In this article we will take a look at some of the top small business loan mistakes you can make. Small businesses have traditionally had a hard time accessing extra capital — i.e. through small business loans — from banks, big and small. And economic realities and forecasts dictate, generally, just how generous these institutions are at any given time.
Still, small businesses aren’t exactly being choked off entirely from getting approved. And the market has been improving for small businesses seeking loans. But in order to get a lender to take a flyer on your small business, it’s best not to make a rookie mistake on your way to getting that loan approval.
Don’t Make These Small Business Loan Mistakes
1. Maxing Out Credit Cards
Maxing out your credit limit is a bad idea if you hope to continue to get business financing. Piling up big expenses on your personal or business credit cards only leads to high interest payments.
And not being able to pay back your credit card bills will only serve to damage your personal and business credit score. That’s going to make it very difficult to ever find a real loan.
Relying heavily on credit cards for business funding can lead to a precarious financial situation. The high-interest rates associated with credit card debt can significantly increase the total amount owed, making it harder to maintain a healthy cash flow.
Small Business Deals
To avoid this trap, explore alternative financing options that offer lower interest rates and are more suited to long-term business needs, such as term loans or lines of credit from reputable lenders.
2. Ignoring Requests from the Lender
Be prepared when seeking extra capital for your business. During the loan application process, your prospective lender may ask you for a lot of information, some of which you may not have at the ready.
It’s best to be prepared for any questions your lender might ask and to avoid making them wait too long for your answer.
Failing to respond promptly to lenders’ requests can signal a lack of organization or commitment, potentially jeopardizing your loan application. To ensure a smooth process, organize all necessary documents in advance, including financial statements, tax returns, and business plans.
Set up a dedicated folder (physical or digital) for your loan application materials and check your communication channels regularly to respond to lender inquiries promptly.
3. Ignoring the Fine Print
You’re going to need to read the fine print on any loan offer you’re considering. Failing to read the fine print is one of the most common small business loan mistakes, and can prove very costly in the end.
Overlooking the details of your loan agreement can lead to unexpected obligations and costs. Before signing any agreement, review it carefully with a financial advisor or legal counsel to understand all terms and conditions, including interest rates, repayment schedule, fees, and any clauses that could affect your business operation.
Being fully informed will help you make better financial decisions and avoid surprises down the line.
4. Borrowing to Have More Cash on Hand
If you’re serious about acquiring a small business loan, know that this should not be just for the purposes of having a safety net. Having a large sum sitting in the bank could be tempting.
Frivolous spending could quickly drain your funds and make any initial goals you had for utilizing that money unattainable.
Taking out a loan without a specific purpose can lead to inefficient use of funds and difficulty in repayment. Before applying for a loan, clearly identify why you need the funds and how they will be used to grow your business or improve its financial health.
This strategic approach ensures that you are borrowing for the right reasons and can demonstrate to lenders how the loan will contribute to your business’s success.
5. Failing to Shop Around
Apply the same intensity to your small business loan search as you would to searching for the right vendor or the perfect product. Shopping around gives you the opportunity to compare available offers. Who’s offering the most competitive interest rate? Who has the best terms?
There are more lenders available to small businesses these days, and not all are created equal. Failing to shop around is doing your small business a disservice.
Not comparing loan offers can result in accepting terms that are not the most favorable for your business. Dedicate time to research and compare different lending options, including interest rates, loan terms, and lender reputation.
Utilize online platforms and financial tools that allow you to compare multiple lenders simultaneously to find the best fit for your business needs.
6. Missing Payments
Not only will late payments look bad with your lender. They will begin to accrue penalties and fees. Soon, the payments you’ll be making on your loan will start multiplying.
And of course, failing to make loan payments on time could hamper any prospects of your business gaining access to extra capital in the future.
Late or missed payments can severely impact your credit score and your relationship with lenders. To avoid this, implement a robust financial management system that includes regular monitoring of your cash flow and setting up automatic payments for your loan obligations.
If you anticipate difficulties in making a payment, communicate with your lender as early as possible to explore potential solutions or adjustments to your repayment plan.
7. Letting Personal Credit Scores Drop
Getting your small business a loan and maintaining a good business credit score are both certainly important. But don’t let your personal credit score get damaged in the meantime. Using personal money to meet business expenses could damage your personal credit score in the process.
If you’re allowing your personal score to dip while applying for a small business loan, it could hurt your ability to get approved or to getting an ideal loan offer.
Maintaining a strong personal credit score is crucial, especially for small business owners whose personal and business finances are closely linked. Regularly monitor your credit report for inaccuracies, make timely payments on all personal debts, and manage your credit utilization wisely.
Improving and maintaining a good personal credit score will enhance your eligibility for business financing and potentially secure better loan terms.
8. Not Knowing What You Want
Before you pick up a phone and call a bank or other lender or even set foot in a loan office, know what you want. Do some exhaustive searches on the Web to find what kinds of loans are available to your business
9. Seeking a Loan in an Emergency
Getting approved for a revolving line of credit now could save you from being forced to make a desperate application for a loan in the face of an emergency.
For instance, if your business property is severely damaged in a storm and you’re going to need thousands of dollars to replace the roof, it’s best to have ready access to a line of credit rather than going through the arduous process of applying for a loan — and risk not getting approved — while your business suffers.
