Avoid These Small Business Loan Mistakes

Sourcing affordable capital is crucial for starting a small business. But finding the ideal small business loan is challenging; even if you have good credit and solid credentials, you aren’t guaranteed approval. 

According to the 2022 Small Business Credit Survey by the Federal Reserve, around 54% of businesses needed financing but did not apply for a loan. Some of the reasons cited included weak business financials, lender requirements being too strict, and previous loan denials. 

Loan rejections can be a significant setback when sourcing small business financing. However, there are several things you can avoid to increase your chances of being approved. Here are some of the most common small business loan mistakes to avoid.

Rushing Through the Process

Any small business owner seeking a loan knows that the process can be daunting. There are endless forms and mountains of paperwork to wade through. It’s easy to get overwhelmed and simply accept the first loan offer. However, this is a big mistake. 

Rushing into a loan agreement without research can cost you in the long run. Instead, take the time to shop around and compare offers from different lenders. Pay attention to interest rates, repayment terms, and hidden fees or charges. Research can ensure you get the best possible deal on your small business loans.

Lying About Application Details

Lying on your loan application is a mistake that could come back to bite you later. Lenders typically verify the information you provide, and if they discover that you’ve been less than truthful, they may deem you ineligible for the loan. 

So while it may seem like a small omission at the time, it’s simply not worth the risk. Be honest on your loan application, and you’ll be more likely to get the financing you need.

Failing to Provide Financial Documentation

One of the most common mistakes small business owners make when applying for a loan is failing to provide financial documentation. Lenders typically require proof of income, tax returns, investments/assets, and revenue projections. Without this documentation, getting approval for a loan will be tough. 

By taking the time to gather all the necessary financial documentation, you can increase your chances of getting approved for a small business loan.

Asking for Too Little

Most lenders will only give you a fraction of the amount you request, so it’s essential to ask for slightly more than the exact number you need. Business.org has found that business owners only receive an average of 42% of the funds they request. But it’s also important to be realistic about your repayment ability before asking for too much. 

Lenders will want to see that you have a repayment plan in place that is achievable. If you’re asking for a too small loan, it may signal to the lender that you’re not serious about repaying the loan. On the other hand, asking for too much can make it seem like you’re not being realistic about your needs. 

The key is to find a medium between these two extremes. Caution towards the side of asking for too much. This way, you’ll give yourself the best chance of getting the full amount you need to grow your business.

Choosing the Wrong Loan Type for Your Business

Unfortunately, choosing the wrong loan type is a mistake that far too many small business owners make. The first step in avoiding this mistake is to educate yourself on the different types of loans available.

  • Secured Loans

A secured loan is backed by collateral, such as a home or a car. If you default on the loan, the lender has the right to seize the collateral to recoup their losses. Secured loans tend to have lower interest rates than unsecured ones, so they are often easier to qualify for. However, you risk losing your collateral if you can’t repay the loan.

  • Unsecured Loans

An unsecured loan is not backed by collateral and carries a higher interest rate than a secured loan. Unsecured loans can be more challenging to qualify for, but they don’t put your assets at risk if you default.

  • Short-Term Loans

A short-term loan is a loan that is typically repaid within one year. Short-term loans often have higher interest rates than long-term ones, but they can be a good option for businesses that need funding for a short period.

  • Long-Term Loans

A long-term loan is a loan that is typically repaid over two years or more. Long-term loans usually have lower interest rates than short-term loans, but they can be more difficult to qualify for.

  • Loans with Fixed Interest Rates

Fixed interest rate loans tend to be more expensive than loans with variable interest rates. However, they can offer peace of mind by protecting you from rising interest rates and helping you budget and forecast your financials more accurately. 

  • Loans with Variable Interest Rates 

These loans can be less expensive than loans with fixed interest rates. However, they can also become more expensive if interest rates rise.

Your loan type should be based on your business needs and goals. For example, a short-term loan may be the best option if you need funding for a short-term project. If you’re looking for a loan to help you finance the purchase of a new warehouse or materials handling equipment, a long-term loan may be a better option. 

It’s essential to carefully consider your options and choose the best loan type for your business. Make sure to compare interest rates, fees, and repayment terms before deciding.

Having  a Bad Personal Credit Score

Lenders will often take your personal credit score into account when considering your loan application, and a low score can make it challenging to get approved. Most long-term loans require a 640 minimum credit score.

You may also need to provide a personal guarantee to qualify for the loan, which means that you will be personally responsible for repaying the debt if your business cannot do so. 

Applying for a business loan is generally not advisable if you have poor personal credit. While it may be possible to get approved, the terms of the loan are likely to be very unfavorable, and you could end up putting your personal finances at risk.

Do Your Research to Secure Small Business Financing 

Educate yourself on which loan type is best for your business if you are looking for financing. Small business loans can be an immense help to ensure your business has its needs met, but be cautious and ensure it is the right loan for you.