Today, many business loan applications are done online instead of in-person, but business owners still make the same most common mistakes—like poor preparation, misunderstanding loan terms, failing to shop around, and others. Here are some tips for avoiding each of the most common application mistakes.
What you need to know
- Before applying for a business loan, gather all necessary documentation, compare loan offers from different lenders, and ensure you have the cash flow to repay the loan.
- Clarify business loan terms and conditions. Ask your lender any questions you have on those.
- Repay all debts on-time to maintain your business and personal credit scores, as both are important for getting approved for loans.
Business loan application mistake #1: Poor credit management
While eligibility varies by lender, evaluating your credit scores is usually part of the underwriting process. Most lenders require a minimum business credit score, but they’ll probably also check your personal credit score—even if it’s not listed as a requirement. If you mismanage either credit score, your application may be rejected. You can’t rely on your cash flow to compensate for poor credit.
How to avoid this mistake
Build business credit over time by repaying debts—like credit cards, lines of credit, and loans—on time. When you apply for a loan, lenders want to see a low debt-to-income ratio, so avoid taking on loans you can’t pay off.
Business loan application mistake #2: Inadequate documentation
Lenders require information about you and your company, including legal identification. Most will also want to see at least three years of financial records. Formally submitting incomplete or inaccurate documentation can jeopardize your loan approval, for example if your reported finances don’t match your tax reporting.
How to avoid this mistake
Check what documentation is required before applying. Double check that all your documents are complete and accurate to avoid delays and discrepancies, and to ensure that you meet the loan requirements.
Business loan application mistake #3: Misunderstanding loan terms and language
One of the more costly mistakes when applying for a loan is assuming you know the meaning of unfamiliar terms. This can cost your business when it comes to interest rates, APR versus APY, various fees, and amortization schedules.
How to avoid this mistake
Ask for help. Find good quality sources to learn about loan terminology, and hire an accountant or bookkeeper to teach you how different agreements will play out financially. If you have a specific question, you can also simply ask your lender.
Business loan application mistake #4: Inaccurate cash flow forecasting
While debt financing can be very helpful for your business, it’s still debt, and applying for more debt than you need can cause cash flow problems like overspending. Repayments will be more expensive or repayment terms may be longer. Having excess debt will also appear on your business credit report, which can make it harder to attract future investors or get approved for future loans.
How to avoid this mistake
Create a budget to determine how much you need from a loan—your application is also more likely to get approved if you show exactly how you’ll use the money. Adding a large cushion for unforeseen expenses may suggest you’ll mismanage the funds.
Business loan application mistake #5: Overestimating your ability to repay
Either by adversely impacting your cash flow or forcing you to default, applying for a loan without a repayment strategy can be potentially fatal for your business. Don’t assume that investing the money you borrow will produce the return you need to pay it back.
Some business owners looking to avoid defaulting will also engage in the dangerous practice of loan stacking. You can avoid this by only applying for loans you can comfortably repay.
How to avoid this mistake
When going over terms of a loan, realistically assess your ability to repay it. Taking on debt is a risk, but you can mitigate that risk by not relying on projected revenue to repay it—ideally, only accept loans you can repay with current cash flow.
Business loan application mistake #6: Failing to shop around
Don’t just look for loans at traditional banks—the Small Business Administration, credit unions, and other financial services providers also offer business loans. Terms and conditions vary from lender to lender, but most business loans broadly function the same way.
Settling for a needlessly expensive loan because you missed a more cost-effective one can just as easily damage your cash flow as any other mistake on this list.
How to avoid this mistake
To get the best loan terms, compare multiple potential loan offers, preferably with an accountant or bookkeeper. Lenders that aren’t traditional banks may offer loans specific to your industry.
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