A line of credit, approved before any potential disaster or emergency, would enable you to be ready to act immediately when faced with such a situation.
10. Having No Plan for the Money
First of all, the would-be lender is probably going to ask what the purpose of the loan is. And at that time — and definitely before then — you should have a clear answer and a concise plan for the loan money you’re seeking.
If it’s an expansion project, clearly detail the plan and present it to a prospective lender.
The lack of a plan will certainly leave your lender questioning whether to give you the loan at all.
11. Having High Turnover
If lenders investigate the stability of your company at the time you’re applying for a loan, seeing that turnover is high could send up the proverbial red flags.
Indeed, stability within your organization at the time of your application is a key factor to getting approved.
12. Keeping Messy Books
Accounting, especially for the smallest of small businesses, tends to be a task that gets put off too long. This leads to keeping slipshod records riddled with inaccuracies.
It’s hard to go into a bank seeking a loan if you don’t even know the true financial status of your company. If accounting is becoming too much of a chore, check out one of the newer cloud-based accounting apps that integrate with a lot of other tools you may already be using at your company.
If you can’t keep your current funds in order, your lender could have serious doubts about giving you more.
13. Having No End Game
Even if you’ve clearly demonstrated how you plan to spend the extra capital you’re seeking, a lender is going to be more inclined to approve that request if they’re confident the investment is going to a profitable effort.
In your loan application process, be sure to spell out how the loan will benefit your business and improve its financial standing. This will show you’re likely to be able to pay back the money you’re borrowing — and in a timely manner as well.
- Detailed Business Plan: A well-thought-out and detailed business plan that outlines exactly how the loan will be used, the expected return on investment, and how it aligns with the overall strategic goals of the business.
- Financial Projections: Detailed financial projections for at least the next three to five years, showing expected revenue, expenses, and net profit. This will help the lender to understand the potential profitability of your business.
- Clear Repayment Plan: A clear and realistic plan for repaying the loan, including the proposed repayment schedule, interest rates, and any collateral that will be used to secure the loan.
- Risk Assessment: An honest and thorough assessment of the potential risks involved in your business plan and how you plan to mitigate them. This will show the lender that you have thought carefully about the potential challenges your business may face and have a plan in place to address them.
Lenders want to see that their investment is going towards a profitable and sustainable business effort. When applying for a loan, be prepared to articulate not just how the funds will be used, but how this investment will contribute to the growth and financial health of your business.
Develop a detailed plan that includes how the loan will impact your business operations, expected financial outcomes, and a clear strategy for loan repayment.
This level of planning not only increases your chances of loan approval but also helps you to use the loan effectively to achieve your business goals.
14. Applying for Another Credit Card
Just as it’s a bad idea to gain funding by putting a big expense on an exiting business credit card, it’s also poor judgment to apply for a second credit card in lieu of getting a loan.
Maxing out a single personal or business credit card to cover large business expenses is bad enough. Getting another card and doing the same will put your business in even more financial difficulty.
15. Ignoring Alternative Lenders
Banks big and small are not the only sources of capital for small businesses these days. There’s a rise in the availability of small business capital from so-called alternative lenders, credit unions, and online lending sources.
There are a growing number of these sources and many target small businesses specifically. Of course, you will want to thoroughly check their reputations and the terms of the loans they are offering before saying yes.
Top Small Business Loan Mistakes Summary
|Small Business Loan Mistake
|Maxing Out Credit Cards
|Piling up expenses on personal or business credit cards leads to high interest payments and damages your credit score, making it difficult to find a real loan.
|Ignoring Requests from the Lender
|Not being prepared with the information the lender may ask during the loan application process and making them wait too long for your answer.
|Ignoring the Fine Print
|Failing to read the fine print on a loan offer can prove very costly in the end.
|Borrowing to Have More Cash on Hand
|Acquiring a loan just for the purposes of having a safety net can lead to frivolous spending, making initial goals unattainable.
|Failing to Shop Around
|Not comparing available offers from different lenders and accepting a loan with non-competitive interest rate and terms.
|Late payments accrue penalties and fees, hampering access to extra capital in the future.
|Letting Personal Credit Scores Drop
|Using personal money for business expenses damages your personal credit score, hurting your ability to get approved for a loan or getting an ideal loan offer.
|Not Knowing What You Want
|Not doing proper research on the types of loans available before contacting a bank or other lender.
|Seeking a Loan in an Emergency
|Making a desperate application for a loan during an emergency rather than having ready access to a line of credit.
|Having No Plan for the Money
|Not having a clear and concise plan for the loan money when asked by the lender.
|Having High Turnover
|High turnover in your company at the time of application sends red flags to the lender about the stability of your business.
|Keeping Messy Books
|Keeping slipshod accounting records filled with inaccuracies makes it hard to know the true financial status of your company and creates doubts for the lender.
|Having No End Game
|Not demonstrating how the loan will benefit your business and improve its financial standing makes the lender less inclined to approve the request.
|Applying for Another Credit Card
|Applying for a second credit card in lieu of getting a loan puts your business in more financial difficulty.
|Ignoring Alternative Lenders
|Not considering alternative lenders, credit unions, and online lending sources despite the rise in the availability of small business capital from these sources.
Broken Pencil Background Photo via Shutterstock