When it comes to applying for a business loan, there are many factors that lenders consider in order to determine the borrower’s creditworthiness and the risk associated with lending them money. These criteria, or requirements, are used to assess the borrower’s ability to repay the loan and the likelihood that the loan will be repaid on time.

Here are 8 important criteria that lenders generally assess when evaluating a business loan application:

1. Credit history and score

Credit history and score are important factors that lenders consider when evaluating a business loan application. Credit history refers to the borrower’s past credit activity, including their credit accounts, payment history, and any bankruptcies or liens.

Credit score, on the other hand, is a numerical representation of a borrower’s creditworthiness based on their credit history. It is typically calculated using a formula that takes into account various factors such as payment history, amount of debt, and length of credit history.

A strong credit history and a high credit score can increase the chances of loan approval, as they demonstrate the borrower’s financial responsibility and ability to repay the loan. On the other hand, a low credit score or a history of late or missed payments may make it more difficult to secure a loan.

2. Business financials

Business financials refer to the financial statements and tax returns of a business, and they provide a snapshot of the business’s financial health and stability.

When evaluating a business loan application, lenders will review the borrower’s business financials in order to understand the business’s income, expenses, profits, and debts. This helps lenders to determine the borrower’s ability to repay the loan and the risk associated with lending them money.

Business financials may include financial statements such as balance sheets, income statements, and cash flow statements, as well as tax returns. It is important for borrowers to have accurate and up-to-date business financials in order to increase their chances of loan approval.

3. Business plan

A business plan is a document that outlines the borrower’s vision for their business and includes details on the products or services being offered, the target market, and the marketing and sales strategies being used.

When evaluating a business loan application, lenders will review the borrower’s business plan to ensure that it is well-written, realistic, and feasible. A strong business plan demonstrates the borrower’s understanding of their market and industry, and it shows that they have a clear strategy for achieving their business goals.

A business plan may also include financial projections, which estimate the future financial performance of the business. These projections can help lenders to determine the borrower’s ability to repay the loan and the risk associated with lending them money. It is important for borrowers to spend time developing a comprehensive and well-written business plan in order to increase their chances of loan approval.

4. Collateral

Collateral is a type of security that lenders may require in order to secure a loan. It can be any type of assets, such as real estate, equipment, or inventory, that the borrower is willing to pledge as security for the loan.

In the event that the borrower is unable to repay the loan, the lender has the right to seize the collateral in order to recover the amount owed. Collateral can help to reduce the lender’s risk in lending money, as it provides the lender with a source of repayment if the borrower defaults on the loan. However, not all loans require collateral, and the amount of collateral required may vary depending on the lender and the type of loan being applied for.

It is important for borrowers to understand whether or not collateral is required for their loan and, if so, to have the necessary collateral available in order to increase their chances of loan approval.

Also Read: Applying for a loan for your small business: 6 things you need to know

5. Debt-to-income ratio

Debt-to-income ratio is a financial measure that compares the amount of debt that a borrower has to their income. It is calculated by dividing the borrower’s total monthly debt payments by their gross monthly income.

When evaluating a business loan application, lenders will consider the borrower’s debt-to-income ratio in order to assess the borrower’s ability to repay the loan and the risk associated with lending them money.

A high debt-to-income ratio may indicate that the borrower has too much debt and may not be able to afford to take on additional debt. This can make it more difficult for the borrower to secure a loan, as the lender may view them as a higher risk. On the other hand, a low debt-to-income ratio may increase the chances of loan approval, as it suggests that the borrower has sufficient income to cover their debt payments. It is important for borrowers to manage their debt-to-income ratio carefully in order to increase their chances of loan approval.

6. Industry and market conditions

Industry and market conditions refer to the economic environment in which the borrower’s business operates. When evaluating a business loan application, lenders will consider the industry and market conditions in order to assess the risk associated with lending money to the borrower.

A stable and growing industry may increase the chances of loan approval, as it suggests that the borrower’s business is likely to be successful and able to generate sufficient income to repay the loan. On the other hand, a declining industry may make it more difficult to secure a loan, as it indicates that the borrower’s business may face challenges and may have a harder time generating sufficient income to repay the loan.

It is important for borrowers to be aware of the industry and market conditions in which their business operates and to be prepared to address any potential challenges in their loan application.

7. Time in business

Time in business refers to the length of time that the borrower’s business has been in operation. When evaluating a business loan application, lenders may consider the borrower’s time in business as a factor in determining their creditworthiness and the risk associated with lending them money.

A business that has been in operation for a longer period of time may be seen as more stable and creditworthy than a newer business. This is because a business that has been in operation for a longer period of time is more likely to have a proven track record of success and is more likely to have established relationships with customers and suppliers. On the other hand, a newer business may be seen as riskier, as it may have less of a track record and may be less established in the market.

It is important for borrowers to consider the time in business when applying for a loan, as it can impact their chances of loan approval.

8. Personal guarantees

Personal guarantees are a type of financial commitment that may be required by lenders when evaluating a business loan application. Personal guarantees are made by the borrower or other individuals involved in the business, and they state that the borrower and/or other individuals are personally responsible for repaying the loan if the business is unable to do so.

Personal guarantees can help to reduce the lender’s risk in lending money, as they provide the lender with an additional source of repayment in the event that the borrower defaults on the loan. However, personal guarantees can also be risky for the borrower, as they put the borrower’s personal assets, such as their home or car, at risk if the loan is not repaid.

It is important for borrowers to understand whether or not personal guarantees are required for their loan and to carefully consider the potential risks and consequences before agreeing to provide personal guarantees.

Conclusion

In conclusion, there are many factors that lenders consider when evaluating a business loan application. It is important for borrowers to understand these criteria and to do their best to meet them in order to increase their chances of loan approval.

By demonstrating a strong credit history, solid business financials, a realistic business plan, and a commitment to repaying the loan, borrowers can increase their chances of securing the funding they need to grow and succeed.