For most entrepreneurs, cash flow is a concern. Until your business starts turning a profit and growing, it can be tricky to manage all your expenses. Even when your business is doing well, there may be times when you need some additional funds to expand or take advantage of new opportunities.
When you need money for your business, your first instinct might be to head to the bank and apply for a loan. Although this has proven to be a smart move for many business owners, and there are programs in place for all types of businesses, there are some things that you need to know before you begin the process of applying for a loan. If you go in unprepared, you may be in for an unpleasant surprise.
1. Prepare to Provide a Lot of Paperwork
Since the Great Recession, banks have become a lot more selective when it comes to lending money. This doesn’t mean that you won’t get a loan if you’re financial background is less than perfect, but it does mean that you are going to have to supply a lot of information and paperwork to the lender in order to get approved. Not only will you need to provide a business plan that outlines how you will use and repay the money, but you can also expect to supply copies of cash flow statement, profit and loss reports, balance sheets, and other documentation to demonstrate your creditworthiness and ability to repay the loan. Because gathering and reviewing all this paperwork takes time, it might be several weeks before you have an answer on your application — and there will probably be times when you think you’ve turned everything in, only to receive another request for additional documents.
2. Your Personal Finances Matter
Because banks want to have a complete picture of your financial picture before they hand over the cash, you’re most likely going to have to supply information about your personal finances as well as your business finances. The bank is likely to run a credit check on you personally, as well as the business, and also request copies of your tax returns and information on all of your assets and liabilities. Again, a less than perfect personal financial history is not going to disqualify you from getting a loan, but it could affect how much you get and your interest rate.
3. You May Need to Make a Personal Guarantee
Some banks will only grant you a loan if you provide a guarantee via collateral — such as your home. That way, if you default on the loan, the bank can seize your assets as repayment. Because there is some risk inherent in personal guarantees, you need to proceed carefully.
4. The Bank Will Tell You How You Can Use the Money
When you borrow money from a bank for your business, there are limits on how you can use that cash. You can only spend it for the purpose for which you applied. In other words, if you took out a loan to purchase equipment, you cannot use that money to pay staff salaries. You need to apply for the specific type of loan you need, whether that’s equipment, real estate, working capital, or other expenses.
5. The Rules Are Fluid
Unlike other types of financing, such as credit cards, that have hard and fast rules about credit history, debt-to-income ratio, and income that determine whether you qualify, business loans do not have those same rules. Banks have the ability to look at applications individually, and evaluate all of the factors before making a decision. Being strong in one area can offset a weakness in another; at the same time, several weaknesses can’t be overlooked because you have some strengths. Be prepared to explain your finances and make your case.
6. You Have Alternatives
Finally, the bank isn’t your only option for securing cash for your business. There are a number of alternative financing options that may be a better fit for your situation. Invoice factoring, for example, can solve short term cash flow problems quickly, and often more inexpensively than a bank loan. Before you jump through bank hoops or incur unnecessary costs and headaches, explore other options and weigh them against a traditional loan.
Securing financing for your business can be a stressful process, but if you’re armed with information and know what to expect, it doesn’t have to be. Do your homework, and get the money you need without surprises.