From startups looking for funding to mature companies that need working capital, small businesses apply for loans for a variety of reasons. Since banks make their bread and butter off of providing money for small businesses, they don’t do so without carefully evaluating the company to determine if the loan can be paid back. When deciding to approve a loan application, banks typically go through a checklist they use to judge a company’s ability to pay back the loan.
To accurately ascertain whether the business qualifies for the loan, banks generally refer to the six “C’s” of lending: character, capacity, capital, collateral, conditions and credit score. While these do not constitute the entire basis by which banks make their final decisions, they provide a solid guide for what small-business owners can focus on when applying for a loan.
Here are the six “C’s” lenders look for when evaluating a potential borrower:
Lenders look for qualities in the borrower that can tell them a lot about their ability to repay the loan, and first impressions can really make a difference. Characteristics like your educational history, business background and familiarity with your industry all play a key role in whether your application will be approved. Other factors such as stability, how long you’ve lived at or operated out of your current address, will also factor into the lender’s decision.
Perhaps the most important factor lenders consider when deciding to approve a loan is the company’s capacity to repay it. By comparing your past history of debt repayments as well as the current debt you might be carrying, lenders will determine your propensity to make payments on a regular basis. If the business you’re starting is still in the idea phase and not currently producing revenue, your chances of obtaining a loan may be diminished since you can’t show how you’ll repay it.
Lenders will often require borrowers to put up capital to secure a loan. It might seem counterintuitive to seek out a loan when you have capital, since it would mean you wouldn’t need additional funds. However, lenders want borrowers to have money invested in the loan as well. This makes it more likely that you’ll pay it back. Since lenders are taking a risk by loaning out money, they want to ensure the borrower is also assuming a portion of the risk as well. This helps even the playing field for both parties.
This is a little different from capital, but it works in the same vein. Lenders also want to make sure the borrower is taking a risk, so by putting up a guaranteed asset, such as real estate or property, the lender understands you’re serious about repaying the loan. Unlike some alternative lenders, National Funding does not want our borrowers to risk too much, which is why we offer no collateral business loans to all our borrowers.
Lenders will be interested in what your plans are for using the money. Is it a capital injection to keep the company afloat or is it a reinvestment to expand your current operations? Chances are, lenders will be more likely to approve the latter, since it shows more potential for repayment. However, all loan applications are different and each one lives and dies for a variety of reasons. Other conditional factors play a role though too, such as the conditions of the local or national economy, the financial health of the borrower’s industry and any competition the business faces in the marketplace.
- Credit score
Lenders all have different thresholds for what constitutes an appropriate credit score. Some want borrowers to have exemplary scores, while others are much more flexible in this aspect. In fact, many alternative lenders will approve a small-business loan even if the borrower has bad or no credit at all.