337,000. To qualify you better have some good sales on your books without losses.
Money for capital is key to your success.
Understanding what the business is going to do to qualify for a bank loan is also critical to your success.
The SBA is not a bank but rather a guarantor on the note that a bank issues. It ensures your notes are federally backed.
The ability to qualify for a small business loan is tough, but there ARE billions of dollars each year that qualify for these.
You’ll want to be sure to have all your “ducks in a row” before you go to your bank down the street. They will ask you for documentation.